Drewry’s analysis of the dry bulk market indicates that investing in second-hand Capesize vessels at current heated values is unlikely to generate enough returns to justify the associated risks and cost of capital, based on the long-term charter rate projections of these vessels.
Second-hand activity in the Capesize market has been surging since late 2023, with transactions in January-May 2024 doubling YoY and exceeding the annual transactions in 2020-22. The values of five-year-old vessels have been trending upwards since August 2023 and skyrocketed 23% YoY in May 2024, reaching the historically high level of $62 million.
The frenzy in the market is attributed to a positive long-term outlook based on strong supply-side fundamentals juxtaposed with promising demand avenues. The orderbook-to-fleet ratio was a mere 6.1% (in dwt terms) in end May 2024 while the demand for Capesize vessels is expected to grow at a CAGR of 3.1% over the next five years, the highest among all segments (according to Drewry’s Dry Bulk Forecaster – May 24’ edition). In addition to sustained demand for iron ore, the consistently rising demand for bauxite has been supporting the high demand for Capesize vessels.
As the charter market defied the seasonal weakness in 1Q24, rates remained historically high in the usually lean period. The buoyancy in charter rates along with the surge in second-hand values resulted in a modest second-hand price-to-EBITDA ratio, nudging buyers to acquire more vessels during this period.
However, despite the positive outlook for demand and sluggish additions to tonnage in the market over the next three years due to limited newbuild deliveries, the current second-hand values are overheated, suggesting that investment at current valuations might not fetch returns as expected by buyers.
According to Drewry’s analysis, an investment in a 5-year-old Capesize vessel at $62 million should offer a project IRR of 4.5%, which is significantly lower than the WACC of 7.9%. Similarly, the equity IRR for this investment is 3.2%, which compares with the cost of equity of 9.1%.
We arrived at similar results in the other two scenarios wherein we used the high-case forecasts of 1-year TC rates and FFA projections in our IRR model, resulting in a project IRR of 6.5% and 3.5%, respectively.
Using NPV analysis, we have arrived at an equity NPV of negative $13.2 million and a project NPV of negative $14.4 million, which suggests that investment in a five-year-old non-eco Capesize vessel at current prices is not lucrative.
If a similar vessel were purchased six months ago for $48 million, the project IRR would have been 7.5%, which is three percentage points higher than the project IRR generated by investing at current values. The equity IRR would have been much higher at 8.2% previously, as compared to 3.2% in the present scenario when the second-hand market is overheated.
Source: Drewry