Shipping Finance – If Banks Are Gone For Good, What Next?

IMIF Buffet Luncheon

Date: Monday 18th February 2013

Venue: Quantum Shipping Services Ltd, Artillery House, 35 Artillery Lane, London, E1 7LP

Speakers: Alan McCarthy, Consultant, Eurofin Group

Shreyas Chipalkatty, Citi Group

Subject:  Alan McCarthy : “Shipping Finance – If Banks Are Gone For Good, What Next?”

Shreyas Chipalkatty : ‘What needs to change to make the sector bankable/financeable’

Report by James Brewer


buffet-luncheon-18th-february-2013Shipping is staggering along in its very unhappy market, said the chairman, Jim Davis, in his introduction. Nobody is putting anything into shipping. Where is the money going to come from? The banks are running scared, trying to get rid of their non-performing loans. “What is happening? In fact, a lot is happening and a lot is not happening.”

Our two speakers proceeded to outline the limited action there was, and ditto the lack of action.  As soon as they had delivered their perspectives, members of a rapt and record attendance of 46 pitched in their pennyworth, or should that be several billions of dollars-worth.  For it was clear that the ranks of the shipping banks, massively exposed to the maritime sector, will stay depleted for a considerable time.

Mr McCarthy, a long-time member of IMIF, who lends his expertise to the ship finance advisory group Eurofin, candidly said that he did not know the answer to the question that was posed, namely “Shipping Finance – If Banks Are Gone For Good, What Next?” He had been branded a banker basher, “and I do not make any great apologies for that.” Look at the fate of Irish property loans, Spanish property loans etc. “I do not think there is any reason why we should not keep in mind that major international banks will always try to get away with anything if they can.  It is also fair to say, having been involved in the shipping finance industry for several decades, that I do not apply that to shipping finance bankers. Generally speaking the people involved are experienced, knowledgeable and sensible…except the German banks that continue to finance KG companies, knowing that it [the KG system] was always going to go belly-up.”

That being said, let us not blame it all on the banks, urged Mr McCarthy. Ship owners themselves have been too ill-disciplined in some of their investments. “But that is shipping.  It is cyclical.” He went on: “The shipping cycle is going to turn.  It is inevitable, and right now we are beginning to see signs of it.” There was not so much money available for newbuildings, “which is great.” Another positive sign was that scrapping in 2013 would probably be at the same level as 2012.

There had been a systemic change – because of the financial problems, bank capital had been largely destroyed, and legislation was coming in which is going to make bank capital even more costly.

The potential contribution of other sources of finance for ship projects should not be overstated, warned Mr McCarthy. He joined the commentators who had poured cold water on private equity coming to the rescue. Why? The clue is in the name, private equity – that is, equity. They are not banks, they are not lenders, so private equity is not a substitute for finance.

His scepticism extended to the relevance of high yield bonds; and as to initial public offerings, ”there is always a difficult capital market.”

What about Chinese banks? They have done a lot of Chinese related business, replacing western banks, but should not readily be seen as underpinning western shipowners for western deals.

There are some banks left financing shipping – he counted four French and two German [the Bundesbank had a short while earlier commented on the over-exposure of German banks to shipping loans, and it had just been announced that Commerzbank is phasing out its ship finance and commercial real estate activities, under orders from the European Union].RBS is lending money to new and existing clients, on a drastically reduced capital base “… and so it goes on.”  Mr McCarthy said: “Some banks are lending little bits, on much shorter tenures of three to five years, and much higher spreads… but how do they lend to other industrial sectors – relatively short term, relatively short cycles. Some banks are still going to be there for the big deals.

“My big concern is that the financing door has pretty much been slammed shut on the backbone of the shipping industry. The shipping industry is still the most important industry in the world. This vital link in the global industrial chain is floundering at the moment because it does not have access to the vital loan capital.”

Mr Chipalkatty’s presence was a reminder that in July 2012 Citigroup agreed to buy a sizeable portion of  the shipping and offshore energy loan portfolio of Société Générale.

Mr Chipalkatty began by speaking of the banks’ earlier ability to source cheap money, not just for shipping but for real estate, project finance, aviation and so on. All these had a key characteristic, short term lending against an asset which is going to earn for a number of years beyond that facility.

The first thing that was now broken was the acceptance of risk by banks. Capital had gone to places where it was not returning the money, and the risk defeasance problems could not be addressed.  In shipping, you have security with the ship and that is an asset and as we know, assets have cyclical values.

As to what might replace bank finance, the bond market did not understand shipping which was such a small part of the capital market and did not want to put the effort into it.  In passing, Mr Chipalkatty said that the ratings agencies were working with methods that were six to seven years old in relation to shipping companies.

The core problem for the backbone, the small/medium enterprise class was, how do you refinance what was in the balance sheet between 2003 and 2007 because it was done cheaply, so asset values are way down. The result for that ‘backbone’ was that there was no alternative for the next five years than to get accustomed to the need for more and more expensive financing plans. People would have to give up some of the ownership upside. There is room for the larger companies to buy others and take out some of the smaller firms, but there is no money to consolidate, he said.

Risk defeasance and the ability to place risk were non-existent. A model that might be the future was for somebody to write a piece of insurance for what you might sustain on a first-loss basis. He foresaw a time horizon of five years to see some stability in the European financial situation.

Opening the discussion period, Mr Davis recalled that when he started in shipping, ship owners did not borrow very much.  Owners of cargo had now become aware that the freight element was very small. The shipping market has changed very quickly and the small owner is going to have to be very quick on his feet.

Clearly concerned about the cost of finance, a ship owner’s representative said that each element of risk meant the owner had to have higher returns, and there were so many risk points.

Mr McCarthy said that we are looking to 2020 before banks are going to have the same amount of liquidity, but this brought a vigorous comment from Jean Richards of Quantum Shipping Services: “Never say never. I am optimistic about the banks getting back to some kind of sensible shape. In the US, banks are getting back to the recovery path.

Jim Davis said this was an enormous topic.  As to the banks, “I don’t think that they are gone for good, but they are gone for a good while, and in the meantime there will be a lack of this money.”

He asked: “What needs to change? It is the removal of the tremendous overhang of tonnage; and a market that is paying its way. It is an under-rewarded industry, and it will continue this way. The number of non-performing loans, the number of ships operating at or near operating expenses is enormous.  I have been in this industry for 60 years, I have never seen anything like this before, and the banks having had their fingers burned quite nastily and, understandably hanging back.

“We had better go through these hard times now, rather than let them linger.”