Chief correspondent Jason Jiang discusses how prevailing market sentiment are changing scrap options for owners.
The continued pressures in the shipping markets have triggered significant supply side adjustments; the slowdown of ordering activities and strong demolition has seen fleet growth fall to its lowest level in more than a decade
Over the past 12 months, we have seen boxships as young as just seven sold for scrap and the average age of ships sent for demolition dropped to 23.4 years old in 2016, from 29.6 years old in 2011.
Could this protracted downturn – and some grim growth forecasts coming out lately – lead to permanently shorter lifespans for ships?
“With continuing tighter regulations along with more stringent safety and environmental standards it is likely that we will see an increasing number of younger vessels scrapped, especially if earnings are unable to support maintenance and ongoing compliance requirements,” says Adam Kent, a director at UK consulting firm Maritime Strategies International.
Navin Thakur, director at Drewry Maritime Research, reckons the decision to scrap a ship is invariably an economic decision whether arising out of unfavourable trading conditions, for example, low freight rates unable to cover debt payments and opex, or a stringent regulatory norm.
“In either case, it becomes economically unviable to operate a ship. Most of the recent demolitions of young vessels especially in the dry bulk market have been driven by the prolonged period of very low utilisation at unsustainable charter hire rates,” Thakur says, adding that the ratification of Ballast Water Management System (BWMS) convention last year by the IMO and setting September 2017 as its implementation date has hastened the process of sending uneconomical ships to the scrap yards.
The IMO requires BWMSs retrofitted on ships before the implementation date or the next special survey, whichever is later.
Thakur has seen many shipowners choosing to scrap the uneconomical vessels rather than spend an additional $1m-$3m for BWMS retrofitting in such a squeezed market, and he believes the market will see increased demolition across most of the bulk shipping sectors including dry bulk, tankers, LPG and general cargo vessels over the next five years.
“Having said that I would still stick my neck out and say that demolition at a young age is not a phenomenon that will stay forever,” Thakur says.
“When the market returns to the reasonable level of earnings, we will see a slowdown in demolitions and hence the average age of demolitions will go up. Shorter life spans of ships will put more pressure on cash flows of companies, which will require charter hire rates or earnings of the vessels to be significantly higher to make investments economically viable,” Thakur explains.
However, Thakur says, in the current scenario ship-financing, banks and financial institutions are not accepting 25-30 years as the average economic life of a ship, unless backed with a firm long term contract. Just a few years ago 25 years was still an acceptable economic life for bulk shipping vessels.
Tom Evans, director at VesselsValue also reckons low market earnings, the large newbuilding orderbook and ballast water treatment regulations have resulted in scrapping at an earlier age.
According to VesselsValue data, 2,328 vessels are scheduled to be delivered in 2017, the highest rate since 2012.
However, Evans sees the trend has reversed in the first half of 2017.
“Improved earnings sentiment in bulkers and containers resulted in firming secondhand values. For example, resale capes firmed by about 55% and 20 year old cape values have firmed by about 12%. This combined with scrap prices falling from $400 to $350 per ldt has resulted in reduced rates of scrapping and therefore an increase in the average age a vessel is scapped at. In tankers, the chartering market continues to be poor, with market values below 10 year historical averages which has resulted in the lifespan of a tankers reducing,” Evans says.
According to Evans, so far this year, the average age to scrap a vessel has increased compared to last year, now averaging 24.9 year old.
“In a depressed market, when rates come down, it is much more difficult for owners to keep their older vessels employed and to justify the expense of taking a vessel through fourth or fifth special surveys.
These later surveys tend to be more expensive since older vessels sometimes need extensive repairs, such as steel plate replacements,” says Erik Broekhuizen, head of tanker research at Poten & Partners.
Broekhuizen gives an example that in the mid-1980s, admittedly one of the worst tanker markets ever, five-year-old VLCCs were scrapped because their earnings were well below operating expenses and there was no improvement in sight.
“The only other time that a vessels’ lifespan could possibly be shortened is as a result of new regulations that are too expensive to comply with for older vessels. I don’t think that the upcoming regulations regarding ballast water treatment systems and the IMO low sulphur fuel requirements will trigger such accelerated scrapping, unless the freight market remains depressed,” Broekhuizen says.
Faidon Panagiotopoulos, a trader at cash buyer GMS Dubai, also agrees that the lifespan of the vessel largely depends on the charter rates. He expects that the pressure on charter rates in the tanker market will consequently affect the lifespan of tankers since it will be harder for the older tonnage to obtain good utilisation rates, while in the bulk sector, fundamentals have slightly improved in the first quarter of 2017 year-on-year, therefore, suggesting a longer lifespan for dry bulkers.
In the container sector, the first quarter of 2017 has seen very young ships sent for scrap. Chenjie Zhu, another trader at GMS Dubai, reckons this was mainly due to factors such as the oversupply that was caused partially by the collapse of Hanjin and the weak sentiment.
“Consolidation of major owners in the sector and excessive scrapping has led to healthier rates at the moment and slightly increased fleet utilisation recently,” Chen says.
“Overall, the BWM system implementation will influence the lifespan of vessels, making the owners’ decision to recycle easier but always subject to the charter rates of each segment. The volume increase in the repairs market observed in the first quarter of 2017 from vessels rushing in to pass surveys before September 2017 leads us to believe, that the majority of owners are aiming/hoping for longer lifespans,” Chen concludes.