Chief Executive's Review
Our CEO Mats Berglund reports on our performance in 2015 and reflects on the Company's position and strategy
In 2015, dry bulk shipping suffered its weakest year since 1985 and we at Pacific Basin intensified our efforts to reduce costs and generate daily earnings that outperform the market. We made good progress on both and generated cash from our operations throughout the year.
The Group made a net loss of US$19 million (2014: US$285 million loss) and basic EPS on continuing operations was a negative HK7.5 cents.
Dry bulk spot market indices in 2015 fell to record lows in February and December, framing one of the worst years overall for dry bulk shipping. Spot rates were undermined by the significant reduction in Chinese imports of coal. However, solid growth was recorded in Chinese grain imports, and the minor bulk trades in which Pacific Basin is focused grew overall.
Deliveries of new vessels were largely offset by increased scrapping, resulting in reduced net growth in the global fleet. However, low fuel prices drove increased ship operating speeds in the third quarter, thus increasing effective shipping capacity.
We continued to leverage our business model to outperform the market indices.
We do this by optimal matching of our fleet and cargoes to maximise vessel utilisation. We generated average Handysize and Supramax daily TCE earnings of US$7,870 and US$9,170 per day net, outperforming the BHSI and BSI indices by 54% and 39% respectively. Our Handysize TCE premium of US$2,760 per day in 2015 exceeded our average premium achieved over the past five years.
We reduced our owned Handysize and Supramax vessel operating costs to a competitive US$4,210 and US$4,060 per day respectively through scale benefits and good cost control, while not compromising safety and maintenance. We implemented new accounting software and started to roll out new ship management software along with other initiatives to better manage our workflows and vessel operating and administrative expenses.
Our Ability to Outperform
Our average Handysize TCE premium over the past five years was US$2,650 per day per ship – a significant earnings advantage across our large fleet.
This premium is due to our high laden/low ballast ratio and therefore high utilisation, capitalising on:
- our experienced staff and global office network
- our large fleet of high-quality interchangeable ships
- our cargo contracts, relationships and direct interaction with end users
- a higher proportion of owned vessels facilitating greater control and minimising trading constraints
- the Handy segments’ versatile ships and diverse trades*
This premium differentiates Pacific Basin from many shipping companies and should underpin our market capitalisation.
Our TCE outperformance compared to market
* Ships’ cranes and cargo trading diversity are unique to the Handy dry bulk segments facilitating the ability to carry and combine many different cargo types. This cannot be replicated in the Capesize or Panamax segments whose trades are typically characterised by one-way laden transportation.
Towage & RoRo
We completed the disposal of most of our towage business in 2015. In December, we sold with forward delivery the two tugs and four barges remaining in Australia for US$2.8 million. The last chartered-in towage vessels have been redelivered to their owners. Our limited remaining towage activity is now solely situated in the Middle East where we are operating eight tugs and two barges in the oil and gas and construction sectors.
Our consolidated towage operations generated a profit of US$6.2 million including the effect of post-completion adjustments of previous transactions, and our remaining towage assets at 31 December 2015 had a net book value of US$36 million.
Since the year end, we have agreed to sell two of our Middle East tugs with completion in March at approximately book value and expect to generate cash proceeds of US$11 million.
Our sixth and final RoRo vessel delivered into Grimaldi’s ownership in August generating cash proceeds of around US$31 million and, as such, our exit from the RoRo sector is complete.
STRATEGY AND POSITION
Increased focus on Dry Bulk
Having divested and monetised substantially all our non-core activities, our capital and management are now fully focused on our core, world-leading Handysize and Supramax dry bulk business where we have a strong competitive edge.
In addition to generating cash, this focusing has contributed to a US$19 million reduction in our G&A expenses compared to 2014 despite growing our owned fleet.
Our dry bulk focus has enabled us to reduce the size and cost of our senior staff while maintaining depth and strength in our dry bulk management team. Our top ten people have been with the Company for an average of 14 years and in shipping for an average of 28 years.
We are increasing customer engagement and through our global office network we can connect and strategise with a larger number of customers at a local level.
We are always looking for smart ways to control and reduce our costs while not compromising on safety, training, care or customer service.
Expansion of our owned fleet
The high quality and well-designed ships that we committed to purchase at historically attractive prices primarily between late 2012 and early 2013 have all contributed positively to our cash flows even in the weak markets. Our high quality predominantly Japanese-built fleet of 99 ships (including newbuildings) is the best fleet we have ever had. Our ships are built with superior reliability, longevity and value retention.
Our increased focus on dry bulk
Market Developments Leading to the Current Challenging Environment
New dry bulk vessel deliveries started to slow in mid-2012 while cargo demand remained firm. From early 2013 to early 2014, demand growth outstripped net fleet growth to support stronger and more volatile freight rates. The oversupply of ships started to be absorbed due to good demand and continued slow ship operating speeds. Optimistic sentiment fuelled by brokers and private equity led to increased ship values and newbuilding orders in late 2013 and first half 2014.
While global fleet growth has continued to slow down as expected, the market saw negative demand side surprises – most notably the larger than expected reduction in China’s coal imports starting in mid-2014. This led to a reversal of sentiment by the end of 2014 with freight rates and secondhand values falling.
This market weakness was compounded in late 2014 and through 2015 by significantly lower fuel prices which supported increased ship operating speeds especially in the third quarter of 2015 – thus increasing effective shipping supply – despite historic low freight rates.
The negative sentiment has led to increased scrapping, cancellations and postponements of newbuildings and very little new ordering.
The current six year downturn since Q2 2010 has now lasted longer than the shipping bear markets of the 1970s and 1980s. The inflection point is difficult to forecast and will likely be triggered by a combination of unexpected market factors. However, few companies have the ability to outperform index rates the way we can, and so current market freight rates below industry operating cash costs are not sustainable. In this cyclical world of shipping, we expect scrapping and other self-correcting supply-side dynamics to lead to a healthier supply/demand balance in time.
Attracted by lower secondhand vessel values in late 2015, we returned to the sale and purchase market in October with the purchase (without borrowings) of a Japanese-built Handysize log/bulk carrier at a price that was still able to generate a positive cash contribution in the poor market at the year end.
We now own over 40% of the vessels in our dry bulk fleet, and operating more owned vessels facilitates greater control, quality and reliability of service delivery to our customers. It relieves us of trading, redelivery and speed constraints and, combined, these factors contribute further to our outperformance of market rates.
Fleet deployment developments
We achieved a significant turnaround in our Supramax performance, generating a positive US$23 million contribution compared to a US$15 million loss a year ago. We did this by focusing on key routes, significantly reducing our charter-in costs, and growing our global parcelling activity, which comprises commercially and operationally more demanding trades with which we supplement our traditional bulk-based activity.
Managing for continued weakness in the medium term
In this weak and uncertain market, and having invested significantly during the previous downturn in 2013, we are managing our business for a continued weak market in the medium term and are prioritising safety and staying power. However, we will also carefully consider further acquisition opportunities that may emerge at depressed prices and with which we could generate positive cash contributions even in the prevailing weak market conditions.
Historic low freight rates make it difficult for many shipowners to cover their vessels’ basic cash operating expenses. Furthermore, routine dry-dockings and the capital investment required to comply with new ballast water treatment regulations anticipated in 2017 (which most owners expect to be within the range of US$450,000 to US$650,000 per ship) represent an additional burden that will be unacceptable for some, thereby encouraging further scrapping. Market conditions are likely to drive some struggling shipowners to sell assets at record low prices, in which case stronger companies with access to capital and business models that generate positive cash flows even in today’s market conditions will be the only ones able to justify ship acquisitions.
Last June we issued a new US$125 million convertible bond maturing in 2021 to plan for known and expected convertible bond repayments in 2016.
During the year we bought back in the open market and cancelled US$104 million of convertible bonds due 2016. This retirement of part of the Company’s convertible debt at a discount to face value has generated a principal repayment and related coupon savings of US$2.3 million and reduced the outstanding convertible bonds due 2016 to US$105.6 million.
At 31 December 2015, we had cash and deposits of US$358 million and net borrowings of US$568 million. We also have US$375 million of committed but undrawn loan facilities which exceeds the US$274 million of remaining payments due on our 13 Japanese newbuildings still to deliver.
Our interest cover was 2.2X and we were in compliance with our bank covenants.
We have again been able to generate positive cash contributions from our vessels and outperform the weak market. Our net debt to net book value reduced from 40% to 35% during the year, and our TCE earnings, operating costs and G&A per day stand up well in benchmarking against our peers.
With experienced staff and a strong business model, we are well positioned to navigate this very weak market and to benefit from a cyclical upturn when it comes. We thank you for your continued support.
Chief Executive Officer
POSSIBLE MARKET DRIVERS IN THE MEDIUM TERM
- Low freight rates, costly dry-dockings and new ballast water treatment requirements encouraging increased ship scrapping and lay-up
- Weak market and reduced lending and investment leading to much less new ship ordering, more shipyard failures and significant deliveries shortfall
- Reduced commodity prices stimulating re-stocking and demand for dry bulk imports
- Continued strong Chinese demand for longhaul South American grain exports
- Higher fuel oil prices encouraging slower ship operating speeds which reduces supply
- New Chinese economic stimulus (including “One Belt, One Road”) supporting minor bulk trade growth
- Further reduction in Chinese industrial growth impacting demand for dry bulk shipping
- Slower economic growth and large stockpiles in the US
- Increased protectionism favouring domestic supplies over foreign imports
- Increased new ship ordering if subsidies support shipbuilding at loss-making prices
- Insufficient scrapping to offset new ship deliveries and weaker demand
- Continued low fuel prices supporting faster ship operating speeds which increases supply