Week 6 The Shipping Industry Case Study PDF

WEEK 6 THE SHIPPING INDUSTRY – A CASE STUDY Shipping industry – a case study Shipping industry – overview The liner shipping industry, which transported a significant portion of global manufactured goods, faced challenges of poor profitability and overcapacity. The COVID-19 pandemic initially caused...

WEEK 6 THE SHIPPING INDUSTRY – A CASE STUDY Shipping industry – a case study Shipping industry – overview The liner shipping industry, which transported a significant portion of global manufactured goods, faced challenges of poor profitability and overcapacity. The COVID-19 pandemic initially caused a decline in global trade and shipments, but there was a quick recovery in the second half of 2020, leading to increased cargo volumes and higher rates. While there was optimism that the industry was on a path to sustained profitability, observers were uncertain about its future, questioning whether overcapacity and poor profitability would persist. LINER SHIPPING: Operations § Fixed intercontinental services 2021 About 50% involved ports in Asia. Example: "Daily Maersk" service by Maersk Line. - Sailed between major ports in East Asia and Northern Europe. - Guaranteed delivery times in exchange for higher rates. § Hub-and-spoke system Smaller shipping firms focused on transshipments, transferring cargo between l arge and regional ports § Overcapacity The liner shipping industry's growth rate in container volume slowed to about 3 % after 2020, despite industry capacity consistently exceeding demand since th e 1990s (exhibit 1, 2, 3). § Changing trade patterns Reshoring and local sourcing (with long supply chains), posed threats Governments aimed to bring manufacturing back and reduce reliance on trade for future global growth. LINER SHIPPING: Industry structure § Market Concentration The top five and ten firms held 64.8% and 82.9% market shares, respectivel y, with a 25% increase in concentration ratios over a decade (exhibit 4). Growing concentration resulted from mergers and acquisitions, offering ma rket power and economies of scale. § Customer Base and Loyalty Majority of customers were small, with even large corporations like Walmar t accounting for minimal shares of global shipments (900,000 TEUs but 1 per cent o f the total volume of global trade) Customers, including multinational corporations, exhibited little loyalty, shif ting business based on price and schedule considerations. Limited product and service differentiation is the root cause § Price Sensitivity and Shipping Costs Customers exhibit high sensitivity to prices, particularly concerning shippin g costs, especially for bulky, low-value items. LINER SHIPPING: Industry structure § Shipbuilding Industry Dynamics Shipbuilding, a major investment for liner shipping firms, experienced overc apacity since 2000, leading to pricing pressures. Governments provided substantial support to the shipbuilding industry, wit h firms from South Korea, China, and Japan dominating construction (over 90 % of container ships) § Disconnection between Demand and Capacity The lengthy shipbuilding process, typically taking about a year, results in a di sconnect between demand fluctuations and vessel capacity availability (sev eral years to deliver the vessel) (exhibit 5) § Container Investment and Usage Containers represented a significant investment, with prices doubling from 2019 to 2021. Container usage faced challenges, including empty shipments due to region al demand imbalances LINER SHIPPING: Industry structure § Logistics Services and Technology Gap Liner shipping firms struggled to provide value-added logistics services due to a lack of sophisticated information systems. Attempts to expand into logistics services generally failed by the mid-2010s, highligh ting technological limitations. § Government Support and Infrastructure Challenges Governments supported national shipping lines to boost trade, offering ease of entr y and operational support. The Chinese government's endeavor to substitute Europe-Asia shipping routes with a land bridge encountered infrastructure development challenges (1,1000 TEU ship requir es 77km rail) § Economies of Scale and Port Infrastructure Investment Ultra-large container ships with capacities up to 23,000 TEUs are favored for their po tential economies of scale. However, the realization of these benefits is contingent upon substantial investment s in port infrastructure to accommodate larger vessels. LINER SHIPPING: Cost structure § Operating Costs and Ship Operations Most industry costs were linked to ship operations, driven by competition and pricin g pressures. Firms invested in new, larger ships, with the average size growing to nearly 10,000 T EUs by 2020, resulting in economies of scale. § Advancements in Ship Technology/Building Ultra-large container ships, with capacities up to 23,000 TEUs, became popular, offer ing improved efficiency and reliability. Investments in design, engine technology, and automation reduced crew requireme nts and fuel consumption, enhancing operational efficiency. § Economies of Scale New ships operated with significantly reduced fuel consumption, up to 30% less tha n older vessels, contributing to cost savings. Investments in port infrastructure further optimized efficiency, reducing time spent i n ports and increasing sailing time. LINER SHIPPING: Cost structure § Port Fees and Security Costs Port fees and handling charges constituted significant costs, with limited competitio n among ports leading to fee imposition. Security concerns, including terrorism and piracy, necessitated costly screening proc edures and increased insurance charges. § Environmental Pressures and Initiatives The industry faced growing pressure to address environmental concerns, including g reenhouse gas emissions and pollution. Initiatives aimed at reducing emissions and improving energy efficiency required hea vy investments, likely increasing operational costs. § Rate Resistance and Capacity Management Freight rates displayed resistance to increases (discounting), often remaining small d espite liner’s efforts. Excess capacity was managed through idling ships, slow steaming, and price adjustm ents, constraining rate increases. LINER SHIPPING: Cost structure § Challenges Faced by the Liner Shipping Industry Rates declined by about 2 per cent annually over the two deca des from the late-1990s Margins were low because most liners could not pass increase d costs to customers Heavy capital requirements resulted in liners’ average return o n capital being consistently below their cost of capital. Estimates were that the liner shipping industry destroyed $84 billion of shareholder value between 2012 and 2016 However, there was a recent surge (exhibit THE CURRENT STATE : optimism § Surge in Shipping Rates and Profits In late-2021, shipping rates on major routes experienced a sign ificant surge, reaching unprecedented highs. Total profits for the top 10 liners notably increased in 2020, sur passing their weighted average cost of capital for the first time in years. § Port Delays and Supply Chain Disruptions Increased demand coupled with pandemic-related labor shorta ges led to delays at ports, exacerbating rate hikes and custome r complaints. The Suez Canal blockage in March 2021 further disrupted supp ly chains, causing production delays and rising shipping rates. THE CURRENT STATE § Demand for New Ships and Market Prospects The industry witnessed a surge in demand for new ships in 202 1, with orders reaching the highest levels in a decade. Majority of orders were for ultra-large ships, reflecting anticipa tion for future capacity expansion and market growth. § Optimism Amid Challenges Industry experts express optimism about the sector's resilience and ability to adapt to challenges. Structural changes, including capacity management, offer pros pects for sustained profitability despite ongoing financial, tech nological, and regulatory challenges. Case study questions Q1. What factors influence profitability of this industry? Explain with industry structure based on Porter’s five forces model https://www.isc.hbs.edu/strategy/business-strategy/Pages/the-fiveforces.aspx Case study questions Q1. What factors influence profitability of this industry? Force 1. Degree of Rivalry Explanations Concentration – Briand identity – Product differences – Switching cost – Inter-alliance competition – Impact on Profitability Case study questions Q1. What factors influence profitability of this industry? Force 2. Supplier power Explanations Number of Ships - Ports’ power – Labour cost - Impact on Profitability Case study questions Q1. What factors influence profitability of this industry? Force 3. Buyer Power Explanations Buyer concentration and buyer volume – Buyer bargaining power – Threat of integration – Impact on Profitability Case study questions Q1. What factors influence profitability of this industry? Force Explanations Access to input by new entrants– Proprietary inputs required – 4. Threat of New entran ts Government policy for entrants – Capital requirements – Expected retaliation – Impact on profitability Case study questions Q1. What factors influence profitability of this industry? Force 5. Threat of Substitutes Explanations Buyer propensity to substitute - Switching costs to substitutes - Reshoring and local sourcing- Impact on profitability Case study questions Q2. Then do we need to dismiss this industry? If not, what are the reasons of optimism?