Sunday, November 18, 2007

Korean Success Story: EUKOR Car Carriers

My work requires that I watch, study, analyze, and then provide insights into Korean global business. I work closely with many of Korea's top global firms. The Hyundai-Kia Motor Group is the leader in global expansion. In addition to Hyundai and Kia Motors, a number of sister firms are making huge strides. This includes MOBIS ( car parts) and GLOVIS (logistics). Another success story is Eukor. This recent Invest Korea case study highlights the Hyundai-Kia/ GLOVIS affiliate's progress and successes....

Billion Dollar Story
Sleek, trim but riding high in the water, they ply the globe's trade routes, bearing a cargo that is at once a mainstay of the world economy and vital accoutrement of contemporary civilization.

They are the car carriers, the workhorses of the seven seas who toil virtually invisibly to ship almost a quarter of the automobiles produced annually from their place of manufacture to their intended markets.

As a major element of Korea's rise as an industrial power is due to the success of its automobile industry in export markets, the shipment of its product has come to assume a strategic importance. This importance coupled to its commercial ramifications is the motivation behind one of the largest single foreign-direct investments in recent years. Namely, the equity stake purchases in the car-carrying division of Hyundai Merchant Marine (HMM) by two major European shipping interests to create Eukor Car Carriers Inc., the featured "One Billion Dollar" company of this issue's Korea Success Story.

Launched by the then Hyundai Group in 1980, the prime mandate of this division of HMM was the exclusive transportation of Hyundai vehicles to overseas markets. Despite its debt-ridden status, before its majority purchase by Wallenius Lines AB of Sweden and Wilh. Wilhelmsen ASA of Norway for US$1.3 billion in August 2002, HMM's car carrying operation was already a billion-dollar per year enterprise transporting over two million vehicles annually. While business has been stoked by continuing export demand for Hyundai Motor Co. products, the key to its subsequent viability is yet another example of how foreign investment in a Korean corporation can create far greater value than what would have been possible had control remained in the hands of its domestic founders. In a manner similar to how Volvo Group Korea was able to capitalize on the worldwide networks of its foreign parent in a manner that its predecessor organization (see Korea Success Story July/August 2007), the construction equipment division of Samsung Heavy Industries could not.

Eukor Car Carriers has gained huge synergies, efficiencies and profitability by linking with the trading systems of its two foreign parents.

Today, the company operates over 100 especially built car carrying vessels that together generate US$1.8 billion annually by transporting 3.3 million cars vehicles worldwide. This sum includes some two million Hyundai and Kia-made cars destined for overseas; and 1.3 million foreign-built vehicles consigned for delivery en route to Korea and other markets on the "backhaul," i.e., the return journey to Eukor's home ports.

How then did two Scandinavian companies become the majority owners of so major a Korean enterprise, restore its financial stability, and make it the success that it is today?

Eukor president and CEO Carl-Johan Hagman, who also serves the European Chamber of Commerce in Korea (EUCCK) as its president, first off explained that the demands of the car shipment business are highly specialized but were a strong match for the background of the two investing companies. "As opposed to container carriers where you put things in boxes, we roll our cargo on board and carry completely unprotected cargo, as is," he said. "Therefore, we have a lot of focus on quality. Also, this is a very well-defined niche within the shipping industry as a whole."

The privately owned Wallenius Lines of Sweden was a pioneer in the field of car carrying, introducing the world's first car carriers in 1955, the crane-loaded MS Rigoletto and MS Traviata that were designed to navigate the locks of the Great Lakes and the St. Lawrence Seaway. The company was later in the vanguard of transporting cars from Japan at the beginning of the 1960s, an undertaking that cemented its leadership position in the business. Publicly traded Wilhelmsen, now the biggest of the Norwegian shipping companies, was traditionally a "roll-on/roll-off" ("ro-ro") wheeled cargo company, which specialized in trading between Europe and Australia. It entered the car transportation business in 1983 with the car carrier Takayama. The company extended its capability in this area by acquiring 50-percent ownership in the car transportation pool, Norwegian Specialized Auto Carriers (NOSAC). In 1987 Wilhelmsen was joined as a partner in the pool by Den Norske Amerikalinje (Norwegian America Line, NAL).

In order to gain economies of scale and enhance their global competitiveness, Wallenius and Wilhelmsen formed a joint venture in 1999 named Wallenius Wilhelmsen Lines, which was later renamed Wallenius Wilhelmsen Logistics in 2006. Both parent companies had long been represented in Korea separately, and once their joint venture was formed it opened offices at the prestigious Kyobo Building in downtown Seoul. The move served to strengthen their operations in Korea and set the stage for what would be their subsequent massive investment in the country.

Two years prior to this in 1997, Carl-Johan Hagman, a Swedish naval officer and a lawyer by background, had arrived in Korea as the CEO of the local operation of Wallenius Lines AB to further the interests of the company in the domestic shipping market. As the representative of a foreign shipper, among his difficulties in making inroads into the market had been the refusal of Hyundai Motor Co. and Kia Motors to outsource their vehicle shipping requirements. (By this time, Hyundai and Kia had merged and both were using Hyundai Merchant Marine to ship their finished vehicles overseas). Mr. Hagman returned to Sweden in 1999 to assume the position of CEO for the entire company.

However, many of the same factors that had forced the merger of the two giants of the Korean auto industry during the financial crisis had repercussions within Hyundai Merchant Marine. Moreover, the financial plight of HMM was exacerbated by the unraveling of the Hyundai group and a cyclical downturn in the shipping industry. The upshot was that more than two years later toward the end of 2001, Mr. Hagman would re-enter the story as a principal actor when he received a telephone call from an executive of HMM in his Stockholm office that would change the fortunes of both Wallenius and Wilhelmsen.

"I thought they were calling to complain," recounted Mr. Hagman, adding he remembered the call very well. "It was a very short conversation, very frank and they asked almost out of the blue, ‘Do you want to buy our company?' And on the spur of the moment I said ‘yes.'" When he told them he planned to travel to Asia within a month and would stop in Seoul to discuss the matter further with HMM, the caller retorted, "If you are serious we will land in Stockholm in 13 hours' time."

The HMM management were as good as their word, with the executive in question phoning Mr. Hagman from Seoul's Gimpo Airport just prior to boarding the flight to Stockholm just to check if he was there. "We had two days of discussions, just the two of us, and it took us a year to negotiate, but the agreement was almost identical to what we had agreed that first meeting with the help of Korean banks, Hyundai Motor and everybody else," recalled Mr. Hagman.

In December 2002, a deal was reached between Hyundai Motor Co., Hyundai Merchant Marine, plus its creditors Korea Development Bank (KDB) and Korea Exchange Bank (KEB) on the one side; Wallenius and Wilhelmsen on the other, whereby the two Swedish companies would each take 40 percent of the equity in HMM's car-carrying division for a total payment of US$1.3 billion. Hyundai/Kia took the remaining 20-percent equity stake. In return, the Korean carmakers made a commitment to continue to ship their products exclusively through the new entity. Winning this institutional support from Hyundai/Kia was crucial to the viability of the deal and the prime reason it took a year to conclude.

On conclusion of the deal, Hyundai Motor Co. chairman Chung Mong-Koo devised its name as a combination of "Europe" and "Korea" to general acclaim. Meanwhile, Carl-Johan Hagman, at the age of 36, was appointed president and CEO.

"That, you can say, is the inception of the modern Eukor Car Carriers and how we got our name and our independent identity," he said. "Today we are a Korean international company. We are based in Korea, our major business comes from Korea, but of course we have a sister company in Wallenius Wilhelmsen Logistics with whom we share best practices and have forged a global network that we consider second to none."

As well as the payment for HMM's car carrying business, the two Scandinavian partners agreed to take over some US$2 billion in vessel debt that the target company was exposed to, a sum higher than the market cap of any of these two companies.

While this excited a fierce internal discussion within both foreign purchasers about whether the price paid was too stiff, in the final analysis it was deemed worth it because of the unique insights only they could bring.

"What our competitors could not do was make a proper analysis of the company," commented Mr. Hagman. "HMM had been one of our major competitors and from that point of view we knew them quite well so that due diligence took only three weeks, largely without external help," he continued. "We knew the company fairly well and for that reason nobody else would have been willing to pay the price tag we did. We could see synergies and how they could be applied to our own business. I think we were ready to go further than other buyers were and that's why we were approached."

Among the compelling features of the deal was the opportunity to serve the rising economic colossus of China having gained a foothold in Asia, as well as gain a longterm industrial partner in Hyundai, which at that time was the world's fastest-growing auto manufacturer. "For us, the link with Hyundai was a unique opportunity we could not turn down," said Mr. Hagman.

Another payoff to the acquisition was that it jointly catapulted Wallenius Lines AB and Wilh. Wilhelmsen ASA to a position of world leadership in the global car transportation market.

Efforts to financially stabilize the fledgling company continued, and on Nov. 30th 2004 Eukor concluded a US$680-million refinancing deal through the KDB in cooperation with the KEB. The refinancing package included US$380 million in syndicated loans, the issuance of 320 billion won worth of corporate bonds for public offering, and a swap transaction. A press release issued by Wilh. Wilhelmsen ASA at the time stated: "[The package] was structured in order to provide the most favorable conditions for Eukor with regards to its current financial structure and also in consideration of its credit rating, future cash flow and financial flexibility."

Under the deal, Wallenius and Wilhelmsen inherited a fleet of some 60 vessels of varying standards and capabilities, all of which were under charter. Such was the parlous financial state of HMM that it had sold the vessels it owned in order raise ready cash before the approach to Wallenius was made.

So what did Wallenius and Wilhelmsen get for their US$3.3-billion commitment?

"We feel we got an entry ticket into Korea proper, while previously we had been represented here as a foreign company working on the periphery, like most foreign companies," said Mr. Hagman. "As foreigners who were invited into Korea by both the Hyundai group and the Korean banks, we were given a unique platform from which to acquire a well-performing Korean entity."

While short on tangibles and basically goodwill at this point, the fledgling company could claim a major asset in its partnership with Hyundai Motors supported by an exclusive contract. Another was its human resources, giving Eukor an immediate edge it could not have achieved through incremental growth. "We feel we have access to high-quality Korean competence, which is slightly different from the competence we have in Europe, and as foreigners is hard for us to get hold of," explained the Eukor president and CEO. "Being able to utilize that competence in an Asian context I believe will endow us with strong Korean management capability, not only in this country, but also in Japan and in China." He added that in addition to the advantage of gaining a location in Korea, which has the advantage of being strategically positioned between China and Japan, Korean nationals are admired and wellaccepted throughout the East Asian region.

Despite the implementation of training and safety systems that the most advanced technology will allow, accidents at sea can and do happen. This was brought forcefully home the night of May 24th 2004 when a Eukor-chartered vessel named the Hyundai No. 105, outbound from Korea to Germany, collided with a fully-loaded homebound Japanese very large crude carrier (VLCC) just south of Singapore in the Straits of Malacca that is known as one of the world's busiest waterways. The result was that the Eukor-chartered vessel -- which, despite her name, was not owned or controlled by the company -- sank to the bottom bearing 3,000 new Hyundai/Kia cars plus 1,200 used Japanese cars. The crew of 20 aboard the Hyundai No. 105 was transferred from the ship when it became apparent she could no longer remain buoyant; in fact, no injury or loss of life was sustained on any of the vessels involved in the collision. Moreover, the sinking caused no pollution of local waters. The largest maritime casualty of 2004, liability is still being determined in the courts.

"We were very lucky there were no injuries or oil spills," said Mr. Hagman. He added that while Hyundai was not happy with the incident, insurance on the cargo did cover the loss. (Total coverage for vehicles and vessel stood at US$57 million, for US$40 million and $17 million, respectively).

Representing a tiny proportion of the millions of vehicles carried before and since, the loss did nothing to affect Eukor's credibility or contracts. In fact, for the first three quarters of 2004 pre-tax profits more than quadrupled to 150 billion won (US$140 million) from 34.3 billion won for the same period in 2003. Rather, the incident served to spur the company's own building program, one that was marked by dramatic increase in its fleet tonnage.

"We faced a unique situation in 2002 since HMM did not own one single vessel," said the Eukor CEO. "This was a legacy issue from the previous owners. We are now trying to buy those vessels back and build others to build up our balance sheet."

By early 2005 Eukor was expecting delivery of 15 carcarrying vessels that had been ordered by its owners. This was capped on Jan. 14th of that year when the refinancing of the HMM debt it had acquired gave it the flexibility to place orders in own name for the first time. To wit, orders were lodged with Hyundai Samho Heavy Industries (HSHI) for four pure car and truck carriers (PCTCs), each with a capacity of 6,500 cars. Now being built at the HSHI shipyard in Mokpo on the Korean southwest coast, delivery of the four vessels is slated for the first half of 2008.

In the meantime, in its drive to achieve a 100-vessel fleet to match the capability of top carriers Nippon Yusen Kaisha (NYK) and Mitsui OSK Line (MOL, see box), Eukor continued to charter. For example, in August of 2004 the company agreed with the Imabari Shipbuilding shipping subsidiary Shoei Kisen of Japan to charter four 6,400-vehicle "newbuildings" for a ten-year period following their delivery this year and in 2008. Twenty new ships had been chartered from a variety of sources at this time, some with an option to buy.

The upshot of this massive augmentation of newbuildings is that there has been a rapid turnover in the Eukor fleet as the company has strived to offer the finest service in what is a globally competitive market. "The 100-odd vessels that we have today are not the same as the 60 we started with because some of them were older and we have taken them out of the fleet," said Mr. Hagman. He explained that the replacement rate has been higher than the additional 40 vessels and that another 35 are on order as the lead time is three to four years, a reflection of the confidence that Eukor has in the prospects for global trade. By way of example, at the time the writer met Mr. Hagman at the Eukor Seoul head office, he pointed out that the company would take delivery of its next ship the following Friday, Sept. 21st, three in October and 12 in 2008, commenting that the investment decisions made in 2002/2003 were now bearing fruit.

"By adding service frequency and using benchmarks from our sister companies about the way we handle the cargo, we can ensure our service is absolutely the best in the world," he said. "We are now taking the next step in our development by not only by shipping Korean cars but also foreign-made cars to Japan, China and the rest of the world." This is evidenced, he said, in the backhaul trade that the company has generated, carrying top brands of automobile such as Rolls-Royce, Porsche, BMW and Peugeot from Europe back into Asia.

"[The backhaul] is one of the biggest challenges we face because we are an extremely capital-intensive business and it's how we use those investments in the most efficient way is really what defines our profitability," he continued. "Therefore, having a global network where you have as few ballast legs as possible (i.e., trips with no cargo) is one of the most crucial factors we must address."

A vital element in this regard is the links between Eukor and its sister company Wallenius Wilhelmsen Logistics. While the former is strong in handling cargo to and from Korea and China, the latter's forte is trading out of Europe and the United States. By combining cargo bases and swapping vessels to form a global network, both companies have succeeded in ironing out imbalances to improve their overall vessel operational performance. "For example, there are hardly any exports of cars from the U.S. into Asia," noted Mr. Hagman. "When we took over, we had 30 sailings per month from Korea to the U.S.; twenty-nine of the vessels went back empty to Korea. That's a huge cost." He said to obviate these cost imbalances, Eukor vessels that deliver vehicles to Europe are traded back either via Africa and Australia to Asia; or by Suez, the Persian Gulf and then back to Asia; or via Southeast Asia and the Chinese markets (where the demand for foreign cars is burgeoning) through nearby ports such as Dalian and back to Korea.

The Eukor CEO and president believes the company's success in attracting backhaul cargo is one of the reasons Wallenius/Wilhelmsen could pay a premium for the carcarrying division of Hyundai Merchant marine that other industry players could not. "They don't have those systemic synergies that we very easily could create," said Mr. Hagman who will step down at the end of the year to assume the position of managing director for Swedish shipping company Rederi AB Transatlantic. "Therefore, quickly getting access to non-Asian cargoes was almost impossible as long as this was a Korean company, but by cooperating with our sister company we got an almost ideal match."

Eukor's efforts to achieve logistical efficiencies across the globe have been complemented by those in Korea. The company operates through a number of ports in Korea but by far the most important is Ulsan, home to the Hyundai Motor Co. plant, which is the largest of its kind in the world. Making 450 calls per year, Eukor loads some 1.3 million Hyundai cars onto its vessels at Ulsan for shipment around the globe. On the other side of the peninsula lies Eukor's second most important port, Pyeongtaek where the bulk of cargoes taken on board are locally produced Kia vehicles and where the company is investing heavily in infrastructure to obviate shipping bottlenecks. Under the leadership of company vice president Peter Thomsen, Eukor is building two terminals at a total cost of US$120 million that are slated to open in the summer of 2008. When completed, they will at once allow the company to ship Kia cars out more efficiently, while providing the means to unload the bulk of its vehicle imports into Korea. Two similar facilities being built adjacently by Hyundai/Kia will create a complex of four contiguous dedicated car terminals, which when completed, will be among the largest in the world.

While this commitment is significant, Eukor has made far greater investment in its mobile capital stock through Korea, contracting 25 of its new vessels with Korean shipyards over the last four years, which represents an order book worth US$2.5 billion.

The contributions of Eukor Car Carriers and other members of the Korean shipping industry have not gone unnoticed by the Korean government in that it has sought to encourage its development by radically altering the tax regime under which it operates. In line with recommendations by the Organization for Economic Cooperation and Development (OECD) for the shipping industry, instead of paying tax revenue, Korean shippers will now pay a fee per vessel. Mr. Hagman explained the move was in direct response to petitions by Eukor in concert with other domestic shippers.

"Korea did not have this previously, while the United Kingdom, Denmark, Holland and other shipping countries did, so the response to our request to the government that Korea should adopt a similar system has been fantastic," he said. "Just one year ago we made our first overtures to the government on this matter, and here we are, with the new regimen in place. This demonstrates that Korea has a very positive shipping policy and through legislation wants to show it has a long-term commitment not only to shipbuilding but also to the shipping industry."

The international logistics industry is the silent partner in Korea's ongoing development, its efforts largely unseen and unknown by the majority of those who benefit from them. The rising volume of foreign trade as Korean products become better known and gain greater acceptance in overseas markets and as Koreans become more familiar with foreign brands will only heighten its importance and that of the shippers who facilitate it. In the case of Eukor, a niche competence in vehicle transportation coupled with a unique combination of circumstances has propelled it into the ranks of the most illustrious groupings of foreigninvested companies in Korea: the Billion Dollar Club.

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