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TOC Asia Singapore, Marina Bay Sands, 20-21st April 2016

ADAPTING TO THE ‘NEW NORMAL’:

CHINA’S SLOWDOWN & THE

IMPACT ON CONTAINER SHIPPING

Dr Jonathan Beard, Vice President, ICF

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Market Share (by Capacity), LH Axis HHI (cumulative), RH Axis

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Container Shipping Industry – Demand Remains SubduedStructural and Cyclical Factors at Play

Over the medium term world trade growth &

“container trade multiplier” has fallen.1990-

99, container volumes grew 3.5x rate of

global GDP growth; 2000-09 only 2.7x GDP

growth; average GDP-to-trade multiplier of

~1.2 since 2010

2015 H1 global merchandise trade (incl.

non-containerised) fell 13% yoy

Sources: ICF based on World Trade Organization (WTO) and

National Bureau of Statistics China

Cyclical and structural reasons for slowdown:

- Economic uncertainty in Europe, US recovery

relatively strong

- Slowing pace of trade liberalisation

- China (fastest growing & 2nd largest economy)

slowing down: Q1 yoy 6.3%, quarter over

quarter 1.1%...

- …and restructuring away from dependence on

export growth….

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China Re-Balancing – Soft or Hard Landing?Long-term constraints & challenges – re-balancing growth will take time

Rebalancing the Economy

− Infrastructure pump prime is increasingly

played out - returns on capital are diminishing

− Rationalisation of capacity without mass

unemployment? Capacity utilization:

Steel industry 50%, 2015 (~400mil of ~800mil

tonnes pa output)

Cement industry 50%, 2013

Impetus for Belt and Road?

Source: IMF October 2013; Gavekal Dragonomics

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2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

− Consumer cannot replace demand over-night - last

decade accounted for small and declining share of

GDP: ~35-36% of GDP.

− Growth of shadow banking and debt overhang?

− Geographical re-balancing also slowing: e.g.

property markets: Shenzhen & Shanghai up +50%;

but smaller cities still struggling with a property glut

Household Debt as a percentage of GDP

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China Re-BalancingDemographics and supply chain re-alignment may suppress trade growth,

but strong upside for agricultural trades

Demographics – labour force has peaked. Will “China grow

old before it gets wealthy”?

- Easing of one child policy may be too late…and can couples

afford it anyway? By 2050 24% of population >65yrs (9% 2015)

Access to resources: water, but also demand from a growing

middle class for imported foodChina’s employed

workforce(million)

Sources: Global Demographics; Department of Statistics, Ministry of Interior, Republic of China.

IMF 2013 and 2014; Australian Bureau of Agricultural and Resource Economics and

Sciences

China producing more semi-

manufactured products – “taking

in more of the supply chain”

- More of China’s manufacturing is

taking place within county: share of

imported components in exports fell

from 60% in 1990s to 35% in 2010s,

depressing trade.

Urgent need to address

environmental degradation and

pollution…

China’s imports of selected agricultural

commodities

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China’s New Normal - Delivering Sustainable Economic GrowthCan high economic growth be delivered whilst addressing environmental degradation & pollution?

China is way ahead of many developing countries in its

environmental policy formulation….and considerably

ahead of any developed economies at similar stages of

development

However the challenges are immense:

– Illnesses and premature deaths linked to China’s pollution cost about 3% of annual GDP (World Bank)

– Bad air contributes to an estimated 1.6 mil deaths a year; ~4,400 people per day

– Firms struggle to fill executive roles. 34.9% of firms in 2013, 48% in 2014, 53% in 2015 (Bain; Amcham China)

Source: www.chinadialogue.net

China’s PM2.5 historical data

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What About “Belt and Road”?Game changing driver of globalisation….or poorly conceived dumping of surplus capacity?

Ambitious plan by Beijing leadership to

build and upgrade highways, railways,

ports, and other infrastructure

throughout Asia & Europe designed to

enrich the economies of China &

~60 of its nearby trading partners.

Has generated enthusiasm and a high

level of interest, but also cynicism and

concern.

Some see the initiative as a solution to

China’s over-capacity at home (e.g. in

the steel & manufacturing sectors) by

accessing / investing in new markets

overseas.

May have significant economic impacts for the smaller economies in central Asia, but less so elsewhere

Funding has been primarily loans rather than grants, and not without “white elephants” / vanity projects of

local politicians – beware the experience of Sri Lanka, now seeking IMF assistance.

Is already influencing investment

decisions by China backed

transportation firms:

“Our development plan mirrors One Belt One Road and this is the

primary driver of our expansion strategy. We continue to look for

more partners to work with overseas.” Bai Jingtao, Managing

Director at CMHI, Mar 2016

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A Subdued China (& Global) Growth Engine

Means Liner Focus on Costs Continues

Global Spot Freight Rates Average vessel load factor

FE-US route

FE-Europe route

Source: Shanghai Shipping Exchange; Shanghai

Containerised Freight Index; Alphaliner; ICF

Growth of Container Ship Capacity and Demand, 2000-16

$/FEU Subdued demand growth and

declining unit revenues….

Reduce unit costs, including via

mega-vessels, but this has

exacerbated the supply-demand

gap and depressed utilisation

levels (and hence revenues)

Situation will prevail for the

medium terms, during which

profitability and sustainability

relies on further cost reductions

and potentially M&A activities

Line’s will be ever more focused

on mainline network costs

Ports and Terminals will

continue to face downwards

pressure on revenues and

demands for higher service

levels (faster turnaround)

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And Financial Sustainability Remains Illusive Terminal operators have generated healthy EBITDA margins - carriers have not

Some recent improvement, not least given a ~50% decrease in fuel costs, but liners’ return on capital is

still horribly weak. Can lines shift the balance to their favour?

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APMT HHLA Eurogate DP World ICTSI HPH HPH Trust CMHI PSA

EBITDA Margin - CT Operators 2009 2010 2011 2012 2013 2014 2015

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EBITDA Margin - Liners 2009 2010 2011 2012 2013 2014 2015

Source: ICF; Annual Reports

Notes: EBITDA / Revenue; recent PSA performance to be confirmed

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Market Share (by Capacity), LH Axis HHI (cumulative), RH Axis

Continued financial stress and loosening of Government ‘support’,

finally driving consolidation in a traditionally fragmented industry?

Limited concentration of industry: top 5 operators account for about 47% of capacity;

86% for top 20 operators. Relatively little consolidation, but change underway?

Notes: Herfindahl-Hirschman index (HHI) measure for market concentration widely used by EU Directorate General for Competition, U.S. Federal Maritime Commission (FMC) and U.S. Department of Justice. Calculated by squaring market share of each firm competing in a market, and then summing the resulting numbers. E.g. if only one firm in an industry, that firm would have 100 per cent market share, and HHI would equal 10,000 (100^2), indicating a monopoly. Or, if there hundreds of firms competing, each would have nearly zero market share, and HHI would be close to zero, indicating nearly perfect competition.U.S. DoJ considers a market with HHI <1,000 to be a competitive; 1,000-1,800 to be a moderately concentrated marketplace; and > 1,800 to be a highly concentrated marketplace. As a general rule, mergers that increase the HHI by more than 100 points in concentrated markets raise antitrust concerns

Herfindahl-Hirschman

index (HHI) for industry*

of 753, well below the

trigger point of 1,000

Even after CMA-APL

and COSCO-CSCL

mergers HHI still ~833*

Much higher for certain

routes, where cabotage

restrictions limit

competition

Alliances aiding or

hindering consolidation?

Market Analysis top 20 Carriers

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Huge challenges for Beijing leadership to restructure the economy, address environmental concerns and

deliver a “soft landing”. The economic miracle of the last two decades has hugely benefited China’s citizens

and helped legitimize continued one party rule by the CCP

Response to last year’s stock market collapse, indicates that Beijing will reverse reform when control comes

under threat. Implications for Renminbi convertibility and easing of capital controls?

“Belt and Road”?

– Details still unclear, but impacts for smaller economies of land-locked central Asian countries more significant

than for larger more established players – beware loans for economically ill-conceived projects.

– Impacts for China backed transportation companies (e.g. CMHI) are clearer – investment decisions will be

influenced. Long-term strategic & political considerations versus pure financial returns / market analysis?

Scale, relative stability and quality of China labour & infrastructure, versus Asian competitors, ensures

China’s dominance will not be threatened in the medium-term

Subdued demand will continue. PRC port market is maturing, led by S China / PRD port cluster – days of

sustained double digit or high single digit throughput growth have gone. Mainland China’s top 8 ports YoY

3% 2015; YoY 0% 2016 Q1 YTD

Relaxation of cabotage regulations would spur some growth at Mainland ports, primarily at expense of Asian

competitors, but China Cosco Shipping will continue to lobby fiercely against

Lines have fared less well than container terminal operators (CTOs) in the low demand growth environment,

although even the latter can expect EBITDA margins to be eroded.

Continued market exits from liner shipping (M&A)? Will lines finally secure a stable financial footing? Will

that lead to a re-balancing of the relative financial performances of CTOs vs Liners, or “win-win”?

Wrap - China’s “New Normal” Low demand growth in China (and globally) for liners / terminal operators - will the lines finally operate

sustainably…and can they re-set the customer relationship at terminals to their favour?

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Wrap – Liner Shipping’s “New Normal?”

Are we seeing the liner market finally clear and financial discipline take over?

Asked by ICF at TPM Los Angeles March 2009

67% of audience disagreed….they were right.

Will it finally be different this time?

“Shipping lines will emerge from the recession leaner, more commercially

focused and the over-capacity binge of the last three years will not be

repeated.” Agree / disagree?

“Those who don’t know history are

doomed to repeat it.”

Edmund Burke

“Learn from history or you're

doomed to repeat it.”

Jesse Ventura

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Ports, Logistics & Transport Services

Regional Contacts

Jonathan Beard

Hong Kong & Beijing

+852.2868.6980

+86.10.6562.8300

jonathan.beard@icfi.com

Wai-Duen Lee

Hong Kong

+852.2868.6980

waiduen.lee@icfi.com

Ben Hackett

Singapore

+65.8653.3263

ben.hackett@icfi.com

Thank You – Any Questions?

ICF Transportation Projects

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ICF - Selected Clients

Tiger Global Management, LLC