Just as China’s flagship aircraft carrier arrived in Hong Kong’s Victoria Harbor last week for the first time, an even larger vessel of private enterprise sailed off into the embrace of the motherland.
Even the Liaoning—that’s the aircraft carrier—can’t compete with Orient Overseas (ticker: 316.Hong Kong) in tonnage. Founded in 1969, the company runs close to 100 container ships and is synonymous with Hong Kong’s status as a global trade power. That status has been declining for a while, but could regain some momentum with Orient’s $6.3 billion sale to Chinese-government-owned Cosco Shipping Holdings (1919.Hong Kong). The deal will make Cosco, whose shares are up 50% year to date, the world’s third-biggest container line. It’s a sign of rejuvenation in global shipping, which had been listing badly since the global financial crisis.
Analysts are split on which company will fare better from this deal. Cosco is forking out a lot based on other recent megamergers. France’s CMA CGM shelled out the equivalent of book value to get its hands on Singapore’s Neptune Orient Lines a couple of years back. Cosco is paying some 1.4 times price-to-book for Orient, close to the stock’s frothiest valuation over the past few years.
Some reckon the premium is justified, arguing that the beaten-down sector is salvaging a recovery after years of consolidation and sinking earnings. “It’s in Cosco’s favor to grab Orient at this early stage,” Crucial Perspective analyst Corrine Png tells Barron’s. “It’s going to be a lot more expensive when the entire container shipping sector rerates.”
The container industry foundered after the financial crisis, when demand hit rock bottom for companies that had ordered too many new ships. That scuttled South Korea’s Hanjin Shipping last year. But economic recovery in the U.S. and Europe has given the sector new life. Cosco and Orient are now riding that recovery, with the combined group having the biggest share of trans-Pacific trade and third-largest share in Europe-Asia trade. Recent consolidation has also withered the competition, giving freighters leeway to hike prices. “The balance of power will move toward the shipping lines from the ports and consumers,” says Png. She thinks that Cosco and Orient will soon become the world’s No. 2 container shipper, rivaling the largest, Denmark’s A.P. Moeller-Maersk (AMKBY).
Like any big deal between Hong Kong and China, this one is overflowing with political intrigue. Orient’s controlling shareholder is the pro-Beijing Tung family, whose most prominent member is Tung Chee-hwa, Hong Kong’s first postcolonial leader. The deal also means another part of Hong Kong’s legacy as a gateway to China will sail away. The city’s port is leaking business to others on the mainland, which have the advantage of being closer to China’s inland manufacturing. “They could just end up bypassing Hong Kong as a result,” says Png.
Orient will remain listed in Hong Kong after the takeover, and Daiwa analyst Kelvin Lau rates the shares a Buy. The stock has soared 120% year to date, but he forecasts another 10% upside or so. Aside from riding a wave of positive sentiment due to the takeover, Lau thinks the stock should rise on improving shipping rates over the next year. Jefferies’ Andrew Lee also says Cosco is a Buy, given a recent recovery in the earnings. He sees another 15% or more upside.
Source: Barron’s