The case for regulatory-driven diversification in Ship Finance
A decade ago, we all knew of at least one shipping company that felt safe receiving its debt financing from a single source (a behaviour that was, unfortunately, encouraged by some bankers), and eventually experienced immense pain when some key-lenders abruptly withdrew from ship financing.
Back at that time, sourcing finance from a handful of different – typically European – banks (as opposed to, from a single one), was considered a sound approach to funding diversification, since the key driver for a Bank’s approach to lending was its own business policies and individual circumstances.
That was then. Next, the banking crisis happened. And then the shipping one followed… Both led to (a) an increased regulatory attention to bank-lending towards the shipping industry; and (b) the regulatory framework being the dominant parameter shaping each Bank’s business activity.
One unsurprising consequence of the above was that (European) bank lending, when it came to shipping, became much less abundant. A second, and initially less anticipated, change was that the approach of lenders, regulated by the same regulator, became significantly more homogeneous. A shipowner friend recently confided to me – half-seriously, half-jokingly – that “if I remove the bank logos from the term sheets I receive, I cannot really tell which-one sent me which.” This is mostly the result of the tighter regulatory framework under which European banks are operating and, jokes aside, highlights the need for regulatory diversification.
Given the importance that debt capital has for an industry as capital-intensive as shipping is, no shipping company can afford all of its lenders to operate under the same regulatory framework. Were it to do so, the result might be that next time something important happened, its lenders would be highly likely to change their views about their shipping exposure at the same time and in the same way. It is like operating a VLCC in high-seas, with no internal bulkheads limiting cargo shifting around: you don’t want to be on it when the wind starts blowing hard…
Thankfully, the alternative financiers, who flocked-in during the last few years, are a crowd made-up by highly different animals. We can hence observe “blocks” of lenders, each defined by the main regulator they operate under, with their respective members behaving in a correlated way. European banks are such a block, with a couple of sub-blocks, defined by the risk-rating model each bank uses to rate its obligors.
Another block are the Chinese financial institutions, another are the Japanese, each having different local regulatory frameworks and/or adopting global ones (like Basel IV) at a different speed than their European counterparts. An additional regulatory diversification bonus comes from the different local central banks’ monetary policies and the impact these have on respective lenders’ balance sheets and capacity to lend.
There is, of course, the block of lenders that are completely untouched by lending regulatory frameworks, such as the various credit funds: their activity is, of course, also contingent on market realities, views, models and limitations but – and this is the key issue here – these are different from the ones traditional financiers have.
The optimal mix of funding sources is a moving target, given the constantly changing finance scene, and also it differs from company to company, depending on parameters such as fleet size, corporate structure, or employment profile (but also some more nuanced ones like specific industrial relationships). A ship-finance specialist, whether internal or external to the company, can be the key for keeping this mix as-close-as-possible to optimal at all times.
Some might argue that the above approach is an expensive one: “I have a financier who provides me with a very competitively priced product, and I feel comfortable with him” or “Why start a new relationship with a geographically/culturally distant and/or more expensive lender?” are comments sometimes made.
In a nutshell, the answer is that diversification, even at some cost, works like an insurance policy. For an industry that has grown up having insurance at its heart (who can imagine shipping without it…) the concept of paying what could appear to be a ‘premium’ to hedge against a known and accepted risk (that of lack of financing), but which could pay-off in multiples later on, should not be that strange.
The ship financing scene is trying to find again its balance, while overall volatility in the finance world is increasing. Seeking regulatory diversification of funding sources might prove to be an efficient way to avoid “déjà vu all over again” as dear old Yogi Berra would have put it…
Dimitri G. Vassilacos is a Partner at Ship Finance Solutions (SFS), a boutique financial consulting firm specializing in the shipping sector. Prior to that he had assumed a variety of positions during a 20-year-long career in the banking sector, including Head of Greek Shipping at Citibank and Manager of the Shipping Division at National Bank of Greece.