Ship Broking : Tuesday 3rd October

11.30 - 12.00 Janet McFee - Cleaves & Company Ltd

Ladies and Gentlemen: good morning and welcome to this part of FORUM 2000 celebrating ITIC's 75th Anniversary.

I have been invited to speak to you today on the subject,

Valuations - today's problems

Or perhaps better,

How to avoid giving our friends here at ITIC heart failure.

Our problems today are undoubtedly a consequence of what has gone before and as Robert Louis Stevenson said

"Everybody sooner or later sits down to a banquet of consequences."

When I started specifically in the business of Ship Valuations, it was during the aftermath of the highly publicised debacle of Adriatic Tankers failed bond issue.

From that moment the attention of the press on the issue of ship valuations has been very focused and there has been an overall resultant lack of credibility - probably even more than before.

We are all now, in a variety of ways, dealing with these consequences but there were many contributing factors leading to this current situation where credibility is so questioned.

Some of these issues are:

- conflicts of interest (who are we serving?)

- external pressures (why is a valuation required)

- commercial pressures (such as lack of time or lack of information)

- competence and ethics competence being the ethical content of work. As Robert B Horton of BP America said in 1988, "The ethical person is conscientious - you do whatever you do to the best of your ability and sensitivity."

So let us consider these factors.

As we all know, recently the valuations business has suffered a great deal of poor press as a result of various defaults of a number of Bond Issues. In some of these instances, potentially improper or incorrect valuations have been attributed to these defaults. As a result, one of the main problems I perceive we are facing is persuading the banks and financial institutions who employ us that they can expect to receive a credible and properly researched, duly diligent, impartial valuation which can be supported. They are right to be concerned. For example, whilst I have been asked in the past to produce valuations for a certain bond issue, the question I was asked was not "Please can you value these ships?" but "Can you give me these values?" When, after checking, I replied that my values were more or less consistently US$2M below the levels I had been quoted I was told "Don't worry, we don't need it anymore, we've found someone who'll give us what we want." Needless to say, that bond issue subsequently fell into default.

Conflicts of interest. Who are we serving?

When a broker earns his/her living through buying and selling ships it is an acknowledged fact that sometimes the principle will exert more than a little pressure upon us to produce an optimistic valuation, something which makes it difficult for us to remain impartial yet retain out clients' good will. It matters not who has commissioned the valuation, the bank directly, or the ship owner on the bank's behalf, nevertheless, I am sure we have all experienced many instances when we receive a phone call from the owner or someone in his office to extol the virtues of that particular ship and, by the way, to mention a new and pressing purchase requirement....

It is for this reason that I no longer act as a Sale & Purchase broker and have moved from Cleaves Shipbroking to The London Shipping Consultancy Ltd, one of a group of companies which share the same ownership structure and which was specifically established to provide a range of marine, commercial and technical advisory services, primarily to shipping banks and financial institutions. Of course it is imperative that I maintain a one way window into the daily activity of our sister company, Cleaves, and of the market in general in order to keep all valuations relevant and current. Within this structure I am able to focus fully on valuing ships without distraction or conflict of interest and this affords me the time to catalogue and exercise properly all necessary due diligence in formulating my opinion.

Of course the 'pressures' that are brought to bear on the brokers are not all necessarily on the part of the Owners. Again I am sure we have all encountered certain instances when a financier has asked for a valuation and on receiving it replied that it is not enough and they've shopped around until they have found one that 'will do' in order that they can get the better deal through their Credit Committee and onto their books.

We have good banks and bad banks too! We have established shipping banks with long histories of shipping loans enjoying the support of very experienced personnel, and we have others whose internal machinations require that the bankers career proceeds at a smart lick through the many various departments leaving little or no experienced personnel in charge. In such instances the drive is more to meet targets and get deals on the book rather than take a long cool look at the market and its cyclical elements and make an informed decision on whether or not it is wise to lend at this stage or on what terms such a loan is justified.

The commercial pressure of time, or the lack of it is also very much a problem. The days of dashing off a few valuations in an otherwise already overloaded day to supplement the brokers' income should be over. That is not to say they are for all but more and more, if our work as valuers is to be taken seriously, then the time given to the job in hand should be commensurate.

Information, or indeed the lack of it, also plays a very large part in the difficulties faced by all valuers today. It is important to be properly instructed by the client both as to the description of the vessel and what factors are to be considered, i.e. whether or not there is some employment to take into account and if so what are the details of the charter and charterer. I am sure we have all had occasions when a bank has asked us to value a ship by simply giving us the name of the vessel, and they have been completely unable to supplement this with any further description even though they have already financed the vessel and it is one of the many in their portfolio. This is because many bankers continue to pursue the 'relationship' banking approach and it is difficult to impress upon them the importance of knowing the detailed specification of the vessels they finance if they wish to receive from us a properly informed opinion. Of course, 'relationship' bankers would state that they largely don't care what the value of the ship may be if the client is a suitable Corporate or is a long-established trusted and respected client with good cash-flow and presentable balance sheets. Well, we've all seen some of those 'good names' founder, whether through mismanagement, over-ambitious expansion or simply market forces. Similarly, through the condition surveys we carry out at The London Shipping Consultancy Ltd, we have on several occasions inspected vessels within such large corporates or well-reputed large private ship-owning companies. In some instances we have discovered defects of which the owner was quite unaware but which fundamentally affected the integrity of the vessel. Our Surveys regularly demonstrate to us that you cannot (sadly) depend on the ship's documentation alone - too often the disparity between the ship on paper and the ship in reality is startling.

At the LSC, when we carry out a Condition Survey, we issue two originals of our report to the Bank or Financial Institution who has commissioned it so that they can present one to the Owner and open a full and frank discussion over any issues highlighted which may cause concern, and there have been times when the Owner has been most surprised to note any defects at all. Such defects need not relate to a shortage of funds or a desire to make shortcuts but rather to a technical superintendent or manager scheduling work in his own way and not necessarily within an appropriate time frame. The Owner is then able to address and rectify these issues and the bank and Owner's relationship is preserved.

Increasing regulation renders it more important for banks to know not only the market value but also the condition of the assets they finance. If the vessel is secured with long-term employment, it is important to know that she will be fully able to serve it.

There are many different types of valuation of course, with charter, charterfree, against long term COAs, in damaged condition and so on, historical, current, (sometimes we are asked to opine on future values too!), but the general statement most commonly given is based on 'the vessel's fair market value, charterfree, assuming average condition, as between a willing Seller and a willing Buyer' and for the sake of ease it is on this premise that I intend to focus. Such a value ought to be consistent with market with market forces at any given moment in time, regardless of who is commissioning the valuations statement, be it a shipowner, a banker or financial advisor, a lawyer or underwriter or average adjuster.

Again, desktop appraisals it can be argued aren't worth the paper they are written on without a ship inspection and there is some merit for this argument. We at the LSC have some natty little photos of exactly the same part of two sistership's main engine, consecutive hull numbers from the same yard, same year showing two ships of completely different value. One was well maintained and every bit as you would expect a vessel of her type and age to be. The other was an accident waiting to happen. So, apart from a desktop appraisal, we now also offer 'the enhanced valuation'. This is a desktop valuation (assuming 'average condition') combined with a condition survey, and the desktop value is then adjusted up or down to reflect the vessel's actual condition which is something that can be readily quantified by our Surveyors.

However, the desktop appraisal does have some merit on its own in helping banks to monitor the average value in normal market conditions, that is on the premise outlined earlier, "willing seller/willing buyer" etc and on the assumption of average condition for a vessel of that type and age.

To say that the valuation is purely for internal banking purposes however suggests that insufficient account is being taken of this aspect of the business and recently this very statement caused quite some embarrassment to one banker I happened to be standing next to at a cocktail party.

He was talking to a well-known shipowner, a client of his, assuring him that of course they only loaned to clients with whom they had an established and trusting relationship and of course they did not rely on valuations to decide whether or not to proceed with a loan. (Nor indeed should they solely, as the valuation represents only one small aspect of the whole due diligence procedure which should be followed.) However, whilst the owner complained about the ever increasing number of inspections and fees that were being incurred in this increasingly regulated business, the banker assured him that he need not be concerned, the valuations were merely for internal purposes whereupon, and I could have written the script for him, the client responded that in that case the bank could pay for them.

Which brings me to another little problem - that of fees! Again, because of the high profile cases reported over recent years which have brought the art of valuation into some disrepute, it has also caused this expertise to be underrated. But if the job is properly done, it is worth a proper fee. Why seek an 'expert' at all unless the advice being sought is going to be worth having. You wouldn't expect to have to pay your house valuation fee when purchasing a property to someone who didn't have a clue about the market or the properties in your area or the resources and backup to find out. Admittedly you don't expect to commission regular valuations to monitor the value of your house during its mortgage period, but houses tend to stay put! Unlike ships they don't travel the seas subject to the vagaries of wind and weather, navigational error, machinery failure, occasional inadequate management or operation and ever-increasing regulations. And if one is to appropriately assess and guard against the risks, pro rata, the fees for valuation and/or condition survey tend to pale into insignificance when considering the gross capital outlay or the potential liabilities. But nobody wants to pay. The bank doesn't want to absorb the cost and the owner complains that he has to cover too many fees already. Our clients need to be persuaded that our work is diligent, is properly researched, is documented and is 'worth it' and we need to make sure that this is so.

But not all valuations are offered to banks of course. How does one proceed when valuing a ship owner for example?

Recently during Posidonia I was talking to a well-known local shipbroker who was complaining to me that a client of his had asked him to value his ship. Perhaps somewhat unusually the client did not tell him in advance what value he required. However, when the broker reverted with his value, not surprisingly the client informed him that he needed another half a million.

The broker salved his conscience by giving him a quarter and told me "Janet you've got to understand how business is done here. If you don't give your clients what they want you won't have any clients left." How is that for impartiality! It made me feel quite grateful to be outside that potential conflict of interest.

From what I am saying, the obvious assumption of course is that no ship owner will ask me for a valuation because I won't give him the valuation he wants or needs. Well, I will if it happens to agree with my research, but I won't be pressurised if it does not. Nonetheless, I have several shipowning clients who come to me regularly for valuations. More and more people today are beginning to value due diligence (we are back to Mr Horton's "competence is the ethical content of work.....") and whilst one can never know everything and valuing I am sure we are all agreed will never be an exact science, as long as all values are offered conscientiously and are given having exerted all necessary due diligence, it ought to keep the heart patterns of out protectors as ITIC on a reasonably steady beat.

So the problems are amongst others:

- credibility

- poor press

- conflicts of interest

- external and commercial pressures

and we've all taken various steps to try and counteract some of these problems.

Some amongst us have sought to ally the valuation service with other reputable bodies although to date it would appear that nothing has come of this. Others, perhaps in an attempt at self-regulation have sought to 'club' together and now we have two valuations panels, one in London and one international brokers panel.

We at The London Shipping Consultancy have removed the valuations business from the broking desk where time pressures and conflict of interest can impinge ad we've aligned it with a technical and commercial consultancy.

As consolidation and regulatory processes progress, the quality of any valuations service will need to be commensurate. Quality comes from the Latin word "qualis" which means "of what kind". The customer decides: he decides whether we are the kind of organisation that he wants to do business with today and over the long term.

It seems to me, therefore, that it is up to all of us to try and contribute to this process now and that whatever structure a company initiates for a valuations service, none can be of greater importance that ensuring its quality be exercising proper due diligence at all times.

I shall conclude with a proverb. "The difference between a successful career (here I would say 'speaker') and a mediocre one sometimes consists of leaving four of five things a day unsaid"

If, therefore, you feel I have left anything out that I should have said, perhaps it was on purpose!