Can older ships survive higher operating costs? By Tony Peisley

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1 90 Can older ships survive higher operating costs? By Tony Peisley Over the past two decades the number of new cruise ships delivered every year has averaged between nine and ten and, currently, there are about 350 ocean-going cruise ships operating around the world. It does not take an advanced mathematician or any (Sherlock) Holmesian-style deduction to grasp from these figures that most of those 350 are not in the first flush of youth. In fact their average age is not far short of the 20-year mark. Yet so much of the industry hype surrounds newbuilds that it would be easy to draw the conclusion that, without recent or future newbuilds, a cruise line is going to struggle to survive. This view certainly appears to hold sway in North America where gambling and party cruise brands aside there is effectively only one line which operates only second-hand ships: Celebration Cruise Line, with its veteran Bahamas Celebration now sailing out of Palm Beach, Florida. But in Europe particularly the UK and Germany there are any number of brands which continue to operate one, two or more ships of mature years, primarily in the Budget or Premium sectors. They have different business models and Allard: We are doing more and more to improve the whole experience for passengers, but we can do very little at airports or on scheduled flights. It is only by chartering that we can influence the quality.

2 market niches, and enjoy varying levels of profitability but they survive in a world dominated by the mega brands which (at least until hit by the recession) were regularly refreshing their fleets with costly newbuilds. Roger Allard is Chairman of the UKbased All Leisure Group, which owns three brands: Voyages of Discovery, Swan Hellenic and Hebridean Island. All operate older ships, with varying capacities, but none higher than 700 passengers. Smaller ships clearly do not have the economies of scale of most newbuilds these days, he says, so per-cabin costs like fuel and maintenance are higher. But against that, we do not have to pay finance costs, or worry about getting that level of finance in the first place. There is a definite niche for this kind of ship, and it is the smallness rather than the age that appeals. Our target age group is 55+, and that sector is growing all the time in the UK. Not only is that sector growing in number, it is also travelling more. In February the charity Age Concern s commercial offshoot Age Concern Enterprises reported a significant surge in 2009 sales of its annual worldwide travel insurance to and yearolds clearly unfazed by the recessionary climate. The over-65s group is becoming increasingly adventurous, says Allard, which is why our Voyages of Discovery brand has been adding Caribbean and Latin/South American destinations such as Cuba, the Amazon and Orinoco, Falklands and the Galapagos for 2010/11. For the more exotic destinations our passengers clearly have to fly. The air cost has gone up, but the world has changed and it is often more expensive pro rata now to buy seats for larger groups. It is also often the case that service quality is higher on chartered than scheduled flights, and I never thought we would be saying that. Our problem is always controlling the quality. We are doing more and more to improve the whole experience for passengers, but we can do very little at airports or on scheduled flights. It is only by chartering that we can influence the quality. The other advantage of using small ships is their better access to more offbeat ports, he says. Tendering is an issue for our passengers psychologically as much as anything. Fuel cost, which has grown to 15 19% of our turnover, does play a part in our itinerary-planning. We look at speeds and port stays to reduce cost, emissions and our overall carbon footprint. But, within our niche, it cannot be allowed to dictate deployments. We could stop cruising from the UK to the Baltic because of the high costs involved; but our passengers want to cruise there, and would not book if we went to the Mediterranean instead. It would also mean competing head-on with the bigger brands and their megaships; but, he says, The big new ships are great for that business as they stimulate the market and bring in younger people who as they get older can ultimately become our passengers, too. Our ships only have a few balcony cabins, but our clientele generally prefer to mix anyway so we always make sure we have good libraries with lots of seating. People talk about balconies like they sometimes talk about casinos they want them, but then tend not to use them when Duguid: There is an upside to having ships without balconies less wind resistance, and therefore lower fuel consumption. Thomson is cruising to Cuba next winter, when it will also offer some itineraries which homeport in Havana 91

3 92 Allard: Fuel cost, which has grown to 15 19% of our turnover, does play a part in our itinerary-planning... but, within our niche, it cannot be allowed to dictate deployments. Roger Allard David Selby Richard Bastow they actually have them. Saga Cruises, which is an operator of classic older ships for older clientele, has recently withdrawn Saga Rose and bought Astoria as a replacement. It will operate as Saga Pearl II. We are adding some balconies in the ship s Swansea refit, says Saga Shipping Managing Director James Duguid, but although there is the incentive of extra revenue from these, we also have to bear in mind that there is an upside to having ships without balconies less wind resistance, and therefore lower fuel consumption. He adds, however, that offering onesitting dining on smaller ships is one of the biggest extra costs because the extra space required for the dining room and main lounges reduce that available for cabins. Every ship in All Leisure s various brands has been acquired and refitted rather than newly built. We could probably order a new ship and make it pay, Allard says, but financing and exchange rates are a major issue at the moment in any case. I would never rule it out in the future, though. In the meantime, having added Swan Hellenic and Hebridean to its cruise brand portfolio, the group acquired another ship to its fleet last November with the purchase (at auction) of Alexandr Von Humboldt. Including a complete overhaul and refurbishment, the structural element of which will take place following a charter this summer to Phoenix Reisen, the vessel is costing about US$20 million. It will have its passenger-facing changes made next winter as, by then, Allard will have decided for which of its brands it will operate. We bought it because it is the right size 250 cabins (90% outside), not too old (20 years), and it was a distressed sale. That meant not only a good price but also that we could find out exactly what it could and could not do before bidding. He points out that the group had raised 8.9 million with a flotation, on the basis that capital raised would finance future ship acquisitions. Although we had since acquired Hebridean Princess through saving the brand, it was still our aim to buy another ship. Finding the right ship at the right price is one of the challenges of this sector. Costa Cruises Chairman Pier Luigi Foschi has revealed that Costa had received no firm offers for its oldest, smallest ships which it would sell for the right price. Financing is difficult for small or start-up companies at the moment, he says. That means the second-hand market is very quiet and, if prices get too low, it is not in our interests to sell anyway. Either we will continue to operate the ships or we will scrap them because, if we do sell, the ship will be out there competing in some small way against us. Unless the price compensates for that, there is no point in selling. Thomson Cruises (now incorporating Island Cruises) has the largest fleet in this sector, but it has a different business model from most brands because it is vertically integrated in TUI. Thomson Cruises and Island Cruises Managing Director David Selby says: We use our own airline, sell mainly (but not exclusively) through our own retail travel agency distribution system, and even use our own incoming agents/operators. This means we have more control of the whole quality of our flycruises and, crucially, have access to the necessary airlift in the first place. It also helps solve the perennial problem for all Europe-based cruise brands how to avoid losing more money in the winter than they make in the summer. Thomson recently returned to the Caribbean for the winter season after a long gap and, in 2010/11, is adding a second ship. But, Selby points out, this involves no extra capacity because some of the season is taken up in dry-docking both ships. We are operating two-week instead of one-week cruises, he says, so we only need half as many passengers (albeit paying higher cruise prices). Winter is obviously a difficult season especially with the recent increases in Air Passenger Duty from the UK but we have the advantage that we are filling seats on our company s airline. That said, we are profitable in our own right as well as making our contribution to other divisions within TUI. In its latest incarnation, Thomson Cruises has chartered or leased ships rather than buy them outright. It does however have the option to buy Thomson Celebration (from Carnival) and at the end of a five year lease its newest ship Thomson Dream from Louis Cruise Lines. It is most likely that, if we bought, we would then leaseback, says Selby. This

4 would mean our business model stays the same, as our benefit now compared with brands with newbuilds is that all our ships have very low book values, and we have them on relatively modest leasing fees. This means we do not have to worry about high interest payments or other financing costs. This in turn enables us to spend more money on food and entertainment. For example, on most ships we have open seating rather than two sittings (which are cheaper to operate as they require fewer staff). We can therefore offer as good a product if not better than some of our better-known and newer, larger ship rivals however glitzy they might seem on the surface. Thomson Cruises is the second largest brand in the UK market, carrying about 250,000 passengers, but it still has to remain flexible both in its deployments and in its marketing to survive and prosper. This is why it is cruising to Cuba next winter, when it will also offer some itineraries which homeport in Havana. US lines cannot go there, and only Fred Olsen (FOCL) from the UK market features Havana, says Selby. So it gives us something new to offer our more adventurous passengers. Also, ending our UK UK cruise programme was not to do with fuel cost but just us making sure we filled the Mediterranean flycruising capacity gap when Ocean Village and the other Island ship (Island Star) were withdrawn. As it is we see Royal Caribbean International moving into Palma, where finding airlift is always a problem for those without their own airline. Flycruising is our core product because we are a tour operator cruise line, but we were given the go-ahead for the UK UK programme as long as it was profitable and it was. This was despite the challenge of the positioning voyages, but even these meant we were filling seats at times (e.g. October) when they are difficult for our airline to sell. We made a lot more money on shore excursions, especially in places like St Petersburg, but there was reduced income from the bars as these cruises attracted a different demographic. Operating out of Tyne (Newcastle), we found there was a mix of first-time cruisers and P&O types who did not want to travel down to Southampton. Dropping ex-uk was sad and drew more complaints than anything else we have ever done but we will be back, and fairly soon I hope. On the marketing side, Thomson uses the option of all-inclusive packages as a key tool. Across all TUI s operations there is a trend for people to want to know what they are going to spend throughout their holiday, says Selby. But, rather than offer an across-the-board all-inclusive cruise product, we offer it as either a pay-extra option or free as an earlybooking incentive. We have found that, if it Selby: We see Royal Caribbean International moving into Palma, where finding airlift is always a problem for those without their own airline. 93 The Winter Palace, St Petersburg Selby: Dropping ex-uk was sad and drew more complaints than anything else we have ever done but we will be back, and fairly soon I hope.

5 94 The Millenium Bride, Newcastle-upon-Tyne Bastow: Some of the seven regional homeports have performed better than others, but Hull and Newcastle are definitely being repeated in is free or sold at a reasonable add-on price, people do not abuse it. Thomson offered a full ship, adults-only product on Thomson Calypso until that ship s charter ran out last year. But it was a much smaller vessel just 486 berths than the others in its fleet; in fact its small size was the reason the charter was not renewed It was becoming too expensive to operate, says Selby, but it had shown that there was a market for adults-only, so we now have it for a couple of months on Thomson Dream cruises which would attract mainly adults anyway. We do not want it permanently on the larger ships as it just limits the market too much. Unlike Foschi, he believes the secondhand market is improving from a buyer/ charterer s point of view. There are more options if we want to acquire vessels, he said, adding we may soon be looking for something larger than our existing ships, because we need economies of scale to counter increased fuel cost. Newbuilds even in the Luxury sector are increasing in size, and there is a similar trend among those operating older ships with FOCL, for one, gradually going up in unit size by acquisition or even by stretching vessels. With SOLAS 2010 removing up to 20 older (mainly small) ships from the fray, the availability of small (up to 700/800-passenger) ships will decline over the coming decade. Cruise & Maritime Voyages (CMV) Director Richard Bastow says: We saw the withdrawal Thomson Spirit, Saga Rose, Black Prince (FOCL), Ocean Majesty (Page & Moy) from the UK UK market and the reduction of Voyages of Discovery s UK UK season, and worked out that this was 60,000 berths out of the game. So, when the chance came up to take on Marco Polo, we had already been marketing (as Cruise and Maritime Services International) for Transocean Tours when that company ran into financial problems, we went for it and set up CMV. We originally went for Ocean Countess as back-up in case did not get Marco Polo, but we ended up with both, year-round,

6 95 which is difficult. But on the other hand our company expenses run 365 days of the year, so it does help to have year-round product, too. We did not want both operating out of Tilbury. We felt that we could use regional departures for one but not for the whole season, or just as one-offs, as it needs a series of cruises for a homeport to work. Some of the seven regional homeports have performed better than others, but Hull and Newcastle are definitely being repeated in We have the ships on different charter arrangements from different owners, but managed to get Global Maritime, which has done a good job on-board Marco Polo, appointed on Ocean Countess, too. This gives us a continuity of product, and a measure of quality control, too. We would really prefer to own ships, as we would receive more from on-board revenues currently we only earn from the shore excursions. But you need access to a lot of money to buy outright. One problem with chartering can be the multi-party deal where you have an owner, a head charterer and then a sub-charterer or maybe two. Each takes their own margin, so reducing everybody s share. We have cut out several layers with our deals, so that we charter directly from owners. The two keys to making the CMV operation work are location and distribution, says Bastow. When we were selling Arion, Princesa Danae, Athena and then Marco Polo as agents, we were selling on location. Tilbury s catchment area was crucial, with 65% of passengers sourced from the UK s Home Counties and East Anglia. The rest came from the North West and Hampshire. About 50% drove; 20% came by coach and the rest were either dropoffs (taxis etc.) or flew into the nearby London Stansted airport. We were attracting a majority of first-time cruisers (60%), and it was the departure point and destination which came first. The ship was secondary. Marco Polo has brought us more experienced cruisers, and across both ships we now have just 30% first-timers. We are now picking up some who have cruised on big ship operators and, not liking the size and the crowds of passengers, have switched to us. But the UK is a crowded cruise market, As 65% of CMV s passengers are sourced from the UK s Home Counties and East Anglia London is their choice of homeport and CMV remains a small volume operator about 10,000 berths over the year so achieving visibility is a real challenge. Our distribution is the most important factor in filling the ships, says Bastow. We are not concentrated either on the high street travel agencies or in the pages of newspaper cruise advertisements from retailers. This is where the big boys trade. Instead we go through tour operators, so our prices and margins have some protection. And we choose those with a variety of routes to market some via agents, some direct. In this particular market sector, age and size may still matter. But being flexible and smart in your thinking, chartering/owning, marketing, distribution and deployments matter even more. After all, new ships are the old ships of tomorrow. And as they have a 30+ year life span, somebody will always be needed to come up with a business model to operate them profitably when they have stopped being the new kids on the block. D Bastow: We were attracting a majority of firsttime cruisers (60%), and it was the departure point and destination which came first. The ship was secondary.