Transportation / Shipping / Bulk Carrier Operating Models 4 comments

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World bulk trade growth has been accelerating since 2003 due to strong demand growth from emerging Asia and for those still in doubt, the figure below depicting the growth of world seaborne trade by type of cargo should be convincing:
















Note the significant change in gradient since 2003. That marks the new higher secular growth rate for overall shipping volume, generally speaking. Bulk shipping volume growth has been similar to this trendline.

To get a grip on the bulk shipping industry, it is useful to know the various bulker classifications (Capesize, Panamax etc) and also the various operating models for bulk shippers. The former is discussed in an earlier article ("Bulk Carriers"). The current writeup covers the latter, a topic which often confuses many.

Categorisation of Charter Types

The operating models issue deals firstly, with the various types of charter options on dry bulk carriers. It is important to understand them so that one can decipher the degree of impact that spot charter indicators like the Baltic Dry Index (BDI) have on the operating performance of a particular bulk shipper employing a particular type of chartering option on its vessels. The various charter types are described below:

Bareboat Charter - the use of a vessel usually over longer periods of time ranging up to several years. All voyage related costs, including bunker and port dues as well as all vessel operating expenses (eg. day-to-day operations, maintenance, crewing and insurance) transfer to the charterer’s account. The vessel owner is responsible only for the payment of capital costs related to the vessel.

Time Charter -- the use of the vessel for an extended period or for a trip between specific delivery and redelivery positions, known as a trip charter. The charterer pays all voyage related costs. The vessel owner of the vessel is responsible for the payment of all vessel operating expenses and capital costs of the vessel.

Spot Voyage Charter --- the carriage of a specific amount and type of cargo on a load-port to discharge-port basis. Most of these charters are of a single or spot voyage nature, as trading patterns do not encourage round voyage trading. The owner of the vessel receives one payment derived by multiplying the tons of cargo loaded on board by the agreed upon freight rate expressed on a per cargo ton basis. The owner is responsible for the payment of all expenses including voyage, operating and capital costs of the vessel.

Contract Of Affreightment (COA) --- the carriage of multiple cargoes over the same route and enables the COA holder to nominate different ships to perform individual voyages. Essentially, it constitutes a number of voyage charters to carry a specified amount of cargo during the term of the COA, which usually spans a number of years. All of the ship’s operating, voyage and capital costs are borne by the ship owner. The freight rate normally is agreed on a per cargo ton basis. Much of the dry bulk cargo that is transported by sea is moved under COAs and these COAs provide a more stable and secure income stream for bulk carrier owners.

The figure below illustrates the difference in vessel operating cost exposure accruing to the various charters for the vessel owner:











Several implications are:
- in the case of vessels trading on the spot market (whether under voyage or time charters) revenues are less predictable than long-term time charter revenues or COA revenues but may enable the vessel owner to capture higher margins during periods of improvements in drybulk rates
- bareboat time/spot charters will not subject the vessel owner to voyage expense risk (especially bunker fuel prices, or port congestion problems) while COAs and voyage charters might expose the owner to such risk (mitigated by fuel adjustments etc).

Vessel ownership

Self-owned --- The company captures all the benefits of vessel ownership, which can be significant in a rising spot market. The vessels are recorded as assets on the balance sheet and this constitutes valuable assets that backup the value of the company (can be re-sold on secondary market for good profits in a strong market). Similarly, in a poor market, the company can suffer badly as charter rates drop. It is a high operating leverage model highly dependent on charter rates. Companies like Courage Marine mainly utilise this model.

Charter-in --- The company does not own the vessels; instead it charters them from another owner for a certain duration (eg. time charter). Then it re-charters them out at higher rates, capturing the spread, or it utilises these chartered-in vessels for its own cargo transportation commitments (ie. COA contracts). It is less highly geared to charter rates because as charter-out rates (revenue) rise, charter-in rates (costs) also rise. However it can still be very profitable if the charter-in rates were secured during a down period and the duration is very long. It is also an asset-light strategy to maximise asset turnover. Larger shippers like STX Pan-Ocean and Noble rely heavily on the charter-in model.

References:
(1) Mercator IPO prospectus

Retail / Department Stores / Performance Metrics 3 comments

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While topline performance in the retail sector is often focused on, its growth can come from two sources: increase in number of stores and sales per store. Whether it is driven by one or the other has an impact on the bottomline.

Same-store sales growth:
The growth in sales in a particular store, equals (Total sales)/(Total no. of stores). This is the key figure to watch as it indicates whether every store is increasing its productivity, on the average.

The importance of this figure can be appreciated if one understands that every new store incurs fixed overheads like rent and salespeople. That means it is preferable to grow sales at existing stores where sales gain flows entirely to bottomline (after deducting for direct merchandise costs) rather than to build sales by building new stores. Companies that are not doing well in this aspect often gloss over same-store sales and focus on topline growth eg. Osim.

A related measure is the sales per square feet ratio, obtained by dividing total sales by number of sqft of selling space that the company controls. A rising ratio means the company is making increasingly better use of their real estate.

Revenue per employee:
The other key input is sales employees and this ratio, obtained by dividing sales by total number of employees, is simply another means of measuring productivity per unit of labour input (as opposed to "property input" above).

Inventory turnover:
It is obtained by dividing COGS (cost of goods sold) by average inventory held by retailer throughout the year. The higher it is, the more times the retailer converts inventory held to sales (ie. fast turnover).

This figure should be viewed in context. Discount retailers often have high inventory turnovers as they mark down merchandise aggressively in order to generate higher sales; profit margin is also lower. On the other hand, retailers of prestige items turn over inventory much more slowly while maintaining high profit margins. Hence, this figure is best compared not across industry, but over time for the same company (provided it pursues similar retail strategy).

References:
(1) Bound For Growth (David Wanetick)

Oil & Gas / Oil Services / Offshore Production Process 2 comments

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The share of offshore oil and gas production is set to increase in the future. In particular, deepwater production is set to enjoy the greatest growth rate, as high oil prices continue to justify higher exploration costs.












The typical capital expenditure for deepwater exploration by main group components:












The upstream activities consist of the offshore exploration, extraction and production of crude oil and gas. The key processes as shown below:









Stage 1: Locating of oil and gas trap
Oil and gas trap as it is known in the industry is the potential location for oil and gas. Locating an oil and gas trap can be achieved by detailed analysis of seismic survey data. However, whether the location contains oil or gas can only be ascertained upon the drilling of the well.

Stages 2 and 3: Drilling and well completion
Drilling is carried out by a drilling rig which may take the form of a jack-up drilling rig and semisubmersible or by a drill ship. The drilling process commences with the lowering of the drill bit, which is attached to a drill pipe, into the seabed. As drilling of the well progresses, extra sections of the drill pipes are added to enable the drilling to proceed deeper. A navigation device is installed on the drill bit to feed back information to measure and monitor the drilling. Drilling may take weeks or months before the targeted depth is reached.
During the drilling process, drilling fluid is used to reduce friction and remove drill cutting for disposal. Drill cutting may consist of crushed rock and clay. Drilling fluid is known in the industry as drilling mud. A separation system is used to separate the mud from drill cutting after its removal.
After the well has been drilled to its target depth, equipment to monitor and control the fluid flow has to be installed on the well prior to the commencement of oil and gas production. The first step is the installation of casing pipe in the well which runs to the bottom of the well. Cement will be injected by a cement processing system to seal off the well to prevent fluids from leaving. Thereafter, a perforator will be used to make openings in the cement seal through which the fluids will flow. The final step is the installation of valves and fittings to regulate, measure and direct the flow of oil and gas from the well.

Stage 4: Starting the flow and artificial lift
After the well has been completed, the hydrocarbons, namely, oil, gas and water, flow from the reservoir to the well on the surface to the production facility, which is known in the oil and gas industry as topside processing and storage facility. Natural pressure in the reservoir will raise the hydrocarbons to the surface.
Once the reservoir loses its natural pressure, artificial lift methods are used to expedite extraction of oil and gas. Artificial lift can be achieved by injecting water or gas into the reservoir to raise the hydrocarbons to the surface.

Stage 5: Treatment and separation of oil, gas and water
Hydrocarbons that are removed from the well consist of oil, gas, water and other minerals such as sand. These hydrocarbons will undergo a treatment and separation process via specialised separation equipment whereby oil, gas and water are extracted and stored separately. Water will then be returned to the ocean. Great care is taken to ensure that the quality of water returned to the ocean after the treatment and separation processes complies with strict regulations. The water is known as “produced formation water” or PFW. The processing of PFW has to comply with strict regulations to ensure that the PFW does not pollute the ocean.

Stage 6: Transportation of oil and gas
Oil and gas has to be transported from the production site to the storage facilities which may be located in another part of the world. For offshore oil and gas production, oil tankers and subsea pipelines are normally used to transport oil and gas from the production site at sea to the storage facility on land.
Custody transfer metering systems are installed at the storage facility to measure the quality and quantity of oil and gas received.

References:
(1) UOB Kayhian 29 Jan 07 report on Hiap Seng
(2) Technics IPO prospectus