How do shipping companies make a profitable business?

The most important decision for shipping companies right now is what the fuel they will be using will cost in five years.

My phone has been ringing lately as the transport sector ponders how shipping operations will change in the future due to tightening environmental regulations. But first, let’s get back to the basics: how shipping companies make a profitable business.

Shipping companies make a profit in two ways: 1) by buying and selling ships and 2) by transporting cargo. The biggest profits in the maritime sector are usually made by buying or selling ships at the right time. Those shipping companies that have a large fleet at their disposal during the boom period, when there is a lot of goods to be transported and freight prices are rising, make a lot of profit. On the other hand, those that have a large fleet burdened with them during the downturn, when there is little cargo and freight prices are low, make big losses or even go bankrupt. More on this in my previous blog.

But the actual day-to-day business of shipping companies is transporting cargo at sea. In this case, the most profitable shipping company is of course the one with the highest income compared to its expenses.

Income for the shipping company

The most significant factor in shipping company income is the general freight level. When the world is in a boom period or for other reasons a lot of goods are being transported, freight can rise significantly. This happened, for example, during the pandemic, when container handling in ports slowed down and the price level skyrocketed. Container shipping companies made big profits at that time.

Another significant factor affecting a shipping line’s income is competition. If several shipping companies offer the same transport, and they also have free capacity, competition keeps prices in control.

From the shipping company’s own perspective, maximizing transport capacity is important: how much cargo can be transported in a certain period of time, i.e. how much cargo is transported at once and how many days a year the ship is in use. The larger the ship, the more cargo can be transported at once. In addition, reducing the so-called ballast days, i.e. idle days, is the secret to the success of several bulk cargo shipping companies.

In liner traffic, frequency indicates how many trips a ship can make in a year, i.e. how many times a ship can transport cargo in a certain unit of time. Frequency primarily depends on the ship’s speed: a faster ship can transport more cargo in a year than a slower ship. In addition to sea time, speed is also affected by port time and loading efficiency, i.e. the faster a ship is unloaded and loaded in port, the faster it is back in productive use.

In passenger-car ferry traffic, on the other hand, both passengers and cargo generate revenue. Tallink Group has also presented its revenue structure in its annual report for years, which shows that freight and passenger ticket revenue together account for less than half of all revenue. The majority of the company’s revenue comes from so-called on-board sales. In this business the impact of sales on board the ship on profitability is therefore the most significant factor.

Costs

The Figure 1 shows the shares of the various cost components in ship traffic between Finland and foreign countries. We can see that fuel costs have the greatest impact on total costs.

The next largest share is made up of the ship’s capital costs and repair and maintenance costs, while other costs are considerably smaller.

The data in the accompanying figure is already six years old. Due to the tightening of environmental regulations in this decade, fuel costs will increase even further.

Looking at the figure, it is not surprising that shipping companies are currently striving to minimize fuel consumption. Fuel consumption can be reduced in several different ways, perhaps the most significant of which is economies of scale. By increasing the size of the ship, the costs per unit transported are reduced.

Another significant measure to reduce fuel consumption is to reduce the ship’s speed. Unfortunately, this reduces the ship’s productivity, as less cargo can be transported in a given time unit. In this case, reducing port time may be the most productive solution.

Figure 1. Distribution of costs by cost types for different ship types in traffic between Finland and foreign countries on average. The calculation takes into account both Finnish and foreign flagged vessels (source: Tapio Karvonen and Jukka-Pekka Jousilahti: Unit costs of shipping 2018. Finnish Transport Authority. Helsinki 2020. Finnish Transport Authority publications 49/2020).

Technological development has been rapid in reducing fuel consumption recently. The words like air lubrication, wind rotors, solar panels, ship bottom design, development of propulsion systems and propellers, shore power, etc. are currently on the minds of ship designers.

In addition to the above, shipping companies of course have many other costs, such as ship maintenance, salaries and other crew costs, taxation, port, pilotage and fairway fees, etc. Many shipping companies have changed their ship’s flag in order to get a lower tax rate, and on the other hand, subsidies are paid in Finland to cover crew costs. But as the picture shows, these costs are smaller than the capital and fuel costs of the ships, i.e. other costs and their subsidies have a smaller impact on the profitability of the shipping company in the overall picture than capital and, above all, fuel costs.

Profitability of a shipping company

So what can be concluded from the above? How can profitable shipping company operations also be carried out in this and the next decade?

– Almost all measures that can reduce fuel consumption are profitable.

– The most important decision for shipping companies at the moment is what the fuel they will be using will cost in five years.

– The impact of ship investments or ship chartering prices on a shipping company’s profit is large. The correct timing of investments is important.

– Increasing the size of the ship has recently significantly increased shipping companies’ profits.

– Speeding up the ship’s turnover time offers significant additional profit. Speeding up handling times in port can often be more profitable than increasing ship speed at sea.

– However, shipping companies’ profits and revenues are largely dependent on the general level of shipping freight large where there are large fluctuations.

The article was previously published in Finnish in Navigator Magazine, an online magazine for maritime professionals, on December 19th, 2024.