economic cycles and the organizational and geographical attributes of global value chains: is the...

Economic Cycles and the Organizational and Geographical Attributes of Global Value Chains:

Is the Pendulum Changing Direction?

Theo NotteboomITMMA - University of Antwerp and Antwerp Maritime Academy

Jean-Paul RodrigueDepartment of Global Studies & Geography, Hofstra University

Maritime Transport in Value Chains WorkshopMontreal (Canada), June 10-12 2009

Content

1. Maritime Transportation, Trade and Finance in Flux

2. The Economic Crisis Unraveled

3. First Ramification: The Strategies of Shipping Lines and Terminal operators

4. Second and Third Ramifications: Added Value and Cargo Flows

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First, they ridicule you because your views portray something they cannot imagine. Then, they deny you because your scenario is said to be impossible. Finally, they hate you because you were right.

Paradigm Shift: When a Pendulum Becomes a Wrecking Ball

Growth of trafficInvestment and leverageAdded value capture and

expansion

Stabilization and decline of traffic

Defaults and deleveragingValue debasement

1 Maritime Transportation, Trade and Finance in Flux

Leverage Upside Down

• Finance and Maritime Shipping- Old relationship (e.g. Lloyd 1871).- Finance used to leverage the opportunities of

international transportation:• Providing capital and mitigating risk when needed.

- Relationship has become more acute and inverted:

• Transportation became a mean to leverage financial opportunities.

• Several unintended consequences.


The Complex and Perverse Role of Finance

Leveraging Deleveraging

Capital intensiveness

Intermodal transportation highly capital intensive (modes, terminals and equipment).Amortization over longer periods.

Overcapacity (compounded by economies of scale).Redundancy.

Financial firms involved in ownership and operations

Intermodal transportation as an investment class.Capital scale factor.Disintermediation (dumb money)

Lower returns.Consolidation?

Financing international transactions

Letters of credit.90% of international trade transactions.

Inventory stuck in transit (drop in demand and financing).More stringent conditions.

Shipping derivatives

Hedge against risk of fluctuations (rates, bunker prices, vessel prices, scrap prices, interest rates, and foreign exchange rates).

Unwinding positions in a frozen market.


Business Cycles: The Mess that Greenspan Made

Expansion Recession

Peak

Trough

Expansion

Credit-Driven Boom


Production of Durable Consumer Goods and Retail Sales, United States, 1990-

2009 (2002 = 100)


Content





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The Economic Crisis Unraveled

CAUSESCAUSESMonetary system Monetary system

(fractional reserve banking, (fractional reserve banking, fiat currencies)fiat currencies)

SYMPTOMSSYMPTOMSDebt, asset inflationDebt, asset inflation

CONSEQUENCESCONSEQUENCESMisallocations (bubbles)Misallocations (bubbles)

ProductionProduction ConsumptionConsumption DistributionDistribution

2 The Economic Crisis Unraveled

Blowing Bubbles: From Technology to Commodities

Tech / Stock Bubble Housing BubbleCommodities / Trade

Bubble


Impact of Recessions on Consumption, Production and Trade

Value of GoodsLow High

None

Significant

Decline

A – Basic GoodsB – Discretionary GoodsC – Durable GoodsD – Capital EquipmentE – Luxury Goods

ConsumptionConsumption

None

Significant

Decline

1 – Futures Indexes2 – Production3 – Container Volumes4 – Value of Trade

Trade and ProductionTrade and Production

SeveritySeverity

Sequence


Globalization 2000-2008: A Bubble?

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International Seaborne Trade and Exports of Goods, 1955-2007

Seaborne Trade (billions of tons of goods loaded)

Exports of Goods (trillions of current $US)


Impacts on World Trade

• Reconsideration of the export-oriented paradigm- Rebalancing of production, consumption and

distribution.

USA Germany Japan Mexico Taiwan Singapore

Annualized change in first-quarter GDP from fourth quarter of 2008

China

6.1%


YOY Changes of Total Exports, February 2009


Monthly Trade between China and the United States, Billions of USD (1985-

2009)

-30

-25

-20

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-10

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ExportsImportsBalance


Turbulent times for ports


Cars Accumulating at the Long Beach Port Terminal, December 2008


Empty Containers Piling, Hong Kong, February 2009


From a Credit Storm to a Macroeconomic Storm

Credit StormCredit StormCredit StormCredit Storm

Macroeconomic Macroeconomic StormStorm

Macroeconomic Macroeconomic StormStorm

Transactions and investments.Difficulty of clearing international trade transactions.Undue drop in freight volumes.

Decline in aggregate demand.Clearing excess capacity.


Container Shipping Volumes and Port Throughput

• Fooled by the bubble- Container shipping companies have been growing

rapidly for years.- Order of container ships with higher capacities.- Globalization:

• Widening the distance between production locations and consumer markets

• Demand for sea freight had been growing by double digits annually.

- Shipping companies assumed that this trend would endure into the foreseeable future.


Changes in Container Traffic at Some Major Ports, 2008-2009 (Preliminary)

Volume (M TEU, 2008)

Volume changes in 2009compared to the same months in 2008

Asia

Singapore 29.9 Jan+Feb 2009: -19.7%

Hong Kong 24.2 Jan+Feb 2009: -22%

Shanghai 27.9 Jan+Feb 2009: -19.7%

Europe

Rotterdam 10.8 January-March 2009: -15.8%

Antwerp 8.6 January-March 2009: -16.3%

Hamburg 9.7 January-March 2009: -24.3%

North America

New York 5.3 Jan+Feb 2009: -11.7%

Los Angeles 7.8 Jan+Feb 2009: -20.9%

Vancouver 2.5 Jan+Feb 2009: -21.5%

Montreal 1.5 Jan+Feb 2009: -15.5%


Port of Los Angeles (Monthly TEUs), 1995-2009: Falling Off a Cliff…


Source: based on data ESPO Rapid Exchange (about 50 ports)


European port volumes per month and commodity: container volumes hit hard

How serious is the throughput issue?The European case

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Exponential trendline total traffic

Till 1993: Fairly linear development of total container traffic

Since 1993: traffic path becomes exponential 2008: Stagnation

Estimate for 2009: - 7% à - 8% compared to 2008

Throughput gap of 15 million TEU (17%)nobody anticipated in early 2008

Setback of three to four years, if 2010 shows zero or moderate growth


Beware of Future Expectations: The Fallacies of Linear Thinking


World Container Traffic (1980-2008) and Possible Scenarios to 2015

Divergence

AdoptionAdoption AccelerationAcceleration Peak GrowthPeak Growth MaturityMaturity

1966-1992 1992-2002 2002-2008 2008 -

Reference

Depression


Container Traffic Handled by North American Ports, 1990-2008 and

Projections up to 2015


Container Traffic Handled by Selected East Coast Ports, 1990-2008 and

Projections up to 2015


Content





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First Ramification: The Strategies of Shipping Lines and Terminal operators

• Time to reconsider…- Business strategies:

• Shipping lines and terminal operators have tailored their business strategies under the premises of strong growth in container trade, fuelled by the globalization process and the large-scale adoption of the container.

- Pricing and investments:• The economic crisis seems to shake the fundamentals of

the pricing and investment strategy of shipping lines and terminal operators and their broader involvement in value chains.

3 First ramification

The Dynamics Driving the Liner Shipping Industry

• Liner shipping: An underperformer?- Underperformed financially compared to other

players in the logistics industries.- Capital-intensive and high risks. - Wide variability in cost bases.- Capacity tends to be added as additional loops.- Pressure is on to fill the ships with freight.- Negotiate long-term contracts with shippers.- Accept to take whatever price is offered in the

market.

3 First ramification – shipping lines

The Reaction of the Liner Shipping Industry to the Downturn

• Capacity deployment strategies- Until early 2008, shipyards still struggled to satisfy

demand for new and bigger ships.- Late 2008: order postponements, new building

cancellations and vessel lay-ups.- But ... total slot capacities in the market would

continue climbing until 2012.


Global Bulk and Container Fleet Partially Immobilized (Singapore, January 2009)

April 2009; 10.5% of the global container fleet idle (1.4 Million TEU)April 2009; 10.5% of the global container fleet idle (1.4 Million TEU)

TEU Range Number of Ships

7,500 and up 10

5,000 to 7,499 53

3,000 to 4,999 88

2,000 to 2,999 113

1,000 to 1,999 135

500 to 999 87

Total 486


Far East – Europe capacity situation

March 2009 October 2008 % change

Total no. of weekly services (North Europe/Med)

45(26/19)

64(36/28)

-30%

Total ships deployed 406 549 -26%

Average vessel size (TEU) 7310 6517 12%

Total capacity (TEU) 2.97 million 3.58 million -17%

Average weekly capacity (TEU)March 2009 vs. October 2008

319,301 405,901 -21%

Average weekly capacity (TEU)1Q 2009 vs. 4Q 2008

335,793 397,350 -15%



• Operations and routing- Many vessels continue to slow steam at around 19

knots, despite cheaper bunker prices.


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481.5 $4 January 2008

219.5 $19 January 2007

331 $5 May 2006

50.5 $11 December 1998

129 $3 December 2004

707 $18 July 2008

171 $26 December 2008


• Pricing strategies & rate erosion:- Not be much of an issue if changes in freight

prices had a major impact on demand.- Carriers cannot influence the size of the final

market.- Increase their short run market share by reducing

prices.- Shipping lines may reduce freight rates without

substantially affecting the underlying demand for container freight.


Base freight rate and bunker adjustment factor (BAF) for the maritime transport of one forty

foot container (FEU) from Shanghai to Antwerp

Typical freight rate (in USD) Typical BAF (in USD)Q1 2007 Q2 2008 September 2008February 2009April 2009

21001400700

250 (all in)550 (all in)

23512421440

--

Recent rate restorationis still vulnerable


Volume and Revenue per FEU, NOL, April 2008 – May 2009


• Historic proportions of adjustments- Number of vessels been taken out of service:

• Shipping lines may have not gone far enough to combat the situation.

- Redesigning liner service networks:• Rationalize services.• Cascade larger vessels to secondary trade routes.

- Consequences on vessel size:• Market may not see an increase in the maximum size for

the next five years.




• Towards a new market structure?- A wave of acquisitions and mergers appears inevitable in the

medium term, if the recession continues in 2010- Changes in the market:

• CMA CGM and Maersk increasingly cooperate on Asia-Europe trade. • MISC steps out of Grand Alliance (only two vessels)• Anti-cyclical capacity strategy of MSC

• Overcapacity situation will not be solved straight away, even if economy recovers

• Financial markets and the financing of ships (shipping derivatives)


Temporary Adjustment or Paradigm Shift?

• Unintended consequences- Some actions which, at first glance, have a

temporary character might have long-term effects on shipping.

- Rate restoration process might be undermined by shipping lines wanting to reverse their strategy.

- Rediscovery of the Cape route?• High Suez Canal fees, low vessel loading factors and high

insurance fees caused by piracy problems near Somalia.• Opportunity for ports in Sub-Saharan Africa to take up a

more prominent role in the world shipping networks.


Cape route versus Suez route

Suez Canal toll:13,000 TEU: USD 655,00010,000 TEU: USD 537,0008,000 TEU: USD 456,0006,000 TEU: USD 374,000

Cape route transit time: +5 to 7 days


Temporary Adjustment or Paradigm Shift?

• Review of business models- Carriers cannot assume that the market

conditions will get back to ‘normal’:• Have to cope with structural economic factors.• Covering the accumulated debt (paying it back or default)• Impact of higher unemployment on consumption.• Develop appropriate strategies to cope with different

potential scenarios.• Redeploy resources and equipment step by step.

- Larger companies:• Likely to expand their control of the market.• Reassess vertical integration strategies in the chain.

- Take over slots and terminals from smaller competitors.


The Dynamics Driving the Terminal Operating Business

• Confronted with bigger and fewer shipping lines demanding more for less.

• Growing demands (terminal productivity, priority servicing and flexibility, landside, etc..)

• Emergence of global terminal operators- Building of strongholds in selected ports.- Advanced know how on the construction and

management of container terminals.

3 First ramification – terminal operators


• Vertical integration- Extend control over the transport chain.- Hedging the risks by setting up dedicated terminal

joint ventures.- Long term contracts to shipping lines with gain

sharing clauses.- Integration of terminals in supply chains.



• Financial appeal- Scarcity of land for terminal development.- Excellent prospects for container growth.- High ROIs (in many cases 15% or more).- Banks, hedge funds, private equity groups and

investors entered the terminal business.

• The assumption of liquidity- Driver in the acquisition of port terminals.- Possible to rapidly sell terminal assets if needs be.- Can quickly turn to be illiquid if market conditions

change.


Dumb Money at Work?

Date Transaction Price compared to EBITD

2005 DP World takes over CSX World Terminals

14 times

Early 2006 PSA acquires a 20% stake in HPH 17 timesMid 2006 DP World acquires P&O Ports 19 timesMid 2006 Goldman Sachs Consortium acquires

ABP14.5 times

End 2006 AIG acquires P&O Ports North America 24 times

Early 2007 Ontario Teachers’ Pension Fund acquires OOIL Terminals

23.5 times

Mid 2007 RREEF acquires Maher Terminals 25 times

EBITDA = Earnings Before Interest, Taxes, Depreciation and Amortization


Reaction of the Terminal Operating Industry to the Downturn

• Stalling of vertical integration- From an hinterland strategy to seaport terminal

operations.- Reversal of direct involvement in barge services,

rail services and inland terminals?- In times of immense pressure on capital, terminal

operators give priority to their terminal investment programs.



• “Lost appeal”- Cash problems among many companies.- Fear for structural overcapacity in the market:

• Underutilization of terminals: on average only 60% utilization by 2013 based on the March 2009 forecasts, while the September 2008 still predicted 90%.

- Cancellation of or the delay in a number of capacity expansions plans.

- Overcapacity is expected to force down tariffs and undermine the ROI:

• Terminal business less interesting to financial firms.• Potential difficulties for financing of large terminal projects.

- Renegotiation of existing concession agreements inevitable?



• Revising terminal operations- Shift on the pressures on terminal resources:

• Stretching available resources to cope with the high growth in containerized cargo volumes no longer the case.

- A number of terminal operators are benefiting from this opportunity:

• Reorganize, update and consolidate their terminal operations.

• Temporary closures of parts of terminals for renovation purposes.


Content





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Changes in the Added Value Process: From Capture to Retention

• Shift in emphasis- From:

• Creation, capture or expansion of added value.

- To:• Strategies aiming a retaining what has been gained.

- Growing competition and lack of pricing power.- Spatially and functionally unequal rationalization

of supply chains.- Intermediary locations:

• In the past were able to extract value from freight flows in a context of enduring growth.

• Business model being compromised by a debasement of the process.

4 Second ramification


• Changes in the maritime / land interface- Pressures on leasing rates and demurrage:

• Maritime shipping and leasing companies see lower utilization levels of their containerized assets.

• Leasing terms could become more lenient.• Improvement in the flexibility of empty container

repositioning.

- Transloading:• Could be increasingly by-passed.• Loss of an added value activity at gateways.• Aditional opportunities may arise inland with a better

availability of maritime containers.



• The search for cargo- Could benefit inland locations:

• Value capture could further move inland.• Particularly at locations able to provide return cargo

instead of just empty containers to be repositioned.

- Selection of transport chains:• More a factor of total return for the shippers than

specifically servicing the needs of their customers.• Help redirect container flows towards gateways, corridors

and inland ports able to provide more balanced trade options.


Spatial (De)concentration of Cargo Flows

• An ad hoc reconfiguration- Decline in port traffic does not appear to be

related to size.- Reconfiguration:

• Shipping companies may face a more comprehensive review of their port calls and network configuration.

• Port pricing would play an important role in this reconfiguration.

• Larger ports and their more developed hinterland transport systems in better position.

• Increased geographical specialization of gateway ports vis-à-vis specific overseas maritime regions.

4 Third ramification

Container volumes in Europe (TEU): Q1 2009 vs Q1 2008

Atlanticrange

Hamburg-Le Havrerange

ScandinaviaBaltic

Mediterranean

UK / Ireland

Black Sea

Other

-19.3%

-18.5%

-11.4%

-10.2%

-20.3%

Does size matter ?

Top 5 ports in EU -17.1%Large ports (> 2 mln TEU) -17.4%Medium-sized ports (800,000-2mln TEU) -14.2%Small ports (< 0.8 mln TEU) -15.5%

North America Jan & Feb: -17.9%Mainports Asia Jan & Feb: -17.4%

Large differences, explained by foreland and hinterland focus of ports and strategies of market players:

e.g. Hamburg: -24.3% (impact Asia, Russia)Valencia: +6% (impact MSC)



• Port / Hinterland dichotomy- Hinterland is more flexible to handle volume

changes:• Less subject to economies of scale.• Can deal with a significant scale back while being able to

maintain a similar level of performance.

- Ports:• Volume handled is a strong factor in the productivity and

competitiveness of terminals.• Limited capability to handle the financial ramifications of

a drop in cargo volume (leverage).• Ports with captive hinterlands in proximity could have

more latitude.• Ports with more balanced traffic are likely to be less

impacted.



• Pricing power- Not entirely clear to what extent sustained

declines in traffic could be a factor of cargo concentration or deconcentration.

- Rent seeking behavior weakened:• Smaller ports could mitigate traffic pressures.• May not have been heavily involved in capital intensive

expansion projects

- Leverage undermines competitiveness.


Conclusions: Paradigm Shift in the Making

• Growing importance of financial considerations in maritime transportation.

• Pricing and investment strategy of shipping lines and terminal operators:- Dichotomy between integration and disintegration

within value chains.

• Added value creation process:- Reconciled with the debasement of value chains

through competition and efficiency improvements.

• Duality concentration / deconcentration:- In terms of ports, gateways and corridors.

Thank you for your attention [email protected]

[email protected]

economic cycles and the organizational and geographical attributes of global value chains: is the...

Documents

contentmaritime transportation

capital scale factor

bunker prices

vessel prices

scrap prices

risk of fluctuations

leverageadded value

economic cycles