In case you have not noticed the world's tanker market is experiencing the biggest glut of tankers in the last 29 years. The fleet will increase by 7.5% this year but the demand for seaborne crude is only rising +2.8%.
I have written about this several times in the past as a future event. Now that it has arrived the damage is more severe than many expected. The tanker industry has been scrapping the older single hull vessels for years in order to comply with the news rules from many nations on what kinds of tankers can enter their waters. The Exxon Valdez disaster in Alaska many years ago started a revolution in tanker construction and the older vessels are on their way out.
Unfortunately for the big tanker operators the single hull tankers are not leaving fast enough and too many operators ordered too many new double hulled vessels. Tanker scrapping will decline -19% in 2011 to 2.8 million tons of carrying capacity. Meanwhile the fleet will expand with new ships by +7.5% to 176.7 million tons. This is the most since 1982.
When an order scraps a tanker it must write off the remaining undepreciated value. Tankers have a normal life expectancy of 25 years. However, many of the tankers that need to be scrapped today to make room for the newer technology ships are less than 25 years old and have large book valuations. For instance BW Maritime Ltd said owners would lose millions by scrapping them five years earlier even though there are no available shipments today.
BW said, "Hope springs eternal" and people with excess capacity are hoping for a resurgence of traffic to take up the slack. BW, a shipper with 105 vessels and 15 supertankers, said owners are faced with a choice of taking the hard loss and risking the impact to financials, financing arrangements and bank loan covenants or sweating it out to see if something changes. Many financing arrangements have covenants that make it difficult to take big paper losses without triggering financial clauses in the loans.
Most of the new tankers coming out of the shipyards were ordered back in 2007-2008 when rates for shipping went as high as $229,000 per day. Today those rates are as low as $1,037 per day and tanker owners are getting crushed.
Frontline (FRO) says it needs $29,700 per day to break even for the cost of the ship, crew and fuel. Unfortunately rates are going negative on the most highly trafficked routes. Owners are taking loads for less than it costs them just to keep the cash flowing. The Saudi Arabia to Japan route went negative on rates this week.
Frontline said it would rather send the crews fishing than accept charters for under $10,000 a day. Frontline claims it won't take a charter for less than it costs but it also admitted it had several ships "drifting around." They would not say if the crews were fishing but they said the tankers were being "held back" until conditions improved. With more capacity flooding onto the market the odds of business improving soon are remote.
Last year there was a 47% increase in scrapping and that left only 2% of the fleet older than 20 years. Another 10% are between 15-19 years old. Somebody will have to make some hard decisions soon and odds are good there will be some consolidations in the industry. It may be the only way for a company like Frontline to make a profit. If they buy up the smaller competitors who are undercutting their rates they may be able to put a floor under the market. Unfortunately there are dozens of mid level shippers and hundreds of smaller 2-3 tanker firms.
The "forward freight agreements" used to estimate shipping costs project an average rate of $24,757 per day through 2013. With Frontline's cost at $29,700 a day the future is bleak. However, shipping costs have fluctuated more than 59% in each of the past 11 quarters. To say prices are volatile would be an understatement.
Frontline will report a loss of $17.13 million in 2011 compared to $161.4 million in 2010 based on the 19 analysts surveyed by Bloomberg. If the global economy slows and demand for crude oil and refined products decreases the dayrates are only going lower.
Thanks to the increase in onshore production in the U.S. the seaborne crude shipped to the U.S. will decrease -4% in 2011 to 6.9 mbpd. That is the lowest since 1999. Oil imports into China declined -8.6% in June but they are expected to recover by year-end. August deliveries are expected to rise by 8.5% so that decline is temporary.
Single hull tankers only make up 4% of the current fleet compared to 20% at the beginning of 2010. There are 567 supertankers in the global fleet. Bangladesh is the scrapping capital of the world where 78% of tankers go to die.
Some owners of older tankers are actively soliciting jobs as floating storage for oil and fuels. Because oil demand is seasonal there are cycles where storage demand increase sharply as suppliers build up inventory in advance of the high demand season. In recent years we have seen as much as 150 million barrels of floating storage waiting for buyers.
Another option is to convert them into FPSOs. That is Floating Production, Storage and Offloading units. They are outfitted with the equipment necessary to process oil and gas directly from offshore wells. They are anchored next to the wells and they process the oil as it is produced then transfer the processed oil it to tankers for delivery to shore. These are becoming increasingly popular in places like offshore Brazil where there are no pipelines from the fields 200 miles offshore.
For the near term I would be a seller of Frontline (FRO), TeeKay (TNK, TK), Nordic American (NAT) and Overseas Shipholding Group (OSG).
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