In 2011, the global economy and shipping market remain on the way of recovery with uncertainties lingering on, including the recent natural disaster and regional conflicts. Shipping companies will seek to develop in a volatile environment. For COSCO International, 2011 will still be the peak period for new build deliveries and the global fleet capacity will still maintain stable growth. We expect our existing businesses will maintain healthy and stable development. Our major challenge will be how to grasp the opportunities by utilising the cash on hand to acquire or develop new projects, so as to achieve a leap in the development of shipping services. Our development strategies include: actively seek development opportunities in core business and try to achieve further progress in the development of marine bunker supply business through acquisitions; explore new value-added services to increase profit drivers along value chain; increase customer base by targeting new Chinese investors in shipping; further expand services network for better geographical presence; increase synergies across business segments. Our aim is to become a specialised and integrated shipping related services provider with considerable scale, competitive advantages and a complete industry chain of shipping services. We will strive to create greater returns for our shareholders.
As at the end of December 2010, the cash in hand of the Group was HK$6.47 billion.
Currently, the total capital expenditure plan of COSCO International for 2011 is approximately HK$192 million, which mainly comprises approximately HK$154 million for marine coatings production capacity expansion and approximately HK$38.00 million for other production and office equipment. In addition, COSCO International will actively develop shipping services and the potential investments during the year may cost HK$3.0 billion, which requires the same amount of cash be retained. At present, such investment plan has not reached the stage which requires disclosure by announcement.
The Board considers the dividend payout ratio each year mainly based on the profit of the Company and the funds required for future development and the prevailing economic and market conditions. The previous practice was to distribute not less than 25% of the recurrent operating profit for the year as dividend. In order to further increase the transparency of the dividend policy and help the investors calculate and estimate the dividend amount, the dividend policy of COSCO International has been changed to distribute not less than 25% of net profit for the year to the shareholders since 2010. The recurrent operating profit will no longer be used as the basis for the dividend payout. In other words, net profit will be directly used as the basis for the dividend payout and the one-off non-recurrent and non-cash income or loss will not be excluded.
Disposal of the shares of SOLHL, being a non-core business, during the year created substantial extraordinary gain for the Group. COSCO International has resolved to pay a one-off special dividend of 35 HK cents per share out of the SOLHL-related profits (including the attributable profit for the year, disposal gain and the reserves realised after the disposal) as a return for the long term support of the shareholders.
COSCO International will maintain a stable dividend policy and distribute its profit under the circumstances for the subsequent years, thus fulfil its commitment to share its returns with the shareholders. The payment of future dividend will be subject to the market changes and capital requirement of the development projects of the Company in the future.
As at the end of 2010, the total trade receivables (net of provisions) of the Company was HK$1,277,778,000 (2009: HK$391,722,000), representing a significant increase of HK$886,056,000 as compared to the end of 2009 mainly due to the recovery of the coating business during the year, as well as the rise in the trading volume of the marine fuel and asphalt business, which resulted in a significant increase of trade receivables.
The management of the Company place emphasis on the receivable management. In addition to regularly reporting and tracking the collection of receivables, the subsidiaries of the Group also set up dedicated management teams or assign the officer-in-charge for collecting and closely monitoring the receivables.
In 2010, Renminbi appreciated by approximately 3.1% against United States dollars for the year. As of the end of 2010, the Renminbi-denominated sales of COSCO International accounted for approximately 24% (the majority of which was recorded by COSCO Kansai Companies and CITC) of the consolidated total revenue and the other sales were denominated in other currencies which accounted for approximately 76% of the total revenue. Currently, the payment and receipt of foreign currencies (currencies other than Hong Kong dollars) are substantially balanced. For the Renminbi-related businesses, the container coating business of COSCO Kansai Companies previously was an exports business and would have been exposed to greater currency risks if Renminbi had appreciated. However, since early 2010, COSCO Kansai Companies had changed most United States dollars-denominated sales into Renminbi-denominated sales with the sales revenue settled in Renminbi and the foreign currency risk due to Renminbi appreciation had greatly reduced for COSCO Kansai Companies.
In 2010, revenue from COSCO Group’s fellow subsidiaries accounted for about 9% (2009: 42%) of the segment revenue from shipping services, of which the proportions of the segment revenues from ship trading agency, marine insurance brokerage and supply of marine equipment and spare parts businesses derived from COSCO Group’s fellow subsidiaries were relatively high, i.e. 87%, 71% and 69% respectively. Segment revenues from sale and production of coatings and trading and supply of marine fuel from COSCO Group’s fellow subsidiaries accounted for about 1% and 1.8% respectively.
COSCO International is currently engaged in the shipping services business whose customers principally are the vessels. All of its revenue is the direct or indirect costs of shipowners or ship operators and does not depend on freight rate change. In addition, the diversified business units of the shipping services are cyclically complementary to each other and generate stable earnings without obvious cycle.
The earnings volatility analysis of each business of COSCO International illustrates that:
The cycles of the businesses of ship trading agency and sale of marine coatings basically are the same with that of the shipbuilding industry. Their revenue or sales amount mainly depends on the volume of new vessels delivered;
The revenue of the businesses of insurance brokerage and spare parts supply will slightly change with the shipping industry cycle due to the difference in the shipowners’ efforts in cost control but the change is minimum;
The marine fuel supply business is not cyclical;
The cycle of the container coating business should theoretically change with the cycle of delivery of new build container vessels (the container shipping companies usually have their containers in place in accordance with the slot to box ratio of 1: 1.8 to 2). This business benefits from the capacity growth of the container shipping market but also is restricted by the demand for container shipping. For example, the global financial crisis in 2009 resulted in a surprisingly sharp decrease in the demand for container shipping and the service of many container ships was suspended in 2009, thus dealing a heavy blow to the demand for container coatings.
According to the above analysis, in our opinion, COSCO International serves both the shipping industry and the shipbuilding industry and the cycle of the shipbuilding industry usually lags behind that of the shipping industry about two years so the temporary volatility of the two industries have limited effect on the overall earnings of the Company. If a continuous global economic recession drives the shipping industry falling into a trough for a prolonged period and the total number of vessels in operation accordingly decrease, the correlation of the two industries will have negative effect on the overall earnings of COSCO International and this may be the greatest risk during the operation of the Company.
The new build vessels ordered through COSCO Ship Trading have been scheduled to be delivered in coming two to three years. Based on the current orders, it is estimated that 2011 will continue to be the peak period for new build vessel delivery. However, the new build vessel delivery will decline year by year from and after 2012. Confronted with such market situation, COSCO Ship Trading will focus on tracking the operating conditions of shipyards and shipowners and coordinate with various parties well to ensure smooth delivery of new build vessels on the one hand, and will grasp new opportunities arising from new build vessels and second-hand vessels while proactively explore new customers of non-COSCO Group to foster business growth, and further explore new business development, thereby providing driving force for the sustainable development of COSCO Ship Trading.
Agency commission is the major revenue of COSCO Ship Trading. Though agency commission revenue of COSCO Ship Trading is collected in stages based on the ship building schedule, such commission revenue on new vessels will only be recognised upon the delivery of the new vessels. Commission revenue on trading of second-hand vessels is payable within a specified period commencing from the delivery of the vessels by the vendor to the buyer and will be booked by the end of that period.
Generally, the demand for marine spare parts is not immediately reflected when the shipping market starts to move upward mainly because the shipowners are not very confident in the future. However, when the shipping market moves upward to a certain extent, the shipowners will begin to increase their purchase. On the contrary, when the shipping market starts to move downward, the shipowners will immediately become more conservative and reduce their orders for equipment.
Yuantong has entire shareholdings in Shin Chung Lin in Japan and Xing Yuan in Singapore so it can have integrated planning and arrangement over the whole business, which produces the synergistic effect. For example, aggregation of orders after the reorganisation will enhance Yuantong’s bargaining power for a preferential price for bulk purchase with the manufacturers. The level of product variety, product delivery, maintenance service and proper inventory and customer service will be enhanced due to the larger network coverage.
As the three companies have same interests, there will be no internal competition because Yuantong is responsible for centralised management. On the basis of integrated business planning, the characteristics of each network will take effect. For example, Yuantong enjoys the regional advantage of Hong Kong (low taxation) and China Mainland. Xing Yuan enjoys the regional advantage of Singapore as a shipping hub. Shin Chung Lin has the advantage of proximity to the Japanese manufacturers and communication. COSCO International’s overseas platform for the supply of spare parts will further make use of the various networks to enhance its overall competitiveness in the market and expand into new businesses.
Along with sustainable growth of China’s economy and implementation of the “Twelfth Five-year Plan”, and driven by series of policies aimed at expanding domestic demand and infrastructure, China’s industrial heavy-duty anti-corrosion coating market is expected to grow steadily. The expanding infrastructure projects will boost the demand for industrial coatings in machinery and equipment and ancillary industries. In addition, in line with China’s new energy development plan, new energy industry is expected to show a rapid growth momentum, and demand for coatings of green energy equipment will increase sharply. COSCO Kansai Companies will mainly develop industrial heavy-duty anti-corrosion coatings and focus on green coatings while strengthening introduction of new technology and research and development capabilities, so as to enhance their competitiveness; properly adjust product structure, with a focus on expansion of new businesses in industrial heavy-duty anti-corrosion coatings for bridges, oil storage tanks and green energy equipment, etc.
The oil-refined products and metal products are the main raw materials of the container coating products. The oil-refined products such as epoxy resin, methylbenzene and solvent account for approximately 65% of the total production cost, while the metal products, including titanium dioxide and zinc dust, account for approximately 30% of the total production cost.
The demand for container coatings mainly depends on the number of new build containers. Uncertainties still exist although the container shipping market is expected to be in the uptrend during the year. It is believed that each container owner and shipowner will be prudent after placing massive orders in 2010. New build container volume will not substantially increase, and the overall demand for container coatings is expected to be stable. In addition, as the awareness of environmental protection is on the rise all over the world, traditional solvent products will face increasing pressure due to environmental protection. Demand for water-based container coatings with low pollution and new technology will increasingly grow. According to the estimates of the industry, the demand for new build containers will be between 2,500,000 TEUs and 3,000,000 TEUs in 2011, which is similar to the container production volume in 2010 (approximately 2,740,000 TEUs). Based on the consumption of 0.075 tonne coatings per TEU, the estimated demand for container coatings will be between 190,000 tonnes and 230,000 tonnes in 2011.
During the year, the Group’s share of profit from Jotun COSCO was HK$76,552,000, down 25% from 2009 primarily due to the overall decline in the gross margin as a result of Jotun COSCO being affected by the rising raw material prices during the year. Oil-refined by-products and metal products accounted for approximately 79% and 12% of the raw materials respectively used for marine coating production of Jotun COSCO. The prices of oil-refined products such as resin and solvent continuously rose in 2010, being affected by the international crude oil price. The price of metal products such as copper, zinc and aluminium increased continuously during the year.
For 2010, as 77% of the marine coatings sales of Jotun COSCO was new build vessel coatings, whose selling price was fixed when the new build vessel contracts which were of long-term contracts were entered into and additional material cost due to the rise in raw material prices cannot be shifted. As a result, the gross profit margin of Jotun COSCO decreased.
Jotun COSCO will actively develop the dock repair market for coatings, thus increasing its sales in terms of coating repair and maintenance and reducing the effect of higher costs on gross profit margin.
Sinfeng will steadily explore new business, including development of new customers and oil suppliers, perfection of agency system and formation of regional marketing network on the bases of consolidation of its existing market business volume and long-term cooperation relationship between customers and suppliers. In the meantime, Sinfeng will proactively pursue integration and try to extend to the upstream and downstream businesses along the industry chain such as storage tanks and bunkering barges respectively, so as to realise leap-forward development in supply of marine fuel.
The profit made by Sinfeng falls within a reasonable market level and also depends on the demand of customers as its profit model is built on the profits made on the spread between contracted transaction amounts. The gross profit of Sinfeng is generally calculated by multiplying the business volume by a fixed spread. Thus, a change in oil prices has little direct impact on the unit gross profit but only affects the calculation of the gross profit margin. An increase in oil prices will exert downward pressure on the gross profit margin, but the gross profit margin may rise if oil prices decrease. However, escalating oil prices may hamper the global economic growth, and in turn affect the future business expansion of Sinfeng, and may affect its profit.
It is unnecessary for Sinfeng engaged in the oil supply business to carry out any hedging activities if the sales and purchases of fuel oil are quoted with fixed prices. Otherwise, Sinfeng has to convert the variable purchase price to a fixed price through traders. Through this method, Sinfeng can effectively prevent the price risk and lock up the gross profit of the marine fuel supply business.
