Ocean Carriers Case Solutions

Report for Case #1: Ocean Carriers

Group A2: YANG Sixuan, XIE Yu, HUANG Yan, JIN Jian

Ocean Carriers is a shipping company that has offices both in New York and Hong Kong and provides capesize dry bulk carriers lease service mainly carried iron ore worldwide. Mostly focused on time charter market instead of spot hire market, its revenue is based on the daily hire rates, especially time charter rate.  

1. Do you expect daily spot hire rates to increase or decrease next year (2002)?

We assume that in 2001 and 2002, iron ore vessel shipments predicted in Exhibit 5 is reasonable and scrapping rate remain the same as the previous year. We estimate spot hire rate in 2001 based on the iron ore vessel shipments and spot rate in 2002 based on both iron ore vessel shipments and fleet size. (Because we can not calculate the scrapping rate in 2001).

Because worldwide iron ore vessel shipments and charter rates had been very strongly associated historically. From 1994 to 2000, when the number of iron ore vessel shipments goes up, charter rate also goes up, which means positively association. What’s more, spot hire and 3-year charter rate are positively correlated. Therefore, spot rate and iron ore vessel shipments move in the same direction every year. From 2000 to 2001, iron ore vessel shipment is estimated to decline, so spot hire rate will also decrease.

We estimate spot hire rate in 2002 based on iron ore vessel shipments and fleet size. According to Exhibit 5, in 2001, we predict that 436 million of deadweight tons of iron ore would need shipping and in 2002 the number will increase to 445 million and the fleet size in 2001 will be 612. The number of new vessels delivered in 2001 will be 63, but the fleet size worldwide only increase 60 vessels. It means that Exhibit 5 predicts that there would be 3 vessels scrapped, sank or not delivered successfully. So 60/63=Δ2001-2002/33, then solve Δ2001-2002, which equals to 31. Thus in 2002, we estimate iron ore shipment to be 612+31=643.

Then we calculate the growth rate of iron ore vessel shipments and fleet size in 2001-2002. Because the iron ore vessel shipments (supply) of 5.14% is higher than the fleet size (demand) of 2.06%, which means supply grows faster than demand. Thus daily spot hire rates will decrease.

Source: Ocean Carriers, Exhibit 3, 5, 6

2. What factors drive daily hire rates?

1. Supply

One factor that drives daily hire rates is the supply of shipment. Given the same amount of demand, less supply in the market means higher daily hire rates, vice versa.

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Scrapping is affected by the demand for shipment. When there is a strong demand for shipping capacity, the shipping company would try to keep capesize carriers for longer time instead of scrapping them because the revenue they make is more than the cost increased by the using time. The number of scrappings has been very small in recent years, which means demand is relatively high, thus the amount of supply is high.

Some improvements of new capesize carriers such as size and efficiency. If new technology makes ships larger, faster and more fuel efficient, given the same amount of cargo, the number of ships would get lower. There is fact that most of capacity of capesizes was young, which means the ships available now are relatively efficiently so the market may not need new ships that much. So the new ships delivered this year might be low recently.  

1. Demand

Another factor that drives daily hire rates is the demand of shipment. Assuming that other factors are constant, more demand encourages daily hire rates to go up, vice versa.

As over 85% of dry bulk capesizes ships iron ore and coal. When world economy has a tendency to rise up, production and demand for iron ore and coal also escalate, which stimulates demand of shipment by dry bulk capesizes, thus boosting daily hire rate. According to the historical data in Exhibit 5, iron ore vessel shipments and fleet size have positive correlation with charter rate, which proves this conclusion. Conversion of trade pattern and policy also drives demand of shipment. If a country changes the supply place of iron ore and coal to a distant one, especially needing to go through the Atlantic and Pacific Ocean, more capesizes would be needed.

When the market is optimistic, ship owners tend to lease the ship to time charters who can pay the high daily hire rate for a period, but charters tend to switch to the spot market to pay lower. Therefore, due to the loss of customer, the demand for time chart comes down and daily hire rates also decline.

1. Cost

In addition, the operating cost also affects supply of capesizes, which includes the expense on supplies and stores, maintenance cost, insurance fees, etc. If the maintenance gets more expensive and maintenance time gets longer, ship owners can be discouraged because their have to spend more and they don’t charge a daily rate during maintenance day thus no compensate at all. The increasing expense on supplies and stores and insurance fees add pressure on ship owners. Capital expenditure for special surveys is also important. If the international regulations are stricter and expenditure for survey increases, the shipping company will tend to order less ships, thus driving daily hire rates up.

1. Age of vessels company

The age of vessels also affects daily hire rates. If a shipping company’s vessels are newer and larger than the average level of market, the daily hire rate can be higher than the industry level. Exhibit 4 shows that daily hire rate goes down as the ships getting old.  

3. How would you characterize the long-term prospects of the capesize dry bulk industry?

From the case, we know that Linn took an optimistic view of the long-term market demand for capesizes because she believed that the the expand in Australian production and Indian exports would increase the demand. So we further process data in Exhibit 5 to see the growth rate of iron ore vessel shipments and average 3-year charter rate.