The two main markets for shipping companies, such as DryShips Inc. (DRYS), Diana Shipping Inc. (DSX) and Safe Bulkers Inc. (SB), are spot (voyage) and time charter (period). Companies that engage in the spot market will charge a one-time fee that customers pay to have a specified amount of goods shipped from one destination to another. Companies in the time charter market will contract ships and operational services out for a specific period, usually one to two years at a negotiated daily rate.
Contracts are double-edged swords
In a supply driven market with excess capacity, companies in time charter markets tend to outperform those in spot markets because of lagging shipping rates; firms that have longer-term contracts are able to shield themselves from declining industry fundamentals and falling shipping rates until contracts expire. Thus, it is important for investors to understand each dry bulk shipping companies’ time charter contracts’ maturity dates. When contracts expire, shipping companies will renegotiate services at cheaper rates, which lowers revenues, earnings and free cash flows. While a company’s value is the sum of future cash flows discounted into the present, near-term earnings tend to have large influences on share prices for a cyclical industry like shipping. The market, after all, is a collection of short-term thinkers.
Most valuable contract, most subject to lower revenues
Using data extracted from dry bulk shipping companies’ latest annual reports, the value of each firm’s contracts was compared to the current time charter equivalent rates for spot and time charter markets. The model also takes into account contract maturity dates to reflect how future revenues will be affected. As of May 6th, Safe Bulkers Inc. (SB) held the most valuable set of time charter contracts: their premiums make up ~33% of the company’s total shipping revenue.
However, Safe Bulkers Inc. (SB) will have to recharter its ships out at market rates, which are lower then the rates stated on existing contracts, as early as July 2013. If time charter rates in the market stay the same as they are now until July 2014, Safe Bulkers Inc. (SB), DryShips Inc. (DRYS), Navios Maritime Partners LP (NMM) and Diana Shipping Inc. (DSX)’s revenues will be ~22.0%, 12.5%, 22% and 7.0% lower, respectively.
Diana Shipping Inc., better investment than Safe Bulker and Navios
Given the uncertainty surrounding the timing of shipping rates’ recovery (see Stabilizing baltic rates support upsides, short term risk remains), Safe Bulkers and Navios Maritime Partners will be most negatively affected by the valuable contracts. Diana Shipping, on the other hand, is a less risky company to invest in over the short, medium and long-term. The company’s valuation also looks more attractive. To diversify company specific risks, investors can use the Guggenheim Shipping ETF (SEA), which invests in shipping companies worldwide and performs similar to the Dow Jones Global Shipping Index.