The Business Of
Transportation | Maersk | What Do They Do With Their Profits?
Morning All!
Yesterday we put together Maersk’s costs with their revenues. And we’ve covered a fair amount this week. So let’s have a quick recap…
#1 —> #2: for decades, Maersk transported the most containers for customers. But in 2021, they were overtaken by MSC!
$1,853 —> $4,628: the huge spike in demand for containers combined with the shortage of containers saw freight rates skyrocket post-COVID to >$4k.
1% —> 38%: the freight rate volatility has seen Maersk’s margins rise from just 1% in 2016 to 38% in 2022!
And speaking of margin. It is a Thursday morning. Which means it’s time to take a look at our famous TBO EBIT Margin ranking! Below, we can see our ranking updated to include Maersk. Now, unfortunately for the shipping fans reading this, I’m not going to use the 38% margin figure because that was a real one-off. Instead, I’m going to slot Maersk in with their 5-year EBIT Margin average - 17%!
Now, after going through The Business Of Banking last series, and seeing the high margins in that industry, 17% can feel a bit - meh! As we’ve seen this week, Maersk is so vital for the global economy and making sure it all runs smoothly. So why don’t they command a higher margin? Well, as we’ll see at the end of today’s newsletter - the Danish giant is unfortunately held hostage by something pretty out of their control!
But before we get there, let’s look at cash and see where Maersk uses all their profits!
Capex, Capex, Capex
So, to kick us off, let’s as always look at the waterfall chart below. Which shows us how Maersk have spent their cash from operations (CFO) since 2013. And we see something very interesting. Maersk have spent 40% of their CFO on capex! Which is a huge number!
And in fact, of all the companies we’ve looked at on TBO, Maersk are the second biggest spenders on capex (we’ll reveal who’s first in a second)! But here’s a question - what are they spending their capex on? Well, we’re about to find out!
The TSMC Of The Sea
Okay, so let’s get straight in - what is all this capex Maersk are spending? Well, no prizes here - they’re building ships! And how much does it cost to build a ship? Well, of course this depends on how the size of the ship Maersk are looking for. But as a rough guide, for a ship that can carry ~8k 40-ft containers, you’re looking at a cool $150 million!
Now, Maersk don’t actually build these ships themselves. There rely on specialist companies (mostly found in Korea, Japan and China) to build these massive structures. One of the biggest ship-producers is Hyundai Heavy Industries (HHI) in South Korea, a company Maersk have used often for their shipbuilding needs. And the latest project Maersk/HHI are working on is building carbon-neutral ships! Check out this article to learn more!
So I hope that’s clear – Maersk’s payments to shipbuilding companies like Hyundai Heavy Industries are what makes up the majority of their capex. And as we can see below, TSMC is the only company we’ve seen so far on TBO that actually spends a bigger proportion of their cash on capex!
And actually, TSMC is a great comparison to look at here. Because the reason why Maersk spend so much on capex is very similar to why TSMC do. It’s all about increasing capacity. TSMC make more revenue by manufacturing more chips for customers like Nvidia. And what’s going to help them manufacture more chips? Having more factories!
Similarly, Maersk make more revenue by transporting more containers for customers like Nike, Tesco, etc. And what’s going to help them transport more containers? Having more ships!
Does Depreciation Explain Maersk’s Bumpy Margin?
Okay, so we’ve seen that Maersk spend a lot of their cash in increasing their fleet size. But I want to get back to a topic we didn’t fully finish yesterday. Why are Maersk’s margins so up and down? Well, to help us answer that question, let’s start by looking at the cost that’s related to shipbuilding - and that’s depreciation. For those of us who need a little refresher on how depreciation works – check out this article!
Now, when Maersk report depreciation in their income statement, they actually do so along with a couple of other things - ‘depreciation, amortisation and impairments’. And in the chart below, we can see how this cost line has trended as a % of revenue since 2006. But hold on – something looks off doesn’t it? The cost line rises significantly from being just 8% of revenues in 2013 to 15% (2014) and 20% (2015) of revenues. So what’s going on here? What’s happening to depreciation?
Well, the answer is nothing! Nothing’s happening to depreciation. The rise in this cost line as a % of revenue is actually because of impairments. In 2014 and 2015, the low oil prices saw companies like Maersk write down their oil assets. And it’s this increase in impairments that really hit Maersk’s margins in 2014 and 2015!
Now, I don’t want to get too technical here when it comes to impairments. But for those of us who are interested in reading about the relationship between oil prices and impairments, check out this great article by Deloitte!
Terminals Aren’t Going To Do Maersk Too Many Favours!
Okay, so we’ve seen that impairments hurt Maersk’s margin in 2014 and 2015. But do these impairments alone explain everything about Maersk’s margin decline between 2014-2018? And the answer is no. As a reminder, this is what Maersk’s EBIT margin has looked like since 2006.
So what hurt Maersk’s margin in 2016-2018? Well, the chart below – sorry, it has a LOT of numbers – shows us what’s going on. In 2016, we can see that terminal costs rose significantly to be 19% of revenues. And stayed elevated till 2020.
And a similar thing happened with bunker fuel costs too. There was a jump from 7% (2016) to 11% (2017) and 13% (2018). So what’s going on here? Well, let’s start with terminal costs… !
So first thing to check - did terminal costs rise a lot in 2016? Well, the answer is not really! Terminal costs only increased ~7% from 2015 to 2016. But then why did terminal costs increase so much as a % of revenues? Well, because Maersk’s revenues fell – for 2 reasons! One, the company sold off their oil businesses. And two, freight rates fell by ~20% in 2016. And as we saw on Tuesday, when freight rates fall, Maersk’s revenues take a hit.
Now, let’s think about this second part. When freight rates fall, it means Maersk makes less revenue for transporting containers. But it’s not like they sailed a fewer number of times. They still arrived at terminals a similar number of times. And so what happens to their terminal costs? Do terminal owners - like the Port of Shanghai - lower the cost Maersk have to pay for (i) ‘parking’ their ship there? Or the cost for using their cranes? Or the fee for storing their containers at the terminal? And the answer is no! Terminal owners don’t have to lower the prices they charge shipping companies like Maersk just because Maersk’s revenues are down. Tough school!
And it was this dynamic which really hurt Maersk’s margins in 2016. Freight rates fell and hence revenues fell. But terminal owners still charged Maersk their high fees which lowered Maersk’s profitability. Alrighty, let’s move on!
Can Everyone Stop Building Ships… Pleaseeee!
Okay, so we’ve seen 2 out of 3 reasons why Maersk’s margin took a hit starting in 2014. Impairments in 2014 and 2015. And stubborn terminal costs in 2016. But what about bunker fuel costs? We said yesterday that shipping companies had a trick up their sleeve. When their fuel costs go up, they can all just charge customers like Nike more (increase the freight rate) and so maintain their margin.
But then what happened in 2017 and 2018? In 2017, Maersk’s bunker fuel prices increased by 44% (from $223/tonne to $321/tonne) as OPEC decided to cut their oil production and send crude oil prices flying. But Maersk’s freight rate actually fell -1%! So, what’s going on here?! Why didn’t Maersk and their shipping buddies increase their freight rates given that bunker fuel prices were up 44%?!
Well, the answer is because of an oversupply of ships! And it goes back to what we saw earlier in terms of capex. Shipping companies want to increase their revenues by increasing their capacity to deliver more containers (like how TSMC wants to manufacture more chips). But as more of them invest in building more ships, it leads to an oversupply of ships in the global market.
Customers like Nike, Tesco, etc. then have more options of containers to choose from to transport their goods. They don’t have to fight each other to get their goods into these containers. And in fact, they have more power to negotiate as the oversupply of ships means there’s more containers than there is goods to be transported. And what happens when supply increases but demand stays the same? The price (freight rate) goes down!
So again, like we saw with terminal costs, the freight rate decline is what caused bunker fuel costs to rise as a % of revenue in 2017 and 2018 - and hurt Maersk’s margin!
Maybe We’ll See Less Bumpy Revenues And Margins In Maersk’s Future?
Alrighty, let’s wrap up. And I know today’s newsletter was a little more numerical that usual! But it does take a bit of investigating to realise why Maersk’s margins have fluctuated so much over the last decade.
To put it simply, Maersk - and all shipping companies - are very, very impacted by the freight rate. As we saw on Tuesday, the fluctuations in the freight rate impact their revenues. And as we’ve seen today, these fluctuations also impact their margins. But this dependency on the freight rate is something Maersk are trying to get away from. We can see the company talk about exactly this in their latest annual report…
And that second highlighted part - ‘diversify the activities into logistics’ - is what we’ll get into tomorrow to wrap up The Business Of Maersk!
7th Dec 2023
And that’s a wrap! To close The Business Of Maersk tomorrow, we’ll look at how Maersk’s dependence on the freight rate has impacted their share price. And then look at Maersk’s logistics business!
Have a fabulous day!
The Business Of Team