While most of the ink spent on debating valuation methodology in shipping is about the (coarse and fine) differences among the three primary valuation methods (please see previous note on our blog), no much attention is paid on the finer points of the Fair Market Approach (FMV). The FMV is the method used by default in loan agreements, and it’s supposed to be the only ‘real’ valuation method, as it reflects the price the market will pay for the asset, fair and square.
The point is that what is reported in the market place and what actually took place is not necessarily true or it doesn’t truly reflect reality. Here are a few quick points to consider next time one ponders whether a new sale is above or below ‘last done’ and how the market is trending:
Finding a price of a 20 Oz. bottle of Coca Cola is very easy; one can do this by just walking in the closest convenience or grocery store and the price is posted right there for all to see. One doesn’t even have to enter into a transaction to discover the price. Probably a store close-by will have a very similar price, again posted for comparison. An upscale store or a store in an expensive neighborhood can be expected to have a higher price, and if one can wait till the weekend to buy in bulk at Costco, the price would be meaningfully discounted. There is a great deal of market transparency, which has become even more effective in the age of the internet and smartphones; there are even apps that allow for instant price checking while shopping. Only if the waters were so clear for price checking in shipping! A lot of the sale & purchase deals are bilateral and they may involve a broker (or a couple of brokers), thus only a handful number of parties know the intimate details of the transaction and the pricing. Maybe the second-best buyer (and their broker) suspect the real price (i.e they know they offered $X for the vessel, and they lost, so the actual price logically has to be at least $X+1); again, this is only a suspicion and again it’s based on the assumption that buyer and seller are rational (or it was an arm’s length transaction; however, precious little prohibits from the sale taking place at $X-1, but that may be found under the ‘agency theory’.) So, two or three parties really know the fine pricing point where title of ownership took place, and these parties perhaps do not have interest to divulge the exact details to the market for many reasons, ranging from privacy to protecting a competitive advantage. Thus, what is reported in the market (usually by way of broker reports) is not necessarily accurate, for legitimate or bad reasons; our background in sale & purchase confirms such point; a great deal of the reports of deals we were involved with were misrepresented to a certain extent, once or twice misreported to the extent of ignorance.
Then, besides the price, we have to deal with the subject market itself: we all can agree that a 12 Oz. bottle of Coca Cola is a very standardized ‘commodity’ in a certain geographic market, from content, to packaging, to labeling, etc However, what is a ship? It’s more than a philosophical or a poetic question than ‘what’s in a name?’ Even vessels built on the same design cannot necessarily be exact copies; some got more TLC from their owners during construction in terms of attention to detail and good craftsmanship and also more attention after their delivery. We do not mean necessarily vessels built on same design from different yards, but vessels built on same design by the same yard and have subsequent hull numbering. It has been known that many young yards (some of them ‘greenfield’ yards) were building vessels fast enough to just stay afloat for the next year. Yes, there is price differentiation between vessels coming from good and bad yards, good and bad owners, etc but again, the fine detail of specification, design and maintenance of the vessel is not widely known. In a market where even the name of the manufacturer is not much of solace for quality consistency ‘that which we call a modern bulker, by any other name would rust as fast,’ if we were to take the poetic liberty to have Juliet get involved in shipping. And of course, there is the point of the owner and vessel manager, where the standards of maintenance and spare parts onboard differentiate the ‘stable’ vessels come from. You see, certain managers take at face value the old saying that vessels are referred to as ‘she’ because like women demand constant attention; and, the more the attention they attract, the better their standing in their social circle (market place). It’s not a 20 Oz. Coca Cola bottle situation here, comparing apples to apples.
Vessels are required to be drydocked every five or two-and-a-half years at a cost that can range in the million dollar range. In today’s market, consideration is given on pricing for the vessel’s ‘survey position’, that is when the vessel is drydock due. However, an owner intending to sell the vessel right after her drydock, they may opt for the ‘lipstick on a pig’ treatment rather than more fundamental maintenance; and, a serious buyer may opt for a vessel purchase pre-drydock in order to have the opportunity for a thorough preventive maintenance schedule at a much higher cost. In short, the ‘survey position’ adjustment can be opaque (one ‘had to be there’ to know for sure) or can be completely subjective based on the buyer’s trading and maintenance standards, and optimal points of competence and convenience.
Another consideration on the fair market value goes back to the gross and net price of the vessel; there are commissions that can make a big difference on the pricing; it could be that there are several brokers involved, or that there is a hefty ‘address commission’ where effectively the buyer or the seller or both are subsidizing their in-house brokerage business by adding another commission. There is a sizeable difference on the pricing of a vessel if the commission is just the ‘standard’ 1% or 5% including ‘address commission’ but market reports refer to the ‘gross’ number.
How about the location of the delivery of the vessel to her new buyer? A vessel delivered close to a loading port when she can immediately start earning freight revenue is a much more preferable location than a delivery closer to the discharge port. For smaller vessels in the dry bulk market, the difference between ‘loading’ and ‘discharge’ ports may be as convenient as shifting the vessel from one berth to another in the same harbor; however, for bigger vessels like supertankers or capesize vessels, the ‘loading’ and the ‘discharge’ ports can be half-a-world apart (like Middle East and US Gulf Coast for VLCCs, or Brazil and China for capesize vessels); at today’s bunker pricing, repositioning a vessel on one of these trades can be one to two million dollars; plus, their is the operational expense to reposition the vessel to the new loading port. According to NSF template (Norwegian Sale Form), it’s the seller that determines the actual delivery location of the vessel, but within a range of ports mutually pre-agreed between seller and buyer. So, two identical vessels (with our point above notwithstanding on exact duplicates) that are sold at two different locations could be apart a few million dollars; but when vessel sales are reported, location delivery is always ignored.
There is a standard definition for fair market value about willing seller and willing buyer, etc where market comparable valuations are based; the standard valuation methodology in shipping does not require an objective, physical inspection of the vessel, and also, as an industry practice, vessels of same size and design are assumed duplicates for valuation purposes. The fair market valuation methodology has often been ‘abused’ in our opinion; here, we went tangentially about a few of the points that routinely are ignored on the pricing and determining what’s really the market price; and, we have focused here on market transparency solely, and we have not touched at all the situation when the buyer or the seller, while both ‘willing’, can exert disproportionally more pressure on the other side and command higher control of the transaction and its outcome.
We wish that shipping was as poetic as Anne Sexton’s lines:
‘Water so clear you could
read a book through it.’
Well, that will be the subject of a subsequent posting …
© 2013 Basil M Karatzas & Karatzas Marine Advisors & Co.
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