The global macroeconomic uncertainty will continue to affect shipping
companies negatively, compounding an already volatile operating
environment. Oversupply in certain segments will also continue to exert
downward pressure on both charter rates and market values of vessels.
The past three years have been a challenging time for both shipping
companies and shipping financiers. The global financial crisis hit the
industry hard in 2008 and 2009 and despite a welcomed improvement in
2010, market conditions have rapidly deteriorated in the first nine
months of 2011.
This has been driven by significant oversupply of capacity and
uncertainty brought about by the sovereign debt crises in Europe and the
slowdown in growth of the US economy.
The shipping industry is characterized by its capital intensity, the
cyclical nature of charter rates (and thus asset values), and intense
competition. The long build period of new vessels also serves to
increase the volatility of the markets. As a result of the global
financial crisis, many banks and financial institutions have withdrawn
from ship financing.
Some sectors have made small recoveries, but the oversupply situation
continued to depress rates. Whilst many shipping companies (especially
the top names) continue to get support, other shipowners find it
difficult to finance their growth plans, particularly as banks struggle
to satisfy new capital requirements. With the Eurozone crisis showing no
signs of abating and the continuing likelihood of a new global
recession, the financing landscape will become even more challenging.
However, the crisis has provided a good opportunity for shipping
companies to strengthen their market position and strategically lock in
capacity at cyclical low rates. There are also new, innovative financing
structures that can help nurse shipping companies back to health.
However, the most widely adopted financing instrument remains
traditional asset-backed debt financing.
Senior loans
Senior secured loans are flexible and can be tailor-made to meet
shipowners’ requirements. During the previous shipping boom, there were
instances where certain financial institutions newly entering the market
were offering loans of up to 100% of the value of vessels, against a
more prudent loan-to-value (LTV) ratio of 60% to 70%.
Now, however, even some of the more specialist European banks that
have traditionally been very active are withdrawing as capital
constraints hit home. Only a few international banks and local banks are
still actively lending in this sector.
Junior loans
Certain shipowners may wish to limit the equity they put into a
financing and might seek a so-called ‘junior’ loan from a bank. The
junior loan provider will rank behind the senior lender (i.e. the senior
lender’s loan will be repaid first), and to compensate for this weaker
security position the junior lender will expect a higher return for its
loan.
Export credit
In the past few years, new structures have emerged that complement
the traditional senior loan structure. A prominent entrant has been the
use of export credit agencies (ECAs).
For example, a foreign shipowner buying a vessel from a Korean yard
can apply for a loan from Kexim (the Export Import Bank of Korea). This
loan, which will have a long tenor, will be attractively priced but will
limit the leverage the shipowner will require; traditionally, other
foreign banks work with the ECAs to fill the equity gap.
Chinese government support
An interesting extension of the ECAs has been the decision by the
Chinese government to support the country’s shipbuilding industry by
encouraging selected Chinese banks to work with foreign shipowners (they
will automatically try to support local owners) that have placed orders
in preferred Chinese yards.
These loans are not structured by way of ECA guidelines; rather, they
are done on a more open commercial basis. In these situations, Chinese
banks tend to work in tandem with foreign lenders. These structures have
enabled Chinese banks to gain a great deal of experience in structuring
and documenting ship finance loans.
KS structures and KG partnerships
Two other forms of finance that are directly related to specific
countries are KS structures, from Norway, and KG partnerships, from
Germany. The KS is a form of limited partnership whereby Norwegian
taxpayers can buy shares in a specific partnership established by an
experienced KS house, and that partnership provides some 30% of the
equity to acquire a vessel with the balance provided by an experienced
ship-financing bank.
Traditionally, the arranging firm will buy the vessel from a
shipowner on a sale and leaseback basis, by way of a bareboat charter,
so that the KS does not have to charter the vessels to third parties.
In Germany, KG houses initially followed a similar pattern, acquiring
partnership funds from German taxpayers to buy a specific vessel
(normally container vessels) with a charter to a German owner and debt
sourced from a German bank. The KG house, the arranger, would then run
the transaction and pay dividends to the investors. The high tax breaks
offered to the investors made the scheme initially very popular, to the
extent that vessels were ordered with debt sourced from German banks but
no actual employment fixed for the vessel at ordering.
Shipping assets
As mentioned, the vast majority of shipping transactions have been
senior secured financings and experience shows that in difficult markets
owners feel more comfortable with this type of financing. However, it
is necessary to highlight the complexities of the assets and the legal
issues that have grown in the past couple of decades. In shipping assets
today, there are 16 sectors and 60 subsectors, and any active financier
requires a good knowledge of these assets.
Leasing solutions
Financing vessels through operating or finance leases is another
option that shipowners and shipping lines should explore. Compared to
aircraft financing, where leases finance 33% of the global fleet, less
than 5% of vessels globally are financed through leases. Leases offer
significant advantage, including LTV of up to 100%, off balance sheet
treatment and the transference of residual risks to the lessor (for
operating leases). Sale and leaseback transactions also allow shipping
companies to release cash flows required to support their business or to
invest in their new build programmes.
Debt capital markets
Bond issuance is another financing option for shipping companies. In
most instances, smaller shipping companies target the high-yield bond
space, paying a relatively higher price to secure bond financing
compared to larger entities that will pay less. Capital markets, whether
debt or equity, are driven predominantly by sentiment and availability
is not a given quantity. Shipping companies that want to access these
markets will need time to correctly prepare well in advance so as to be
able to move fast when an opportunity arises.
Public equity
Equity remains a key source of financing for shipping companies and
by the use of public issuances, a large amount of equity capital can be
raised quickly to support growth and newbuild plans of shipping
companies. However, given the current adverse market conditions,
shipping companies may find it difficult to raise capital at the right
price today.
Other sources of financing
There are other sources of financing for shipping companies such as
mezzanine financing and private equity. Mezzanine finance has the
characteristics of both debt and equity financing. Shipping companies
can also potentially share capital upside in a project, thereby
increasing the overall cost to the borrower. Private equity, from
private investors, is the most expensive form of financing, with
investors demanding significantly higher returns, compared to
asset-backed lending.
The current state of the ship finance market
Lending in the ship finance sector grew with the global economic boom
of the past 15 years and the ordering of vessels across all sectors was
substantial. Standard Chartered estimates that in 2008, the volume of
ship lending grew to US$120 billion; however, since 2009 this has
declined considerably to probably half that total today.
With a global economic downturn, a lack of liquidity has meant a
difficult time for owners and yards. However, there has been a lot more
activity in the offshore sector since 2009. This has meant that banks
today prefer to do bilateral transactions or ‘club’ deals where a small
group of banks get together to finance their core clients.
For the shipowner, the club structure offers great advantages because
the owner gains access to a wider group of banks as opposed to working
with only one or two in an underwriting scenario.
Liquidity and the flight to quality
In 2010, there was a slight upturn in the ship finance market and
liquidity seemed to be back. However, even though liquidity returned, it
was limited to certain shipowners in a so-called ‘flight to quality’.
In other words, strong shipowners could expect to be approached by a
number of banks but ‘weaker’ ones would have a much reduced source of
liquidity available.
Now, because of the Eurozone crisis, even well established lenders in
this market are advising that they will not take on new business. This
is not good for owners or the remaining banks, as the banks need
partners to work with on the larger transactions.
The markets will continue to be turbulent in the near term and
financing will continue to be difficult to obtain for most shipowners.
However, by working with the right financial institutions, offering
financing alternatives, shipping companies can still access financing,
allowing them to acquire vessels at cyclically low rates.
Seafarertimes