Bringing profitability back into shipping

By Cassandra Mascarenhas

The shipping industry is one that has been fraught with many challenges and setbacks over the past several years, suffering from a highly unsustainable boom-to-bust cycle, overcapacity, increases in bunker prices, slow trade development and in addition to all these challenges and many more, is forced to operate at a time in which world economies have cut down on spending due to financial crises.

Only three shipping lines were able to record profits in 2012 and Maersk Line was one of them. A.P. Moller – Maersk Group Vice President Chinthaka Jayaweera, hosted by the MBA Alumni Association University of Colombo and sponsored by Scanwell Logistics, shared valuable insights into the shipping industry, highlighted its challenges and revealed how Maersk Line was able to turn around a $ 600 million loss in the first quarter of 2012 to a $ 451 million profit by the end of the same year.

Addressing a forum last week which focused on profit management in challenging times in the shipping industry, Jayaweera was then joined by Aitken Spence Maritime Chairman and Aitken Spence Director Dr. Parakrama Dissanayake and Shippers’ Academy Colombo CEO Rohan Masakorala for an active discussion which was moderated by Daily FT Editor Nisthar Cassim.

The A.P. Moller – Maersk Group

Former Country Manager for Maersk Logistics Sri Lanka and current Vice President of Fortune Global 500 company A.P. Moller – Maersk Group Chinthaka Jayaweera kicked off proceedings with a presentation titled ‘Profit management in challenging times in the shipping industry’.

“We are more than just Maersk Line,” he stated and went on to explain the conglomerate’s complete global operations which consists of four large world class businesses. The first is Maersk Line, the largest shipping carrier in the world which carried over 17 million containers in the previous year alone. The second is APM Terminals, the largest and leading port operator with 53 port terminals in 40 countries. The company handled 35 million TEUs last year.  

“In Sri Lanka, the A.P. Moller – Maersk Group is not well known for our energy business – oil exploration and production. It was started about 50 years ago in the North Sea in Denmark and we are known for converting marginal field investments into highly successful oil fields,” explained Jayaweera.

The fourth arm of the conglomerate is Maersk Drilling which specialises in harsh weather condition drilling and deep water drilling. “80% of our revenue comes from these four business lines.”

The organisation has also built up an opportunistic core consisting of companies such as Damco, Switzer, Maersk Tankers and Maersk Supply Service which complement the four main business lines.

Furthermore, the company has also branched out with several strategic investments including a supermarket chain that operates over 1,000 retail stores in Denmark, Sweden, Germany and Poland. As part of these strategic investments, the A.P. Moller – Maersk Group owns a 20% stake in Danske Bank.

Main challenges

However, keeping in line with the topic at hand, Jayaweera focused solely on Maersk Line. “At Maersk, we have a special DNA and we push boundaries all the time. We make the impossible possible and that is really necessary in an industry like shipping,” he noted.

“We have quite a lot of challenges right now and when you look at the industry, it’s not performing well. The industry lost $ 3 billion last year alone. Accumulated results from 2005 to 2012 show that the profit margin of the industry was a mere 1% and that is not sustainable. Over the same period, a $ 14.1 billion negative cash flow was recorded,” Jayaweera revealed, painting a dismal picture for the industry.

“Looking at these results, the industry certainly faces a big challenge as it has been destroying value over the past eight years. One of the biggest challenges faced is bunker prices – fuel prices have risen steadily, by 16% year-on-year, and today, the bunker price is the largest cost of any shipping line.”

He admitted that although the energy arm of the group benefits from these high fuel prices, the container shipping arm has really suffered as a result of it. The shipping industry is in this situation due to the current challenges in the global economy. Although trade development within the industry was very good in 2008, it plummeted to minus 30% in the following year and has not improved greatly since then.

He pointed out that in an asset heavy industry, it’s not easy to have such big fluctuations. Although there was a rebound in 2009 which led to world economies picking up the pace, that did not last very long as the developed world was going through a very tough time. European governments have been very strict about their spending following the initial financial crisis which led to the second recession and this has had a huge impact on the capital intensive shipping industry.

Cautiously optimistic

“We are cautiously optimistic. US markets are picking up but the EU will not move into positive growth at least until next year. Emerging markets are going through challenges as well and the growth of BRICS countries is not positive either. China’s growth, despite the government bringing in a lot of stimulus, has come down. It’s a mixed bag and while we expect markets to grow, it will be at a very slow pace. The industry therefore needs to manage volatility and get used to a period of slow growth over the following years,” Jayaweera asserted.

The shipping industry also ordered a lot of ships in good times leading to a boom to bust situation which is why the industry has not been able to create value over the last eight years. Furthermore, despite growth, prices have not been able to keep up with inflation for a number of years. Shipping lines have brought in many initiatives to manage prices but most of these savings have disappeared due to increases in bunker prices.

In addition to this, Jayaweera pointed out that supply of capacity continues to outpace demand. “Trade has grown by around 8% over the past 15 years which is fairly decent but capacity has grown by 11%. This again is a huge challenge. Right now, we don’t need new investments as we have too much capacity in the market.”

Maersk Line

Maersk Line believes that it has done better than the industry, Jayaweera acknowledged. At the beginning of 2012, Maersk Line was losing $ 9 million every day, resulting in a $ 600 million loss in the first quarter alone. Thereafter, profit improvement initiatives were brought in which paid off, allowing the company to achieve a profit of $ 451 million at the end of the year – an impressive turnaround.

“However, we have invested a lot of money and still record only a 4.9% ROI which we are not satisfied with. Shareholders expect an ROI of 10% to 12%, which means we need to do more.”

To bring about this turnaround, Maersk Line first focused on bringing down costs by working with suppliers and partners to reduce operational costs, engaged in slow steaming – bringing down the speed at which its ships travelled by two knots in order to cut down on bunker costs, the largest cost on the P&L. This also resulted in the burning of less fuel. Furthermore, the company started to offshore services to shared service centres and brought in standardisation efficiencies – all of which paid off.

Bringing down costs alone however, was not enough. Maersk Line next looked at managing capacity by slow steaming, idling some of its ships and scrapping old vessels.

“The freight trade has not increased prices and we had to charge the right prices for services. The Asia-Europe trade lane rates have come down to an extent where it is no longer sustainable. Customers need steady prices and consistency,” Jayaweera stressed.

Equally important is how carriers manage future capacity growth. The global order book peaked at 60% in 2006 but this has come down since then. “Right now, we are not ordering new ships as the industry does not need new ships due to overcapacity. It’s important to manage capacity, else you won’t be able to deliver a bottom line acceptable to shareholders.”

“There was a 9% influx of capacity last year but scrapping, slow steaming, and idling absorbed some of the excess capacity and will continue to do so.”

Generating customer value

While bringing in efficiencies and cost leadership strategies internally, it is also important for the group to generate customer value externally, Jayaweera noted. “As a business, we are focusing on reliability, customer care and environmental efficiency to deliver value to our customers.”

He stated that Maersk’s differentiator is its reliability and the company takes a lot of pride in the fact that it has been topping reliability consistently over the years at around 90% which bodes well for its customers as the more reliable a shipping line is, the less assets customers have tied up, which is good for the business.

Maersk Line also focuses heavily on ease of business. In a survey, customers globally have asked the company not to try to be different but instead to just be good. Therefore, Maersk Line has now come up with a customer charter and are trying to do the basics right.

Currently, the company takes around three hours to issue a booking confirmation which it is trying to bring down the two hours. Documentation takes around 12 hours with an accuracy rate of 92% which it is aiming to reduce to eight hours with an accuracy rate of 95%. Amendments take three hours now and the company is working towards bringing this down to an hour. The company is satisfied with its pre-arrival notification which is handled within 24 hours and is trying to maintain this.

However, Jayaweera stated that he was embarrassed with the company’s invoicing statistics which has an accuracy rate of 88%. “It’s an issue that the whole industry suffers from and it’s really important that Maersk addresses this. We aim to bring it up to 92% by the end of this year which still isn’t enough.”

Maersk hopes to bring down the time taken to process disputes of invoices from 9.6 days to seven days and aim to improve accessibility by answering calls from customers within 30 seconds and has implemented a global telecommunication system to streamline this. In terms of service recovery, the company hopes to bring the current time of response to customers with a reasonable solution from 54 hours to 12 hours.

“Environmental performance is very important to us. The shipping footprint is 3% of the global CO2 footprint. Having said that, we are the most energy efficient as well because we carry 90% of the world’s commodities, which results in the large CO2 footprint. We focus a lot on energy saving. Last year, with all our initiatives, we saved 2.1 million tons of CO2. That’s what Sri Lanka emits as a country for two months,” he stated.

“It’s good for the environment and for the business as it brings down energy costs. We aimed to reduce our CO2 footprint by 25% by 2020 – we achieved this target eight years ahead, in 2012 resulting in $ 1.6 billion of savings. We now aim to reach 40% CO2 reduction per TEU before 2020.”

The Triple-E

The Triple-E, the world’s largest ship, will set sail on 28 June. Commissioned by Maersk Line in 2009, the company has embedded sustainability in the vessel’s design. “We ordered 20 vessels and will receive six this year, nine in the following year and the last five in 2014. They are important because they will give Maersk economies of scale, help us gain on environmental performance and energy efficiency. Our strategy is to grow with the market in terms of capacity,” Jayaweera revealed.

The Triple-E is 400 metres long, 59 metres wide and 73 metres high and will be used on the Asia-Europe route. Each ship can carry 18,000 containers. “It is the energy efficiency that is important here. The hull design is unique, we have made improvements to the engine, have implemented a waste recovery system through which wasted heat will be reused and when the ship is to be scrapped, 95% of the vessel could be used to build another vessel. Most importantly, the Triple-E will be 50% more energy efficient than any other vessel on the Asia-Europe route.”

Shipping has contributed a lot to the world economy, Jayaweera pointed out. It is the heart of world trade and connects the world. “It is a very important industry and it is vital to be able to show a good performance. We are quite proud with what we have achieved as only three shipping lines made profits last year.”

“What drive us are our values. Constant care by actively preparing for tomorrow, we want to be humble and listen to our customers see what they want and see how we can fulfil expectations. We want to be upright – we want customers, suppliers, employees and regulatory bodies to trust us. Our employees really make the difference and we focus a lot on them, and finally our name – these are what have driven us for 109 years and will continue to drive us in time to come,” he concluded.

Envisioning futuristic demand

Aitken Spence Maritime Chairman Dr. Parakrama Dissanayake stressed on the importance of being able to envision futuristic demand in order to survive, not only in the shipping industry, but in any industry, drawing upon examples from across the board to drive his point home.

He stated that business organisations, whether state owned or privately owned, have two sides. One side is about supply, where companies think they are in control and can build capacity, ports, and ships. On the demand side, the most important thing is not only about creating and sustaining demand. The challenge being able to envision futuristic demand.

“Take the Nokia phone, where it was a few years ago and where it is now. Apple is now talking about a mobile device that is wearable, to compete with Samsung. The birth of containerisation occurred in the US. About 10 years ago, the two leading shipping lines in the world were Sea-Land and APL, both owned by US-based companies. Sea-Land perished altogether. APL was taken over,” he pointed out.

All these organisations were not able to envision the futuristic demand, Dissanayake stressed. The easiest thing is to build capacity, he added. Maersk’s Triple-E vessel can handle 18,200 TEUs, acknowledged, adding that Maersk paid $ 185 million per vessel. In comes China Shipping Container Lines, ordering five vessels at the cost of $ 135 million each.

“The benefit that Maersk was going to reap has been stifled in a sense because China Shipping Container Lines’ Triple-E vessels will be able to handle 18,400 TEUs, slightly bigger than the Maersk vessels but they will have a tremendous advantage when it comes to costs. The challenge is not about creating and sustaining demand but being able to read the future.

Dissanayake also feels that the demand for shipping and ports in Asia is under threat. The business model on which logistics, shipping and freight forwarding zoomed in Asia was on the basis of consumption taking place in the USA and Europe and manufacturing being outsourced and off-shored to Asia. Now, this model is under threat, he revealed.

“In March 2013, for the first time on the East-West trade lane, volumes dipped by 10%. It was driven by a slump but also a shift in the manufacturing. Manufacturing is going back to the rich countries and the reasons are many. I’m not talking about Google, Caterpillar and Ford Motors bringing back capacity to the USA. Apple is bringing back the Mac line to the USA. Lenovo, the largest Chinese PC manufacturer, is setting up shop in the USA. Infosys, an Indian based giant, is setting up offices in the USA. Airbus is building jets in Alabama. People thought the model was all about off-shoring but now the model is about re-shoring.”

“The need to envision futuristic demand is the challenge. Nokia and Sea-Land couldn’t read this and I hope that Maersk reads this scenario very well,” he stated somewhat ominously.

A shipper’s perspective

Shippers’ Academy Colombo CEO Rohan Masakorala shared a different view on manufacturing and the global environment. He noted that when he took over the Shippers’ Council in 1999, he made a public statement that the shipping industry would not sustain itself as it was doing so at the time and that it would become an oligopolistic industry in economic terms, and this has become a reality.

There are serious barriers to entry for newcomers, Masakorala observed, with shipping lines like Maersk taking over Sea-Land and other companies shrinking, but at the same time companies that were big have become bigger. “It is a market reality. I don’t think we should worry about that.”

“As Chinthaka showed, the world economy circle dropped, especially in 2008. Other than the oil industry, any other industry in the same era saw the same curve. That is the reality. I come from a manufacturing background and most of the manufacturing industries have gone through that curve and so I don’t think we should worry too much. We will come out of it and over the next two years, the situation will improve,” he opined.

“Maersk manages to hold onto its customers, which is where the money comes from at the end of the day. The important factor is service. Over the last 20 years in shipping, the supply chain has gotten so complicated. When I started in the industry, it was the shipping line, port and myself but since then freight forwarders, logistics providers and warehouse operators have come into the picture so part of the shipping lines’ profits have also gone into these areas of business,” Masakorala added.

“On the international scenario, about manufacturing going back to the USA, I feel that in turn, Asia will become a consumer market. If you look at the 2011 World Economic Forum’s forecast, 10% of the world’s middle-class is now in Asia. The forecast is that by 2030, 50% of the middle-class will be in Asia, driven by China, Indonesia and India. Shipping will move the other way around. The world might have a better equilibrium if Asia has a larger consumer society with a better bargaining and buying power, allowing goods to move both ways,” he pointed out.  

One of the most serious problems Masakorala said he has witnessed over the past 20 years is imbalance of trade because Asia has been manufacturing and shipping to Europe and the US and nothing comes back because Asia doesn’t have consumers.

“The consumer market development, as very clearly forecasted, shows that Asia and Africa will both see development. I feel it will be good for shipping if the world is more balanced.”

Pix by Lasantha Kumara