Record Lows In Baltic Dry Index: Should Companies Consider Lay-Ups?

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Includes: DRYS, DSX, GOGL, NM, NMM, SALT, SB, SBLK, SFL
by: James Catlin

Summary

The Baltic Dry Index continues to tread water at historic lows.

Capesize charters are significantly under industry average OPEX.

Could laying up a vessel be preferred to accepting a loss-making charter given these current rates?

Drybulk shippers specialize in transporting cargos, typically commodities, such as iron ore, coal, grain and other materials around the world. Drybulk companies include but are not limited to DryShips (NASDAQ:DRYS), Diana Shipping, Inc. (NYSE:DSX), Golden Ocean Group Ltd. (NASDAQ:GOGL), Navios Maritime Holdings, Inc. (NYSE:NM), Navios Maritime Partners L.P. (NYSE:NMM), Scorpio Bulkers (NYSE:SALT), Safe Bulkers, Inc. (NYSE:SB), Star Bulk Carriers Corp. (NASDAQ:SBLK) and Ship Finance International Limited (NYSE:SFL).

As the Baltic Dry Index continues to struggle at record lows, it looks as if charter rates have finally become so bad that owners must now consider the option of laying up ships for the good of the balance sheet.

Back in November when I wrote: Baltic Dry Index Could Test Lows: Dry Bulk Shippers Continue To Suffer, in the comments section, while discussing catalysts for a rate floor, I stated that "it's more likely that a combination of idling and scrapping may happen."

I now believe that the combination of deteriorating rates and a troubling multi-year macro outlook must force companies to consider lay-ups. The reason is simple, given the projected cost of lay-ups vs. continuing operation, the math suggests that lay-ups will produce the smallest loss.

But first, a stark reminder of just how bad the situation is out there for companies. The Wall Street Journal reported that Emanuele Lauro, chief executive of Scorpio Bulkers, stated that "a lot of companies have gone under, and more will go under this year." He added, "we will go under if this market persists." Furthermore, he noted that "we rely on moving products like cement and steel. The grain-exports pickup will boost the market, but agro products alone [are] not enough, and this year I don't see any other drivers strong enough to push the market up."

With the number of Capesize vessels in the water exceeding demand by more than 50%, things are looking to stay bad for quite a while unless something drastic happens on the supply side.

Which brings us back to the supply side and the potential for lay-ups. Let's take a quick look at the math. Tradewinds recently confirmed that the cost for a cold lay-up is roughly $1,500 per day. This comes in line with 2011 pricing when International Shipcare stated that "on average the fully built up cost of lay-up is around US$1,500 per day."

Recenly Platts looked at figures for a warm lay-up which is "when the vessel drops anchor in a safe port and keeps the engines idling with the crew aboard, so it is able to swiftly return to service when market conditions improve. This typically cuts operating costs down to $2,500-$2,750/d."

Operating a Capesize for a voyage typically runs about $6,500-$7,500 per day. Remember these OPEX costs do NOT include financing costs. While the rate dip in February of 2015 brought spot rates below these OPEX costs they soon rose and in June rates were once again well above these levels. But this recent dip has gone deeper and longer than the previous decline. Capesize rates for some trans-Pacific routes have recently touched $2,000. Following 14 straight days of declines the BDI was unchanged in the latest day of trading but fear persists that it may even fall further.

So let's say you are lucky and able to get $3,000/day for a charter and your OPEX is only $6,500 and the ship is fully paid for. The math is quite simple in my mind. $1,500 loss/day to do a cold lay-up vs. an operating loss of $3,500/day to set sail. Even a warm lay-up would be preferable in this scenario.

A company like International Shipcare can lay-up a vessel and keep it maintained and ready for its eventual return to service. They state that "we have the capability to get ships back into service quickly should market conditions pick-up and the owner wish to access the improved earnings." So the flexibility to return to the market place is still available with very little delay.

Unfortunately, this means that ships will return to service once the lay-up costs exceed the difference between current rates-OPEX. Therefore, while this represents a potential for a rate floor, it is in no means a catalyst for a rate reversal or a solution to long term depressed rates. In fact, notice that it is possible for current rates-OPEX to still be negative, yet preferable to laying up.

Conclusion

As noted above, the very simple math suggests that laying-up in one form or another could be a viable option. I believe this course of action would be the most prudent for the market and now for individual companies wishing to preserve capital. If adopted on a large enough scale it could serve to establish a rate floor.

Furthermore, I see no reason for owners with troubled balance sheets to keep any ships older than 15 years of age. The average age at scrapping is 25 and the market is not set to rebound for quite some time. Holding on to loss making vessels for the coming years in the hope that the market may turn soon enough, and with enough magnitude, to make keeping these ships profitable overall from this point on is not really a viable strategy for companies already bleeding red and in a dire financial situation.

Therefore, I am expecting a wave of lay-ups, sales at greatly reduced prices, and an increase in scrapping for vessels in the 15-20 year age range going forward (and maybe even younger if they are Chinese). While there aren't many left following the high demo numbers in the first-half of 2015, they do exist, but perhaps not for long.

Update

As I was preparing to submit this article, Hellenic News cited a Reuters article that seemed to confirm that this exact scenario is in the early stages.

"It's a similar feeling to last week - there is still no sign of freight rates going up and there is a very limited volume of cargo. There is no sign of seeing more cargo," said a Shanghai capesize broker.

"A bottom in the market seems to have been reached by owners. Several have started to lay up or idle ships rather than trade them at a loss."

With capesize rates down to levels not seen since mid-1999, 40-50 capesize vessels have been idled in Asian waters, according to a Singapore-based capesize broker.

Belgian owner Bocimar, which operates 22 capesize ships to haul iron ore and coal, confirmed several capesize ships have been idled and it is considering scrapping older vessels.

Star Bulk and Zhejiang Ocean Shipping Co. (ZOSCO) are among around seven capesize owners who have anchored vessels, brokers said.

Capesize rates for a transpacific voyage are around $2,000 a day, the Singapore broker said. That compared with daily operating costs of about $7,300 per day, according to accountancy firm Moore Stephens.

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