2020 marks the beginning of a new era for the container shipping industry.

January 1 brought with it the implementation of a regulation issued by the International Maritime Organization known as IMO 2020, which requires carriers to limit the sulfur content of the fuel they burn to 0.5%—a drastic reduction from the previous cap of 3.5%. The aim of the mandate, one of the most substantial and far-reaching regulatory changes in the marine shipping industry’s history, is to sharply reduce the sulfur emissions of the sector, which, according to the United Nations, transports some 90% of the world’s trade. But the regulation’s impact will be felt across a whole range of fuel-consuming businesses, as carriers compete for supplies against other industrial users. The competition will likely lead to a spike in demand—and prices—for low-sulfur fuel oil (LSFO). Carriers, shippers, and forwarders are all waiting to learn how well the industry will withstand the shock—and whether carriers can maintain pricing discipline, which has historically eluded the sector.


Amid signs that container shipping revenues will remain flat or increase only slightly in 2020 as demand growth sags below the peaks of earlier years (figure 1), the industry’s financial condition remains perilous, with many carriers laboring under heavy debt burdens. Chronic overcapacity has afforded carriers little leverage in price negotiations for much of the past decade. And now comes a regulatory mandate that will drive a sudden and massive increase to the industry’s cost base. There is evidence that some carriers have for years used fuel-price surcharges to supplement profits and that they continue to do so as fuel prices reset during the implementation of IMO 2020. Whether carriers can continue that practice as fuel-market volatility subsides is an open question.

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We estimated in last year’s report that the spread between LSFO and intermediate-fuel-oil (IFO) bunker costs could drive up carriers’ fuel bill by at least $10 billion globally—including some $3 billion on the eastbound transpacific(EBTP) and Asia–Europe lanes, which account for about 20% of global trade (figure 2). That estimate appears to be substantially correct, although if anything, it may understate the magnitude of the increase, which would dwarf the industry’s profitability. The very survival of some carriers will depend on their ability to pass their higher fuel costs along to their customers. In that context, carriers face a vital strategic choice: whether to burn LSFO or to invest in scrubbers that would enable them to continue to burn IFO.


Complicating matters is widespread dissatisfaction with the variety of formulas that carriers use to calculate the energy-cost burden that shippers should bear—known as the bunker adjustment factor (BAF). Every carrier has its own variation on the basic formula, which relies on assumptions about prevailing bunker prices, the size and fuel consumption of a typical container vessel on a given route, capacity utilization, distance traveled, and difference in tonnage between head-haul and back-haul cargoes, among other variables. The lack of transparency and standardization of those variables is a constant irritant to shippers, freight forwarders, and non-vessel-operating common carriers (NVOCCs) and gives rise to the suspicion that some carriers are using the BAF as a revenue-raising tool as well as a cost-recovery and risk-sharing mechanism. The uncertainty can lead to fraught negotiations and frayed relationships that take a toll on both sides and add to the headwinds the container shipping industry faces as it sails into what could be one of the most complex and consequential years in its history.

If there’s an upside to the fuel-market turmoil for carriers, it’s the opportunity to reprice fuel while uncertainty still prevails. The terms they set now will be difficult to unwind even if surcharge formulas are eventually standardized.

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2019 offered carriers little relief from the financial anxiety that has been a constant in the industry since at least 2010. The collective Altman Z-score1 of the 14 container shipping companies that publish their financials deteriorated markedly in the 12 months ending September 30, 2019, falling to 1.16 from 1.35 in all of 2018 and thereby signifying a rising probability of bankruptcy (figure 3). Reductions in asset turnover and market equity versus debt ratios drove the Z-score down versus the previous year. The score—the lowest in the 10 years we have tracked the number—is a worrisome indicator for both carriers and shippers, whose memories of Hanjin Shipping’s 2016 collapse are still fresh.

As that stubbornly low Altman Z-score would suggest, the industry’s total debt grew by $21 billion in the 12 months ending September 30, 2019. A full $15 billion of the increase is attributable to two large carriers that increased the debt on their books by a total of $13 billion to comply with a new accounting rule—International Financial Reporting Standards (IFRS) 16, which governs the treatment of leases. In other words, most of the increase in debt is accounting driven and not reflective of any change in the operating environment.

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The relatively subdued expansion of debt suggests that the overcapacity that has plagued the industry for years may be easing. Total capacity, measured in twenty-foot-equivalent units (TEUs), rose a modest 4% in the last 12 months, which explains the industry’s lower capital expenditures in 2019 and indicates that supply and demand may be approaching equilibrium (figure 4 - to see all figures, download the pdf).

Such relief could not come too soon for carriers, whose leverage ratio rose 3% in the past 12 months, to 8.7x. That increase, though modest compared with earlier years, suggests that any financial shocks in the coming months could shift some carriers’ finances from worrisome to downright distressed (figure 5 - to see all figures, download the pdf). In light of the carriers’ heightened vulnerability, industry stakeholders should be alert to any potential disruption caused by efforts to contain the spread of the coronavirus. Container volumes at Chinese ports have fallen off sharply since the outbreak began. Carriers risk undermining their own efforts to recover profits if they fall back on old habits of chasing volume for the balance of the year.

There is some good news to offset the more-downbeat data, however. The EBITDA margin of the carriers that report their financials rose to 9% in the last 12 months from 6% in all of 2018, whereas no carriers reported negative EBITDA (figure 6 - to see all figures, download the pdf). Profitability was stronger in the third quarter of 2019, with EBITDA margin rising to 11% (figure 7 - to see all figures, download the pdf). But profitability remains well below its historical peak.


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