Shipping's Energy Transition and Investment Timing
My friend and former colleague Simon Ward, in his popular Ursablog, recently discussed the arrival of the Lion Fish in the Mediterranean, suggesting that he has become a late and begrudging convert to maritime environmental causes. Investors might like to see a more proactive attitude to protection of the marine environment from individual ship owners, but no ship owner is going to dilute their commercial position alone.
I've said several times at conferences, in webinars and in print that shipping's PR challenge is to stop being blamed as a polluter of the sea and start being cherished as the Guardian of the Ocean. But it’s more than a PR issue, it’s real life. Most shipping executives have consciences. They are aware of environmental issues. They may grumble at higher costs and increased bureaucracy, but by and large they prefer that their offspring will inherit a useable planet. Waiting for the IMO or other bodies to come up with new rules is perhaps too passive for the general public and investors in a market increasingly aware of ESG issues.
In our increasingly Woke era, perhaps shipping misses out on talented people for “legacy” reasons. The legacy is that European and North American culture has been dominant over the last two centuries. So international shipping has tended to be dominated by companies and executives from Europe and North America. Sure, Japan is a major maritime nation. But few Japanese run international shipping companies. They run Japanese shipping companies operating internationally. The same goes for China or South Korea. Cynics might argue that Danish shipping companies have glass ceilings through which non-Danes may not pass.
Shipping is necessarily an international and diverse industry, employing people from around the world. But is it inclusive as well as being diverse? Does it allow people to be themselves regardless of ethnicity, gender identification, age or religious affiliation? Go to a London shipbrokers' office and you will hear maybe 20 languages, though business is mostly transacted in English. But how culturally diverse is the office really? If you were being critical you might suggest that there may be a dozen or more nationalities on the trading floor, but they all behave like red-treasured public schoolboys. In other words, diverse but not inclusive. Go to an industry conference anywhere in the world and you may find that most of the speakers are male. That's changing slowly, but as organisations like WISTA or the Diversity Study Group (of which I am a co-founder) can testify, shipping sometimes struggles with gender inclusion as well as outdated ideas about women’s role in what can still be portrayed as a man’s world.
Perhaps shipping's corporate governance model scares some investors away. Its offshore structure is all about tax minimisation, ironically something shipping has in common with the fund management industry. The introduction of a global minimum corporate tax rate might begin to undermine the benefits of registering offshore, while many governments are offering green subsidies for ship owners who sail under their national flag (the EU and US being good examples). At the moment, shipping is exempt from those new tax standards, but the definition of shipping is weak. Perhaps in time it might be amended to include more ship operators. Meanwhile the industry’s business model gives rise to niche counterparty due diligence firms who will lift the corporate veil to tell investors who they are really dealing with, increasing costs and doing little to engender trust between counterparties.
Best practice membership associations like INTERTANKO, INTERCARGO, BIMCO and the International Chamber of Shipping (as well as a host of others) exist to drive up standards in governance as well as to promote commercial and technical best practice. They cover the majority of independent, non state-owned ship owners. Yet the IMO struggles to promote new regulations, as it is in no position to enforce its own regulations, relying instead on member states to police their flag fleets, with predictably inconsistent results.
Shipping’s ESG standards might be a problem during the Energy Transition as the industry needs funding to modernise and decarbonise. Estimates of how much funding start at over a trillion dollars and go up from there depending on how fanciful one wants to be. Let's do a simple estimate and guess that ocean-going cargo ships cost an average of USD 40 million new over the cycle, and that around 80,000 new ships need to be built over the next 25 years. The total cost is USD 3,200,000,000,000. Looks bigger than saying three point two trillion dollars, doesn't it? The annual budget is something like USD 128 billion. To access that money, shipping companies will have to improve their ESG standing.
But how worried should investors be when they mark shipping against their ESG scorecards?
My own view as an advanced shipping novice with 24 years' experience under my belt is that the shipping industry is in a far better state than it was in the mid-1990s when I started working at MRC, a shipping and energy credit rating agency. Some of my older, jaded colleagues back then started from the assumption that every owner and every operator and every trader was a crook waiting to be found out.
I reckon that shipping's credit and governance reputation has improved as shipping has corporatized. One hears far less about significant insurance fraud, stolen cargoes or phantom ships than one did 20 years ago. Banking regulations like Basel 3 have raised the financial barriers to entry for shipping, reducing the number of shady, privately owned shipping companies. The Poseidon Principles and similar schemes like the Task Force on Climate Related Financial Disclosures (TCFD) are beginning to apply non-financial reporting obligations onto ship owners, making it harder for them to be bad corporate citizens. Corporate governance regulations and banking regulations have increased the barriers to fraudulent behaviour. Shipping companies are adopting diversity and inclusion programmes, such theone of which I am co-founder. Corporate governance scorecards now exist to help investors to pick subjects on more than just quarterly financials.
While the IMO has incrementally driven up standards under its MARPOL, SOLAS and other conventions, technological innovations like satellite ship tracking, alongside risk management tools like Q88, RightShip, SIRE, Equasis, and other ‘vetting’ schemes, have improved shipping’s safety record as ship owners have improved their maintenance, resulting in fewer ships and lives lost at sea. The international registries publish data to show their safety record versus their peer groups – all have improved. Innovations like double-hulled tankers, better radar and navigational aids, and now autonomy (AI-enhanced autopilot) have reduced the number of collisions. Figures from Allianz reported in Ship Technology Magazine reveal a 65% drop in global vessel losses, with 132 lost in 2009 compared with 46 in 2019. Meanwhile oil spills are down by over 90 per cent since the mid-1970s. As global oil shipping demand is predicted to begin falling from 2025, we might suggest that oil spill risk will decline accordingly.
Another reason why shipping is less “wild west” than it used to be is that its customers have corporatized. Some of the biggest customers of shipping in the world have listed, subjecting themselves to increasing oversight, or have emerged from the shadows to become better corporate citizens, engaging in ESG initiatives like the Sea Cargo Charter. They want their midstream providers to be of a similar scale and to adhere to similar standards of corporate behaviour. The same goes for the big logistics companies who are the main customers of the liners. The next step will be to integrate cargo (or box) booking, tracking, last mile delivery and payment systems, tying the ship operator more closely to their customers than previously.
Security remains a concern for shipping investors as well as ship owners, operators and crews. The International Ships and Ports Security Code can't entirely stop terrorists or criminals from hijacking ships or kidnapping crews. But commercial shipping can’t be blamed for piracy. Modern piracy is linked to terrorism, failed states and climate change. It is an issue for lawmakers and enforcement agencies. The International Maritime Bureau has done a good job of publicising the risks of piracy over the years. P&I Clubs keep ship owning members informed of risks. International naval patrols help to keep the seaways clear, when government budgets allow.
Investing in shipping’s energy transition is not just about technology. It is also about policy, about how shipping fits into the wider economy, about corporate sustainability in a century by the end of which geopolitics, energy, demographics and trade will look very different to their appearance at its beginning. Investors will want to see that shipping’s priorities tally with their own.
How can investors, be they traditional ship owners or more vogueish variants such as lessors, asset managers or private equity funds, make a reasonable summary of these issues and how they apply to the market for newbuilding or second-hand vessels, be they commodity carriers, ferries, container ships or river-going barges?
They can start by reading our significant new publication, Shipping's Energy Transition and Investment Timing.
This 45,000 word, 80 page report guides you through the relevant IMO regulations and decarbonisation policy in the major maritime nations. It surveys shipping's decarbonisation status today, taking in retrofits, LNG fuel, hydrogen, ammonia and methanol, batteries and fuel cells, synthetic fuels and nuclear power. The report reviews the caser for investing today, considering the changing nature of ship finance, the "Dreadnought Effect" on first movers, and the "Betamax versus VHS" challenge of choosing a viable alternative to fuel oil. The current universe of ships, owners and lessors is surveyed by ship type as well as a look at leasing structures. The report ends with conclusions and recommendations for investors.
The report is available now for just GBP 799 (plus VAT where applicable). If you are even thinking about thinking about investing in shipping, you can save time and money by reading this first. Click here to access Shipping's Energy Transition and Investment Timing.