Ship Management Costs
The costs associated with managing ships commonly fall into three (3) categories:
1- Ship Fixed Costs (Ship Capital Costs)
2- Ship Operating Costs
3- Ship Voyage Costs
1- Ship Fixed Costs (Ship Capital Costs): Ship Fixed Costs are associated with the purchase of a ship and Ship Fixed Costs are deemed to be entirely within the control of the shipowner. Ship Fixed Costs could include pre-delivery expenses, loan repayments and interest, leasing charges, initial ship registration fees, and in certain cases, taxes. Where a ship is taken on bareboat or demise charter, the charter hire is the equivalent of Ship Fixed Costs (Ship Capital Costs). If the shipowner can acquire the ship out of his company’s financial resources, the executives will have decided upon an annual rate of depreciation together with an appropriate return on capital employed. If the ship has been acquired through a mortgage, loan repayment and interest will form the principal fixed cost.
2- Ship Operating Costs: Ship Operating Costs are the costs that are the primary responsibility of the ship manager. Ship Operating Costs could be considered to be semi-variable. Some Ship Operating Costs are more or less fixed over a fairly long period while others are variable and relate closely to the employment of the ship. Nevertheless, it is the main duty of the ship manager to arrange for Ship Operating Costs to be accurately budgeted. Ship Operating Costs can be averaged daily and are usually referred to as the Daily Operating Costs or Running Costs (DOC or DRC). Therefore, the shipowner can easily calculate the voyage or charter profitability. Included in Ship Operating Costs are the crewing, storing, maintenance, insurance, and administration of the ship.
3- Ship Voyage Costs: Ship Voyage Costs are variable costs associated with the particular employment in which the ship is engaged from time to time. Particularly, Ship Voyage Costs include bunkers, port and canal charges, pilotage, harbor tug hire, port agency fees, and any loading and discharging expenses. Ship Voyage Costs fall within the direction of the ship’s commercial operator. If the shipowner charters out the ship on time charter almost all the voyage costs become the responsibility of the Time Charterer.
Ship Management Costs
Ship managers may either work in-house as part of the shipowner’s organization or as an independent ship manager contracted to the ship owning company under a ship management agreement. Here below we assume that the ship manager is working as a separate entity on a full management package basis which assists in making a clear distinction of the responsibilities falling on the ship manager. Even in cases where the ship management department is in-house, the discipline imposed by operating as if the management is a separate entity is usually beneficial. The accounting function forms the core of ship management. While the shipowner has control over capital costs, the shipowner must look to his ship manager to provide him with a safe, efficient and economical ship operation package that can be precisely costed to enable the owner to make the correct commercial decisions.
The ship manager’s role as far as accounting is concerned falls into three (3) stages:
1- Ship Budget Preparation
2- Ship Budget Processing
3- Ship Budget Reporting
Usually, the Ship Budget Preparation covers 12 months and from it can be produced a cash flow projection which will set out the anticipated expenditure on a monthly or quarterly basis. The Ship Budget Processing stage is entered as the ship is in service, expenditure is incurred, and bills have to be paid. Conclusively, at regular intervals, the ship manager prepares a detailed Ship Budget Report that is analyzing the costs incurred on behalf of the shipowner and compare these with the budget forecast. The budget Vs actual cost analysis will also set the basis on which to prepare the budget estimate for the next year.
1- Ship Budget Preparation
Ship Budget Preparation is one of the most crucial parts of the ship manager’s duty. For a ship that is already part of the managed fleet, the preparation of the budget is usually reasonably straightforward because the ship manager already recognizes the ship and ship’s characteristics from experience. However, things are different when trying to prepare a budget estimate for a new or a newly acquired ship. The more information about a new ship due to come under management which is made available to the ship manager in advance, the more precise will be the budget forecast.
Optimally, the ship manager will have had a chance of carrying out a technical inspection of the ship and reviewing of class records before preparing the budget, however this is not always possible if the shipowner demands a preliminary budget estimate for an unseen ship. The ship manager needs to know the size, type, and age of a ship, the type of main and auxiliary engines, intended registry, crew, and if possible trading pattern. These main assumptions should be precisely demonstrated in the ship budget estimate.
Ship Crew Costs: The ship budget estimate sets out the assumptions on which the crew costs have been estimated in terms of numbers and nationalities of crew-members. An experienced personnel department in a ship manager’s office will be able to budget the main details of the crew cost to a remarkably precise degree. The shipowner is not so much concerned over the individual pay levels of the crew members but is rather looking for the total cost over a year of manning the ship. For example, a crew member may receive an annual salary of $100,000, but if a crew member is entitled to one month’s leave for every two served, the manager must employ 1.5 crew members to fill the job. Therefore, the total annual cost to the shipowner increases to $150,000. Consequently, crew wage costs need to be enhanced to take into account not only leave entitlement but also any overlap time between individuals leaving and joining the ship. Some ship management companies clarify this assumption further by calculating the unit cost basis. In other words, some ship management companies work out the average cost of filling each rank in their ships over 12 months and applying that cost factor across the board. Due allowance must also be made for any crew bonuses together with social costs, insurance contributions, pension funds etc.
Additionally, ratings over time have to be estimated based on the manager’s experience. Furthermore, the ship managers should make provision in some way for crew establishment costs such as recruiting expenses, training allowances, cadet training, study leave, stand-by, and sick pay are all part of the cost of administering crew members and have to be paid for in some way or other by the shipowners. In some circumstances, some of the crew establishment costs may be compensated by numerous national government assistance schemes. The crew establishment costs may either be apportioned over the managed fleet as a direct charge or a fixed sum contribution from the shipowners is negotiated by the ship managers. Crew members travel and repatriation costs are especially challenging to budget precisely unless the ship is a liner route. Crew costs incorporate various medical costs that are not otherwise recoverable under the terms of the P&I Club (Protection and Indemnity Club) entry.
Ship Store Costs: ship manager’s superintending staff need to call on the wealth of their experience of operating ships of the type in question. Ship stores firstly include victualling or provisioning the ship. Generally, victualling or provisioning is accomplished on a catering-contract basis as so much per crew per day. Ship Chandlers (suppliers of ships’ provisions) operate in a highly competitive market. There, ship managers must ensure that whichever system of provisioning is adopted and carefully supervised. Ship managers should be vigilant for the unscrupulous ship chandlers who may succeed in placing irresistible temptation in the way of the ship’s officers. Unscrupulous ship chandlers might provide poor quality food and invoice at full quality price, with the cash saved being shared.
Generally, the second important area of ship store is referred to as Rope, Soap, and Dope. It might be hard to distinguish between stores and spare parts and the dividing line is usually somewhat vague. Nevertheless, if the notion of consumables is used then the distinction is expressed clearly. Under stores ship manager would normally include wires and ropes for mooring or cargo handling gear, lashing material, packing material, and gases or chemicals used for refrigerating plant, boiler or tank cleaning treatments, etc. Paints are usually considered as stores unless particularly ordered for drydock purposes. Cabin stores, ships’ stationery, laundry, and freshwater supplies also fall into the stores category. A third major expense under stores would be lubricants and greases. The consumption of engine lubricating oil is a fairly simple matter of calculation depending on the size and type of engine and the number of running days per annum. The ship manager’s accounting for stores can be on either a cash or consumption basis.
Ship Maintenance Costs: Ship Maintenance Costs include costs of specific spare parts ordered as replacements for items that wear out or become damaged, together with the cost of carrying out any repairs to deck or engine areas. The cost of shore labor used to carry out repairs in port is also included together with the cost associated with any riding crews employed to carry out repairs to the ships at sea. The cost of maintaining automation, electronics, and navigation equipment can be a main item of expense. Ship Survey Fees and Classification Fees also fall into the Ship Maintenance Costs. Furthermore, ship managers estimate the cost of periodical dry-dockings and spread the cost over the years on an accrual basis.
If a ship is anticipated to drydock every second year, half of the estimated drydock expenditure will be budgeted within each year leading up to the drydocking. Therefore, an allowance against the drydocking will have been built up or accrued in the shipowners’ accounts towards the eventual cost. Some shipowners prefer to disregard drydocking expenditure from the budget, electing to accept the cost when incurred as a special item. Ship managers have to confirm with shipowners’ philosophy is in drydocking expenditure at the budget agreement discussions. Similarly, ship managers have to confirm with shipowners whether drydocking remains within the budget or is shown individually below the line.
Ship Insurance: the cost of insurance premiums and estimated P&I (Protection and Indemnity) Calls are based on quotations obtained or renewal negotiations. Practically, the P&I (Protection and Indemnity) budget figure to be based on estimated total calls as applied for the year in question. This may of course be a slight modification with the actual cash position but it will allow the shipowner to accrue for the true cost of P&I (Protection and Indemnity) insurance during the year in question.
The treatment of insurance deductibles is one for shipowners to decide. Sometimes costs that are not recoverable because of the deductible are permitted to lie where they fall, probably as extra maintenance (repair) items. Otherwise, the budget can assume one or more insurance claims will arise in the year and so ensure that appropriate deductibles are allowed for.
Administration Costs: Administration Costs include superintending expenses, renewable dues, subscriptions, and fees including agency costs where applicable for shipowners’ items and communication costs. Ship Management Fee is added as Administration Costs, assuming the ship is operated under contract by an independent ship manager. Where the ship management is an in-house department, a reasonable shipowner will calculate the cost of running the ship management department and decide upon an appropriate percentage to be apportioned to each ship in the fleet.
2- Ship Budget Processing
When the budget estimate has been discussed with and agreed upon by the shipowners, a cash flow forecast is prepared based on the budget. The cash flow forecast has been divided into monthly periods and the amounts expected to be called by the ship manager each month are estimated.
The monthly amounts will vary depending on for instance when insurance premiums fall due or when drydocking are due to take place. Notes provide this information which may also show other modifications from the original proforma. Therefore, the budget would then be revised to allow for this change. Practically, in the case of independent ship managers for the cash flow forecast having been agreed by the ship owners to form the basis of a monthly funding requirement for the managers. This enables the ship managers to pay the crew and to settle bills received for supplies and services on the shipowners’ behalf. Various companies have different procedures laid down for entering, checking, authorizing, and paying accounts. However, it leads on to the final all-important reporting stage of the ship managers’ function.
3- Ship Budget Reporting
The inspection of a ship manager’s costing skill is carried in the Budget and Actual Analysis Statement. This statement is prepared either monthly or quarterly as a record of management performance. The budget numbers appear in one column, the actual costs incurred in another column. The frequency of the Budget and Actual Analysis Statements is a matter for discussion and agreement between shipowner and ship manager. The monthly Budget and Actual Analysis Statement is supposed to keep the ship manager on his toes, quite small differences in payment dates can lead to large and misleading fluctuations in costs. Nevertheless, a quarterly Budget and Actual Analysis Statement eliminates many of the fluctuations, if the analysis is being used as a sensible management tool, such a delay may result in problem areas not being identified promptly enough.
The monthly Budget and Actual Analysis Statement is combined with a cumulative analysis probably provide the best compromise solution. Ship managers must support their analysis statements by a reasonably detailed commentary on all significant variances. The ideal relationship between shipowner and ship manager should resemble a joint venture or partnership, featuring an honest, open approach; the ship manager should never try to hide difficulties but be prepared to discuss them with the shipowner to find the most desirable solution. If the Budget and Actual Analysis Statement is utilized properly, the analysis statement can usually provide early warning of a ship’s operating problems, so that steps can be taken to avoid a deteriorating situation. The shipowner will look to the ship manager to provide him with vital information to enable the correct commercial decisions to be made. The sum of the shipowner’s capital costs plus the ship manager’s operating costs, averaged daily and compared with the going time charter market rate will give a reliable measure of the ship’s net profit potential.
Ship Lay-up Decision
Due to the cyclical nature of international trade, the shipping market leads to periods of depression. If the periods of depression become so severe, then some ships might be are withdrawn from service to be laid up. Ship Lay-up Decision requires close co-operation and understanding between shipowners and ship managers, to maintain the asset value of the shipowner’s investment and ensure the prompt and problem-free reactivation of the ship when the shipping market improves. The costs correlated with the proper care and preservation of a large sophisticated ship in lay-up are not inconsiderable. Ship Lay-up is unquestionably not just a case of paying off the crew members, switching out the lights, and locking up. Certainly, the ship’s insurers require not only the Classification Society but also their surveyor to inspect and approve mooring arrangements, alarm systems, and preservation procedures.
The daily cost of a ship in lay-up may be less than a quarter of the normal operating cost after allowing for return of insurance premiums and other cost savings. Nevertheless, reactivation costs are usually substantial, presumably including drydocking and extra survey work to ensure that the ship is once more properly in Class. Ship Lay-up generates critical problems relating to manpower requirements. Although some ship management agreements comprise provisions whereby shipowners contribute towards lay-off or redundancy costs, commonly these risks remain with the ship managers. The longer-term effects of a prolonged shipping recession can have far-reaching consequences particularly in terms of a decrease in the worldwide pool of crew members.