The Storm that Sank Hanjin Shipping

Last summer Hanjin Shipping failed. It was only the sixth largest container shipping company in the world, but its bankruptcy may be the first of many in an industry caught in very heavy weather of its own making.  ...

Outage at Suntech

Here comes the sun In 2008, the clouds of pollution that clot the skies over China’s cities had officials there gasping for relief. They were even more troubled by the slowdown in China’s economy. Their solution was to promote solar energy, not only for clean energy production but also for exports and jobs. The government backed the solar panel industry with massive lending programs from state-controlled banks. China’s solar module manufacturing capacity grew from less than 5 gigawatts in 2007 to just under 40 gigawatts in 2011, more than double the total in the rest of the world, and far in excess of demand. The market for solar modules was only 5 gigawatts in China and 30 gigawatts globally. The result was a collapse in panel prices worldwide. Suntech’s power fails For Suntech, China’s largest solar panel maker, prices fell from $3.72 per watt in 2007 to $1.51 per watt in 2011. In terms of volume, Suntech’s sales were strong, with sales in megawatts of generating power up 34% in 2011. But low prices coupled with above-market, take-or-pay supply contracts for raw materials short-circuited profits. Adjusted for special charges like asset impairments, operating profits were negative in 2011 and the first quarter of 2012. Suntech’s free cash flow was negative in most years because of heavy investments in working capital and in plant and equipment. The company was able to offset operating losses with working capital efficiencies, and cash flow from operating activities went from ($30) million in 2010 to $93 million in 2011. But capital spending proved harder to cut; it actually increased from $276 million in 2010...

A Perfect Storm

The shipping industry is in rough waters lately. In many categories, global capacity exceeds demand, and shipping rates and ship values have sunk to near-abyssal lows. Take the VLCC (“very large capacity carrier”) tanker business, for example. Back in 2005 and 2006, shipping companies had every reason to be optimistic about potential demand. Asian economies were booming, and their need for oil was surging. So they ordered scores of large, new vessels. Between 2007 and 2011, the world’s VLCC fleet grew by 10%, but demand for oil grew by only 3%. With capacity that far ahead of demand, shipping rates plunged to near-record depths. Reduced income from ships meant reduced values for ships, and vessel prices fell by 55% over the same period. The industry got caught in a perfect storm of business cycle and industry cycle risk. The business cycle drove down demand for shipping when the United States and Europe went into recession in 2008 and 2009 and emerging economies slowed down. But even after the global economy recovered in 2010 and 2011, shipping remained trapped in a classic industry cycle. Industry cycles occur when capacity exceeds normal, recovery-stage levels of demand. Prices plummet, and revenues fall with them. Industry cycles are different from business cycles. In business cycles revenues are demand-driven; in industry cycles they are price-driven. There is more at work in industry cycles than the simple microeconomics of supply and demand. They have a complex set of drivers. They are most common in industries with these characteristics: commodity products or services; large economies of scale; high fixed costs; intense competition. Commodity industries are especially...