Zim flew higher in shipping boom, falls faster as market sinks

Sea carrier Zim outperformed its much larger rivals at the height of the container shipping boom. It’s still making over a billion dollars a quarter, but as the market corrects, it’s coming back to Earth faster than most.

Zim (NYSE:ZIM) announced lower quarterly earnings on Wednesday and cut its full-year guidance. Not only is its spot revenue declining, but it is agreeing to lower contract rates mid-contract and is handling less volume due to weaker demand and ongoing congestion at East Coast ports.

Zim reported net income of $1.17 billion for the third quarter of 2022, down 20% year over year and 13% from the second quarter. Earnings were $9.66 per share, below Bloomberg’s analyst consensus of $9.81.

The company lowered its full-year forecast for adjusted earnings before interest, taxes, depreciation and amortization from $7.4 billion to $7.7 billion, a 6% reduction from its previous estimate.

The new outlook implies record earnings for 2022, but fourth-quarter EBITDA was down 41-57% from the third quarter.

“We have seen a steeper decline in freight rates in recent weeks than we previously assumed,” Zim CEO Eli Glickman said on a call with analysts Wednesday. He pointed to “a difficult outlook for container shipping, particularly given the scheduled vessel deliveries expected for next year and 2024.”

Zim’s average freight rates are down

Rates averaged $3,353 per twenty-foot equivalent unit in the third quarter of 2022. That was up 4% year over year but down 7% from the second quarter.

Zim, the 10th largest shipping company in the world, benefited during the boom from high exposure to the skyrocketing market. It had a concentrated capacity in high-yield transpacific trading and strong spot exposure. Now, that high operating leverage is lowering Zim more than carriers with much larger fleets like Maersk and Hapag-Lloyd, which have a larger service footprint and very strong contract coverage.

Zim’s average freight rate (including both contract and spot) is still higher than that of Maersk and Hapag-Lloyd. But Zim peaked earlier and the gap is closing. Since the first quarter, Zim’s average freight rate has decreased by 13%. Over the same period, rates at Maersk and Hapag-Lloyd increased by 11% and 12%, respectively. All three expect fourth-quarter rates to decline relative to the third quarter.

(Chart: American Shipper based on data from Maersk, Hapag-Lloyd, Zim)

During the first nine months of this year, 34% of Zim’s volume was in the transpacific trade. Zim CFO Xavier Destriau said spot rates in this market, particularly in the Asia-West Coast lane, were particularly hard hit.

“Trade between Asia and Los Angeles has been the hardest hit,” he said. When asked whether spot rates are at or below breakeven, she said: “In some trades we are not far from that. [For Asia-West Coast] there’s not much more room for reduction.

Spot rate valuation in $ per 40-foot equivalent unit (Graph: FreightWaves SONAR)

Zim renegotiates contract rates

On conference calls from Maersk and Hapag-Lloyd, executives said higher contract rates were trumping lower spot rates, allowing average rates to continue rising throughout the third quarter. They also argued that they typically weren’t renegotiating annual contracts.

Maersk CEO Soren Skou said: “I know there has been a lot of talk about customer bargaining behavior. But the reality is that the vast majority of our contracts are holding, our contract portfolio has performed as expected.

According to Hapag-Lloyd CEO Rolf Habben Jansen, “If you look at the third quarter, we still had pretty decent contract compliance.”

Zim, by contrast, confirmed that he had renegotiated the prices of existing contracts. He cited this as one of the reasons average rates are down. Zim’s main contract exposure is on the transpacific, where 50% of its volumes are subject to annual contracts that start each May.

Destriau explained, “As the spot market fell sharply, spot rates fell below contract rates and crossed over at one point in the quarter. More importantly from our customers’ perspective, the demand wasn’t there. So, we have to live with this new reality.

“Most of our customers are not one-season customers. They are recurring customers with whom we have a long-term relationship. We intend to continue having those relationships for the long term. With the spread between contract rates and spot rates widening, we had to sit down and agree to repricing with our own [contract] customers in order to protect part of the volume. We had to be pragmatic and make sure we found a middle ground between our clients’ interests and ourselves.”

Stock bulls versus bears

The stock performance of container shipping stocks like Zim’s is being driven by two opposing forces: downward earnings momentum on the one hand and perceived low valuation on the other.

As Deutsche Bank analyst Andy Chu wrote in a Hapag-Lloyd research note on Thursday: “There continues to be a two-way pull on container shipping at the moment, with bulls arguing cheap valuations and bears supporting negative earnings momentum in freight rates and earnings. We side with the latter: that from here it’s all about momentum. We worry about the 27% of the current fleet that is on order and how this could be absorbed in an environment of weaker demand”.

Trading in Zim’s stock is squarely in bear range: It’s down 70% from its 52-week high.

During an interview with American Shipper in October, Jefferies analyst Omar Nokta said many value investors are eyeing container inventories. “Investors don’t want to get involved right now as freight rates are still down,” he said. “But as we start to see some stability in freight rates, I think buyers will flock to this sector because of the value these stocks hold.”

Zim checks the box for value investors. Not only does it remain highly profitable, but it had $4.47 billion in cash at the end of the third quarter, or more than $35 per share. The stock closed at $26.95 on Wednesday.

However, spot rates are still declining, albeit at a slower pace in October and November than in August and September. Rates have yet to hit a bottom, so the stabilization trigger Nokta mentioned has yet to fully materialize.

Zim’s new guidance assumes the rate decline isn’t over. “We expect rates to continue to fall,” Destriau said. “Eventually, we think all trades will find a new balance,” he said, but acknowledged that “there is a lot of uncertainty today about when rates will stabilize.”

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