Maersk shakes up reefer world with plans to hike rates 30 percent in early 2013.
By Eric Johnson
Maersk Line has started to make autumn its “big news” season.
A year ago, the largest container line in the world launched a product that guaranteed delivery times for shipments from key origin ports in Asia to major destinations in Northern Europe.
This year, the Danish carrier made a more unpalatable announcement to shippers — that it would be hiking refrigerated cargo rates by an average of 30 percent globally. From Jan. 1, rates will rise by around $1,500 per 40-foot reefer container, Maersk said.
The news, delivered by Maersk Line Chief Executive Officer Soren Skou at a refrigerated cargo conference in Europe in late September, reportedly stunned the audience into silence. But rumors of such an increase began circulating in the weeks leading up to the conference.
In a late August interview with the Danish magazine ShippingWatch, Skou foreshadowed his announcement: “We’ve concluded that the reefer return is less than attractive, which is why, before long, we are going to announce that we expect to raise prices considerably in 2013.”
Skou said in the last seven years reefer rates have failed to keep pace with inflation, much less bunker costs. Reefer rates have risen 2 percent annually, while inflation has grown at 4 percent and bunker costs 18 percent.
That also doesn’t factor in the cost of investment in new reefer containers, an issue that particularly impacts Maersk as the market leader in the reefer segment. The line’s reefer fleet of 230,000 FEUs represents roughly 23 percent of the global fleet of 1 million FEUs.
Along with the rate increase, Skou said Maersk will suspend investment in new reefer equipment in 2013. It had plans to build 30,000 units next year, but that is now on hold. Earlier, he said Maersk will also scrap 25,000 TEUs worth of reefers this year, more than 10 percent of its existing fleet.
The delta of the increase was going to catch the attention of the industry, and now it leads to some new questions. Will Maersk’s competitors seize an opportunity to gain market share? Will they follow Maersk’s lead and institute rate increases of their own? Will Maersk’s move force a shift in reefer cargo patterns?
It appears other lines will choose the rate increase path. In the weeks following the announcement, CMA CGM and Mediterranean Shipping Co., Maersk’s biggest rivals, both announced reefer rate increases in line with Maersk’s. CMA CGM, in fact, duplicated the call to raise revenue levels in an Oct. 9 customer notice announcing a $1,500-per-container increase on reefer cargo from Jan. 1.
“Offering a containerized reefer solution is costing 70 percent more than a dry shipment,” the French line said. “We need to invest in vessels with sufficient plugs, in sophisticated reefer containers and in gensets. Whether it comes from fuel or electricity, the cost of energy needed for use of this equipment is in constant growth.”
Analysts say shippers can expect more to follow.
“I think the rate increase is welcomed by other carriers,” Mathijs Slangen, maritime advisor for the Seabury Group, said to American Shipper. “You do not have to be a true industry expert to see that current rates do not justify the additional investment cost of the reefer business.
“I am quite confident that the majority of the carriers will follow suit as they obviously see the same returns for reefer volumes and will also need to justify future investments. I do think that most carriers will carefully look at each individual trade to determine the increase and most likely not match the Maersk rate increase.”
And then Slangen posed his own question.
“The interesting question is, obviously, why did the carriers let the rates slip to this level?” he said. “I believe rates were just dragged down, or did not increase to compensate for higher costs, by the dry rates.”
Thomas Eskesen, global head of reefers for Maersk Line, told American Shipper carriers only have so much control over pricing.
“There are no simple answers other than the market has set the prices,” he said. “Customers have a choice and we respect that, as we also expect people will take some quality time to reflect on the underlying story here. Unless we all change behavior dramatically, global refrigerated transport will drop, which is not in our interest as well as our clients’ interest.”
Eskesen said Maersk is prepared to lose market share, but is not seeking to do so.
“We do expect to lose market share as result of this initiative,” he said. “This is not necessarily an objective to lose share, but a realistic outcome which we have planned for.”
Maersk emphasized its decision was primarily about matching reefer revenue with the investment required to sustain its fleet and operate services. The cost to construct reefer equipment has risen, as have operating costs. Rates have largely not.
“Pricing discipline has an important role in this,” Slangen said. “The $1,500 across-the-board increase (plus curtailing box production) is a drastic measure which I am sure was not an easy decision for Maersk, but apparently the only way to materialize a substantial rate increase. I have heard other lines are facing similar concerns. Maybe to a lesser extent and maybe some carriers do not need a return on investment as Maersk does, but the situation as described by Maersk is not something that only applies to Maersk.”
Kevin Harding, a reefer analyst with Drewry, also expects lines to match Maersk’s push.
“It would be a great surprise if almost all other container operators were not to follow suit,” Harding said. “Maersk is unlikely to want to concede market share, and with the fortunes of the container lines being up one year and down the next, perhaps a status quo amongst them — but with everyone earning another $1,500 per 40-footer — is an attractive solution for all, apart from the cargo interests, of course.”
However, major U.S. reefer exporters believe other lines may use Maersk’s drastic increase to take market share.
“There are a number of shippers that expect other carriers will come in and take advantage of the opportunity to take, on a permanent basis, reefer cargo from Maersk,” said Peter Friedmann, executive director of the Agriculture Transportation Coalition, which represents ag exporters. “They see there’s quite a bit of profit in reefer cargo, even at current rates. I’m not getting the response that people are upset about the $1,500 increase. Rather, they don’t see it as a problem because other carriers will come in and take that business.”
Whatever the cause, or the liner industry’s culpability, it’s hard to deny that reefer rates have stagnated despite it being a buoyant market during the ongoing global economic malaise.
Seabury data shows that global reefer volume rose 6.8 percent in the first half of 2012, compared to 3.9 percent growth in dry cargo. Predictably, reefer trade growth from Asia and South America to Europe has been slow, but it’s been robust everywhere else.
Slangen pointed to the resiliency of reefer cargo, noting that year-on-year monthly demand growth has mostly stayed within a higher and narrower band than dry cargo. And more significantly, it has stayed strong in recent years when dry cargo demand growth has faltered.
Those dynamics wouldn’t seem to jive with rate stagnation.
“This is something of an irony,” Harding said. “Many believe that Maersk and others have bought market share by offering unrealistically low rates which could not be sustained. This practice was denied by the container operators, but if their denials were correct, then it certainly is odd that they now talk of the need for this increase in such terms.”
Eskesen played down the impact on rates of the liner carrier industry’s drive to attract reefer business from conventional reefer operators.
“We don’t see it as a modal discussion as both modalities have lost money, so it’s more an industry discussion,” he said.
Tough Decisions. Maersk’s move recalls one it made in early 2007 to pull back on the number of inland intermodal points it served in North America (see page 60 of the March 2007 American Shipper).
Both show that Maersk is willing to take tough, unpopular measures to focus on profitability. Skou has made profitability a priority in his first year in charge of the line, which in recent years has embraced its position as a market leader.
For Skou, the current economics of the reefer business don’t justify the line holding nearly a quarter of global market share, a position he called “overweight” in the ShippingWatch interview.
Maersk said the cost of producing a dry 40-foot box is roughly $4,000, compared to $14,000 for a 40-foot reefer box. In his presentation, Skou estimated the liner industry needs to invest a collective $3.5 billion in new reefer equipment from 2012-2015.
The cost to replace the total industry equipment capacity to be scrapped is $1.7 billion, and replacing that would only keep the reefer equipment fleet at present levels, not accounting for the average 5 percent growth in reefer demand.
“And we don’t just need the boxes,” he told ShippingWatch. “We also need the plugs, electrical outlets on the ships and on land, the costs of electricity, more expensive insurance, etc. So there are a lot of additional expenses. Which is fine, if there is an extra profit as well, but we’ve reached the conclusion that our reefer business fails to meet this criteria.”
Capacity Gap. By withdrawing its own investment next year, Maersk could create a gap in capacity that would be exacerbated by a decline in conventional vessel reefer capacity, where scrapping rates have doubled from 2008 through 2012. The number of conventional reefer vessels stood at 847 in 2008, but is projected to fall to 691 by the end of 2012 and to 362 by 2018, which would be a more than 50 percent decline in a decade.
“The modal shift has been very significant, moving from 48 percent specialized reefer in 2001 to 35 percent 10 years later,” Harding said. “Nevertheless, in terms of cargo tons, the loss for the specialized reefer operators has been less pronounced, at only 2 million tons, or 6 percent, during this period.”
There is also the modal shift of perishables from air to ocean. Slangen said the loss of perishable cargo for airlines is more significant than the gains for ocean carriers, while the shift from conventional reefer cargo to container reefer has been more significant for ocean carriers.
“Modal shift from air to ocean is more of an issue for the airlines,” he said. “If all perishables shift from air to ocean, it will cause an increase to the total ocean trade of perishables of 2.5 percent. Needless to say, the loss for the air trade business will be way more significant.”
In 2011, 2.1 percent of the weight of all perishables was air freighted, compared to 8.1 percent of the value of all perishables.
Coupled with forecast annual demand growth of 5 percent, Maersk projects the shortfall in capacity could reach as high as 9 percent by 2015.
But the capacity gap has been an issue long before Maersk’s rate increase and investment drawdown, Slangen said.
“The gap was already there,” he said. “(Maersk) did invest heavily in their fleet over the last two years, so it is not as drastic as claimed. I also think that Maersk will start their investments again once the rates have gone up to a more sustainable level. That might very well be at the halfway point or end of 2013.
“I expect the shortage to be larger on trades with less seasonal reefer products, like Europe-Asia, for instance,” he explained. “On this trade we see year-round volumes of meat and seafood. However, once the fruit season in Latin America kicks in, these reefer containers are repositioned to Latin America as the revenue and urgency for the equipment is higher, leaving European meat exporters without equipment.”
A Movable Feast? There’s another issue in play: have container lines miscalculated how fungible perishable cargo is on a trade lane basis? Or as Francis Phillips, chief analyst for American Shipper affiliate ComPair Data, put it, “the extent to which trade lane specific reefer markets are becoming globalized.
“If the cost of South African oranges goes up, importers can source them with another carrier from somewhere else instead,” Phillips said. “Same with grapes from Chile and so on, or else consumers switch to alternative cheaper food products. Is the ‘endless growth potential’ of the reefer market reaching a glass ceiling?”
If Maersk (and other lines that follow its lead) is successful in pushing up reefer rates, it will necessarily impact the consumer price of goods, or require perishable shippers to take a hit on their margins.
According to a report in the online supply chain publication The Loadstar, Maersk’s price increase would equate to roughly 10 percent of the production cost of apples shipped from Cape Town to Rotterdam.
Justin Chadwick, chief executive of the Citrus Growers Association of South Africa, decried the increases in early October.
“There is no plausible explanation that warrants such an increase based on the current (South Africa-EU) freight rates, which are considered to be sufficient to realize a return on investment in equipment needs and still generate a profit over and above this,” he wrote in a newsletter to members.
Chadwick also said logistics costs are already a heavy burden on the region’s citrus industry. He lamented the call by Maersk for producers and suppliers to renegotiate prices that they receive for their produce ahead of the 2013 increase, calling it “unreasonable (and unrealistic) in that citrus sells predominantly on the principle of ‘price taking’ rather than ‘price negotiating.’”
Eskesen said Maersk took the decision to raise reefer rates uniformly, rather than on a trade lane basis, at the encouragement of its customers.
“This is a global approach,” he said. “We have been encouraged by clients not to start influencing potential trade patterns by increasing rates opportunistically. By raising all rates by the same amount, a protein shipper in the USA knows that they have the same relative competitiveness as a protein shipper in, say, Brazil trading with Russia, and vice versa. Fruit growers in the Southern Hemisphere have reflected the same need to remain relatively competitive towards their clients in Asia, the USA and Europe.”
Eskesen said reaction from customers to the rate increase has run the gamut.
“Overall we have had a lot of feedback ranging from shock, rage, surprise to understanding,” he said. “We have not taken this decision lightly and this is the first time we have done a global program announced at the CEO level, so many clients are starting to realize that this is not a normal GRI discussion but a matter of how the industry will survive together.
“We need profitable customers and our customers need sustainable logistics partners. Many customers have started asking for service level guarantees and assurances so they are competitive inside their segments. Interestingly, demand for longer term contracting is on the rise. All in all, we are very sensitive to the client feedback, but we also have to be abundantly clear this is not business as usual for us.”
But Friedmann said some big U.S. protein shippers have a larger worry — what if Maersk is getting fed up with reefer business? Or the liner shipping business as a whole.
“There are some major protein shippers who are wondering if Maersk is considering leaving the steamship business entirely,” Friedmann said. “This may be a sign that if they can’t get the rates higher, they are prepared to exit the steamship business, or establish some sort of niche business on certain routes where they have less competition. Maersk has other, more lucrative businesses.”
The speculation has led shippers to think about their mix of ocean transportation partners.
“Some reefer shippers are assessing their ongoing relationship with Maersk,” Friedmann said. “I’ve heard this from a number of shippers. They like the reefer service they get from Maersk. They’d like to continue to do business with Maersk. But they are uncertain as to Maersk’s longer term intentions, which is causing these shippers to look to develop longer term relationships with other carriers.”
Friedmann warned the rate increases themselves would price some U.S. exporters out of markets.
“That’s a serious, but short-term concern,” he said. “Long-term, the concern is whether they’ll have to do business without Maersk. This is a message that is being heard. The question is: what is the message?”
Could Maersk’s announcement signal a shift in the way reefer-reliant carriers structure their networks?
“If the reefer trades become profitable for the container lines, then their services might well be adapted accordingly,” Drewry’s Harding said. “In the past, some such adaptations have proven temporary, as many banana-based companies will be painfully aware.”
Slangen pointed out, though, that reefer volume is but a fraction of overall container volume.
“The reefer trade contributes to only 6 percent of all container trade,” he said. “That being said, I believe most carriers are already looking at the most lucrative reefer trades and will continue to do so in the future. And freight rates are not the only factor in this. If you need to evacuate reefer containers to another trade this could be a very good reason as well to secure parts of the back-haul business.”
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