Ever since the market collapsed in 2008 and banks active in the shipping industry experienced heavy losses, many have been expecting a changing landscape (or is it seascape in this case?) in shipping finance. Shipping banks have traditional been financing traditional ship owners, and generally providing most of the funding to the industry, which stood close to $700 billion at the top of the market. The critical question always had been who else would consider providing capital to the industry, and at what terms.
The capital markets and private equity were the obvious candidates, but soon reality settled in: capital markets would not consider, if at all, any companies with lower than one-billion-dollars market value and a long-standing, legitimate corporate and operational presence. And, institutional investors and private equity funds soon discovered that there are many ways to lose money by investing in shipping, even when one gets the overall trend right (but generally, most got the trend wrong). At present, there is precious little interest by the capital markets and institutional investors to commit new capital in the shipping industry, which brings us back to the original question, where from and at what terms new money will find their way to shipping.
Having just traveled extensively in Europe recently and having held discussions with many players in the banking and finance, there seem to be some pattern formation for new norms of shipping finance; given that our firm may be involved in certain transactions and also given the fact that these conversations took place under the presumption of privacy, only on general terms and without ‘name dropping’, we can state our observations.
Sources of so-called alternative capital such as credit funds have kept popping up almost on a monthly basis; it’s hard to estimate their firepower as these are not regulated entities and do not have to provide any information; although several of such funds have stated their committed capital for marketing reasons, and thus an estimate of the overall total can be made, several of these funds are backed by brand-name bulge-bracket private equity funds (with “more money than God” as they say) that can provide more funding to these alternative capital funds on a project-by-project basis. Given that some of such funds intend to seek back-leverage (borrow against their portfolio once a certain amount of transactions have been placed), there is the potential for more liquidity, if and when such leverage is poured back into shipping. Upon belief and experience, we estimate that funding of appr. $30 billion has been committed to these funds, which again, as respectable number as this seems, it’s a far cry from the previous total capacity of the shipping bank market.
In general, these credit funds seem to congregate around two different clusters: funds that lend usually around 50% LTV (Loan-to-Value) and usually at appr. 5% above Libor (appr. 7% at today’s market). Usually these funds opt for as conservative debt financing as possible with select owners and select tonnage. There is another cluster of credit funds that opt for more exotic transactions and could lend as high as 80% LTV but at an interest rate of excess 8% spread. Typically these funds are more hands-on and can structure their financing in tranches, including senior and junior financing, or participate in structured financing transactions where they can take junior and subordinate positions. It would be little surprise that fees for such structuring are high (at least 2-3% at origination) and also there may be certain tight covenants, although vintage tonnage and spot market employment can be considered and can make up for the high financing cost. It would also come as no surprise that some of these funds mark-to-market their underlying fleet on a daily basis (indeed!), and when there is an LTV breach, the borrower better be prepared for a lengthy phone call to discuss additional equity contribution or an increase of the financing cost. And another caveat is that several of these credit funds have already established strategic relationships with vessel managers, so a take-over of the asset is not as remotely complicated as if a bank had to re-possess the asset. And, since some of these transactions are structured as leasing, taking over an asset can be legally expedient and smooth as compared to a vessel arrest.
As far as banks’ activity in shipping, there is a clear tendency to focus on corporate accounts or shipowners with proper corporate structure, and an orientation toward upcoming Basel IV, IFRS 16, and even the Poseidon Principles in terms of ESG (Environment, Society and Governance) when doing new business. While each bank seem to have their own business model, certain few shipowners (and, yes, private shipowners!) have been known to borrow at as low as 1.50% over Libor, while the majority of the traditional shipping banks still active in shipping seem to be in the 3.00% – 4.00% range (over Libor, always). And, amazingly, there seem to be intense competition among banks as they all focus on the few names that “check all the boxes” and are accounts that a bank has to have in their portfolio. For certain banks originating loans on behalf of their institutional investor partners, the financing cost tends to be closer to 5.00%, reflecting a higher cost of capital. And, it would come as no surprise that shipping banks focus on shipowners with solid business plans (i.e. access to cargoes or charters, etc) or critical mass (usually shipowners of fewer than twenty vessels are deemed non essential) or cross-product selling (private wealth management), start up shipowners and small shipowners are generally excluded from the traditional shipping banking system. The positive takeaway is that traditional shipping banks are not dead yet, and a great deal of them (including Greek shipping banks) are still active with new originations, albeit at a fraction of their previous activity.
Of course, there is still Chinese leasing and few more options for certain shipowners, but the shipping finance reality for the average shipowner is that of many choices but few real options. Unless you are a big corporate, you can choose any financier you wish as long as you are happy with approximately 10% cost of debt all in, more or less. And, the effects on the shipping market can be noticed on the periphery as smaller shipowners are forced out of the market, professional third-party vessel management becomes a viable option for many small owners, and the orderbook is relatively low. But, we already have mentioned before that the maritime landscape has been changing.
A similar version of this article was first published on the Maritime Executive on December 4th, 2019, under the title: "Shipping Finance Update: Many Choices, Few Options"