Shipping has made slow but steady strides on the consolidation front in the past few years, but may be challenged to keep up the pace in 2019 because of market conditions, a top advisory expert says.
Mark Friedman, senior managing director at New York investment bank Evercore, cites “struggling share prices, discounts to asset values and scarcity of financing” as key factors that are making share-based mergers and acquisitions less likely compared to a better consolidation environment during a busy 2018.
“With the shipping sector sell-off, virtually all shipping equities are trading at a discount to net asset value, with some discounts exceeding 50%,” Friedman says.
In this context, private owners are less willing to engage in ship-for-share transactions. And with cash flows being poor in certain sectors, there is more focus on both relative liquidity and balance-sheet strength.
“In this environment, acquirers are much more reluctant to take on someone else’s funding issue and participate in a deal that requires financing, particularly if equity is required,” Friedman says.
“In the past, consolidation was welcomed and companies felt much more comfortable about an equity financing on the heels of a consolidation.”
All of this comes from a man who was quite busy with merger work last year.
Sound advice
Friedman and Evercore advised Capital Product Partners in its $1.1bn all-shares deal with private Diamond S Shipping, which will come through a public spin-off of Capital’s current listing.
The combination will create the world's third-largest public product tanker company, retaining Diamond's name and management. The deal is expected to close by the end of this quarter.
Evercore also advised Global Ship Lease on its $780m combination with Poseidon Container Holdings, and counselled on a number of financial restructurings including Danaos Corp’s conversion of nearly $600m-worth of bank debt into equity.
And then there was an anti-consolidation episode. Evercore advised Dorian LPG on its successful efforts to fight off the hostile takeover approach from BW LPG in a potential $1.1bn deal. BW dropped the effort in October last year.
Friedman notes that consolidation has created companies with significant scale and market leadership. These traits will be rewarded as the market improves.
He cites examples such as Greece's Star Bulk Carriers, which was among the smaller public dry bulk companies only five years ago.
“After combinations with Oceanbulk, Excel Maritime, Songa Bulk and Augustea Holding, they are now the largest dry bulk company with significant scale benefits," Friedman says.
He notes that the comparable organisation on the tanker side would be Belgium's Euronav, which grew robustly through successive acquisitions of the Maersk VLCC fleet in 2014 and New York-listed Gener8 Maritime in 2017.
“Companies such as Star Bulk and Euronav have created larger market capitalisations and liquidity, which should continue to make them preferred acquirers for those public or private companies interested in partnering,” Friedman says.
Larger companies will attract greater institutional shareholder interest as many are targeting owners with market capitalisations over $500m. These also offer greater trading liquidity, meaning that it is easier for investors to sell out when desired.
Given the volatility of the shipping markets and the track record of equities over time, Friedman says investing in shipping is generally viewed as a “trading opportunity rather than a fundamental buy-and-hold strategy”.
Evercore has not been on all of the important deals, but it certainly has done its share.
Friedman says the firm’s focus on M&A, restructuring and advisory work beside other banking allows it to continue to devote significant resources to the sector. Investment banks that rely on the activity of capital markets will struggle to do so as public markets are generally closed.
“The industry’s in a very challenging spot," Friedman says. "The investor base has gotten thinner and equity markets are generally unreceptive to shipping. Most sources of capital are hard to access. It's not just common equity but even retail-oriented products like baby bonds and preferred shares. Those markets remain highly selective.”
Limited sources of capital
Owners in need of capital have relatively limited sources: largely bank loans and sale-leasebacks. Both products are available but easier for larger public and private owners.
“Looking at the past 15 years, the only really positive, exciting period for equities was the shipping super-cycle of 2003 to 2007, with a smaller uptick in 2010 following the world financial crisis,” Friedman says.
“Regretfully, if you look at a one, three or even a 10-year holding period, it would imply large losses for those investors that simply had a buy-and-hold strategy.”
If that all sounds gloomy, Friedman suggests the current lack of capital may in fact lay the groundwork for improved markets.
“If companies recognise the limited amount and high cost of capital, they should temper their desire to order more ships," he says. “The industry’s current woes are not a function of limited demand but rather the persistent growth of the world’s fleet.”
