What Is A Ship Mortgage? Some Thoughts onPast and Current Trends

by Emery W. Harper, Harper Consultants, Inc.

Most ship mortgages under U.S. and Liberian law tend to be lengthy documents with multiple exhibits, a daunting encounter for the layman or new mortgagee. The documents themselves do not offer education to the newcomer. Moreover, there is no definition of “mortgage” in the Ship Mortgage Act. There is no definition of mortgage in the Uniform Commercial Code (“UCC”). There is no definition of the term in any of the three versions of the International Convention on Maritime Liens and Mortgages. There are no longer any state chattel mortgage laws to which to refer.

The purpose of this brief article is to try to identify those elements of the U.S. preferred ship mortgage which are essential to its purposes and to provide a guide for the layman in spotting these elements when they are hidden under a wealth of verbiage. Where can we turn for guidance?

In a 1927 edition of Wiltsie’s Treatise (originally published in 1913) is the following general description:

“A mortgage is a conveyance of [property], or an interest therein, as security for the payment of money or the performance of some condition, the conveyance being defeasible upon such payment or performance. A mortgage…is not required to be in any particular form….”

This is a helpful, and reassuring, beginning. We might next look for an example, a time-tested prototype, to review. Fortunately, a form was published by the U.S. Customs Service in 1954, when that Service had responsibility for administering the ship mortgage statute. This form distills the mortgage to its essence and completes its job in 4 pages, including one page fully devoted to a reproduction of the subject vessel’s Certificate of Documentation, a recital no longer required for purposes of identifying the vessel subject to the mortgage.

These essential elements are:
1.      Description of the parties. “From [the Owner]” “To [the Mortgagee] .”
2.      Recitals. Only two facts seem essential: the first is the ownership of the vessel by the owner, and the second is the existence of the debt. The form provides space for appropriate description.
3.      Conveyance clause. “Now, for purposes of securing the payment of said debt, and interest thereon [the Owner] has granted,…and mortgaged and by these premises does grant…and mortgage” the vessel “together with the mast, bowsprit, boat, anchors, tables, chairs, rigging, tackle, apparel, furniture, and all other necessaries thereunto appertaining and belonging.” This description of the conveyed property is intended to comply with the requirement that the mortgage includes “the whole” of a vessel.
4.  “Habendum” clause. This clause follows the conveyance and confirms the property rights of the mortgagee. “To have and to hold” unto” the mortgagee’s own sole and only proper use, benefit and behoof…forever.”
5.      “Defeasance” clause. [The important part from the owner's point of view.]  This clause provides that if the debt is timely paid, the mortgage is canceled and the owner gets his property back.

There then follows a series of provisions which, while arguably more prudent than legally necessary, seem somehow justified by the circumstances.  These include:
6.  Defaults. The circumstances and events which would constitute a “default” are listed.  These extend beyond specific non-payment of the debt to include failure to maintain ownership, freedom from liens and judicial process and insecurity felt by the mortgagee caused by delays in payments. The phraseology in several of these paragraphs seems quaint, and therefore appealing.
7.      Rights of the Mortgagee after Default. The mortgagee’s right to take possession of the vessel, to have it sold, and to retain the proceeds of sale to the extent necessary to satisfy the debt and “reasonable expenses.”
8.      Owner’s Right to Excess Proceeds. The owner’s right to receive any excess proceeds of sale of the vessel is specifically provided for.
9.      Covenants. The principal covenant on the part of the owner is to obtain and maintain proper insurance on the vessel “in good and responsible” insurance companies.

Other important covenants may come to mind.  In some mortgages, today, as noted at the outset, covenants may run many pages and extend to agreements attached as exhibits.
10.     Owner’s Right to Use the Ship. Tucked away at the end of the form is the owner’s right to retain possession and use the vessel without interference from the mortgagee so long as there is no default.

Readers of this article may now easily identify from this distilled form the essential legal elements of the ship mortgage, together with some substantive terms, and know which provisions are subject to discussion (and negotiation).

The U.S. Ship Mortgage Act, passed in 1920, was designed to create a “preferred mortgage lien” which would be recognized in the admiralty courts of the United States and which would have a lien position on a ship ahead of all maritime liens except for those specified in the statute as “preferred maritime liens.”

This statutory scheme built upon a “valid mortgage” which, at the time of creation, included the whole of a U.S. flag vessel and which became “preferred” when certain specified events or conditions occurred. The original prerequisites for the mortgage to obtain preferred status have largely been eliminated. Two of the prerequisites, endorsement of the mortgage on the ship’s certificate of documentation and the filing of the so-called “affidavit of good faith” by the mortgagor, were abolished when the Ship Mortgage Act was revised in 1989. These provisions were considered to have been ineffective in achieving the intended effect. A third requirement, that the mortgage not “stipulate that the mortgagee waive the preferred status”, was also abolished since there seemed to be no consensus as to what the provision meant, and the courts had not provided a predictable track record in figuring out how to apply the provision.

The fourth requirement, that the mortgagee be a citizen of the United States, has been subject to a series of statutory revisions until last year when the restriction related to citizenship or some form of U.S. control over the identity of the mortgagee was abolished.

Thus, the only precondition remaining from the 1920 statute for a “valid mortgage” (which must still include the whole of a U.S. flag vessel) achieving preferred status is the requirement for recording. Even this rule has been relaxed somewhat by the 1989 provisions which afford certain protections for mortgages filed with the Coast Guard but not yet recorded.

All of the foregoing changes were of significance in reducing the technical hurdles to be leaped in achieving preferred status. But the paperwork confusion remains and to some degree threatens to be exacerbated as the UCC extends its reach.

In the mid-1960s, the UCC replaced most of the state statutes and common law dealing with the granting and securing of priority interests in both tangible and intangible property. Old forms of documentation such as chattel mortgage systems, for establishing priorities, were replaced by new ones. The chattel mortgage laws were abolished. The security agreement effectively replaced mortgages and other forms of security devices, and liens became known as security interests.

What is noteworthy in the 1989 revisions of the Ship Mortgage Act was the failure to move toward a UCC approach of using a security agreement to create a security interest. Instead, the statutory scheme retained the use of the “mortgage” which, when recorded, creates the “preferred mortgage lien.” It is probably inevitable that a transition based on the UCC should take place in order to keep maritime financing better connected to current law. But for the foreseeable future, the “preferred mortgage” remains the principal component of ship financing.

Emery W. Harper, long a partner in Lord, Day & Lord, known for his effective work in all aspect of ship financing and legislative and regulatory issues, has recently formed Harper Consultants, Inc. He can be reached by telephone at  212-421-7633; fax 212-308-4509; 575 Madison Avenue, 6th floor, New York, NY  10022.

A Modest Proposal: Creating an International Shipping Finance Exchange

by Danny D. B. Ho, IMC Holdings Limited

The Different Perspectives of Owners and Bankers
Today, bank loans are by far the most important form of shipping finance, providing for about 70% of the total financing needs of the shipping industry. Competition among banks is extremely keen as the number of banks involved in international shiplending continues to register significant increases. The number in 1996 is estimated to be around 200, which, compared to the 150 in 1995, represents a 33% increase over just one year. In 1992, the number was between 65 and 70.

As Singapore is well covered by international shiplending banks, local owners do not generally have any problem securing bank finances and are not disadvantaged in this aspect when compared with other owners.

There are two issues in connection with bank loans which I would like to mention. The first is pricing. The justifications given by banks for the pricing of deals include the size of the company, the size of the loan, the credit rating and the market condition. We all know that a credit rating can be subjective at times. Owners, especially smaller owners, should query whether they have been given the “correct” pricing for their loans. Do owners actually know how they are being rated? Do they know what the true market condition of pricing is at the time they negotiate the loan? Don’t forget owners generally do not negotiate bank loans everyday and the last time they did so may possibly be a year or even a few years ago.

The second issue which I wish to mention is syndication. There is now an increasing tendency for banks to aim at syndication or club deals instead of bilateral loans (i.e. one lender to one borrower). The main purpose is to “spread the risks”. However, with the exception of some of the big names seeking big corporate loans, syndications cause problems for owners as it takes longer to complete a deal and entails higher documentation and communication costs. If the syndication is to be done on “best effort basis”, the situation will be worse, sometimes even disastrous. Furthermore, if owners want to make any changes to the loan or documents, they will have to seek approval from the majority or all of the syndicated banks. This situation is undesirable, but unfortunately owners and banks have different needs.

With these two issues in mind and looking at the broader relationship between shipowners and banks in a bank loan transaction, my observations can be summarized as follows:
Owners want to:
•     Know how they are being rated so that they can find ways to improve their rating
•     Know about the market condition on pricing and terms so that they can assess whether they are given a fair deal
•     Negotiate with only one bank instead of many banks
•     Ensure timely completion of a loan facility
•     Reduce costs, e.g. documentation costs, communication costs, mortgagee’s insurance premiums.
Banks want to:
•     Spread risks
•     Broaden their client base
•     Know more about the client
•     Know more about industry forecasts
•     Reduce costs, e.g. manpower, operating systems.

An International Shipping Finance Exchange in Singapore
What can we do to improve the situation? While working on this paper, I came upon the idea of setting up an international shipping finance exchange in Singapore. While local interests will always be an important factor, the Exchange is not to be confined to local banks or local owners, but is meant for everybody.

At the moment, this is just an idea which needs to be evaluated and tested. It may or may not work in the end. The concept behind it is partly borrowed from Lloyds and BIMCO.

The Exchange is essentially comprised of a number of Syndicates run by Shiplending Banks. The optimum number to start with should be between 25 and 50. Each Syndicate is subscribed by one or more banks. For example, Syndicate I has only one bank and Syndicate II has six banks where one bank acts as the Leader and the remaining banks act as Followers. A Borrower can negotiate deals with Leaders of different syndicates simultaneously but cannot negotiate deals with the Followers directly.

Within Syndicate II, there will typically be a formal sharing agreement between the Leader and the Followers where the Followers undertake to accept, for example, a 10% share of all business transacted by the Leader. The sharing agreement will specify the terms and conditions of participation which preferably will be on the basis of silent participation in order to ensure efficiency. Loan participation can be traded within or outside of the Syndicate according to predetermined terms. The Leader should always maintain a certain minimum share and is given a fee for its work. The Exchange should allow and provide for inter-syndicate transactions involving the swapping of shares between syndicates similar to reciprocating re-insurance arrangements among insurance companies, selling down of loans or, for big ticket transactions, execution of Club deals. Again, negotiations will be conducted between Leaders only.

The Council
The overall function and operation of the Exchange will be governed by the Council. Council members should comprise of Government Representatives and elected members among the Syndicates. The Council through its appointed committees will look after the following functions:
1)    Regulatory issues of the Exchange – They will handle Government regulations and will also serve as the administrative control of the Exchange to ensure fair and equitable operation for all participants.
2)     Systems / Process / Information Technology – It is the intention that the Exchange will operate under a state-of-the-art “high-tech” environment.
3)     Intelligence – This will provide members with information on cases of fraud, default, etc.
4)     Documentation for internal and external use – The aim is to continuously improve the quality of all documents used and to simplify and standardize them as much as practicable.
5)     General Affairs – This will include dealing with matters of common interests or concern, e.g. OPA ’90.
6)     Marketing – Marketing will be done collectively to attract more customers world-wide. Simultaneously, Banks can continue doing their own marketing as they do at the present time.

Who Will be Involved?
Because of the nature of the Exchange, it is expected that Companies from within the following industries or disciplines will be drawn to work closely with the Syndicates:
1)     Rating Agencies – This will provide more consistent rating for Borrowers which in turn will hopefully lead to more consistent and “accurate” pricing. Emphasis will be placed on developing appropriate and more relevant rating standards for local and regional corporations. The Agencies can also be employed to track the performance of Borrowers.
2)     Shipping Research – It may be possible to share certain forecasting and financial models as well as certain databases resulting in cost savings.
3)     Financial Advisors – They are normally appointed by the Borrowers to act as brokers or advisors, i.e. they are the  “market feelers” of the Borrowers. Appointment of Financial Advisors is not compulsory, hence Borrowers can still deal directly with Syndicate Leaders. Financial Advisors can also be appointed by Syndicates to handle inter-Syndicate transactions.
4)     Lawyers – There may be an advantage in terms of costs and standardization of certain documentation if appointment is confined to a few “contracted” lawyers only.
5)     Insurance Brokers – Closer contacts will facilitate the handling of claims under a Loss Payable Clause, letter of undertaking, guarantees, etc. It may also help to bring down the cost of a Mortgagee’s insurance.
6)     Shipbrokers – Closer contacts will encourage more consistent and hopefully more accurate ship valuations.
7)     Shipmanagers – They will be very handy and useful for asset protection purposes.
The concept of an International Shipping Finance Exchange, like Lloyds in London, is to bring together all major components of the shipping finance fraternity to work in cooperation towards the overall well-being of the industry. The Exchange will provide a common platform for all participants to conduct business through highly advanced computer networks. Thus, unlike Lloyds, a trading floor is not necessary. It is envisaged that through the Exchange, certain functions can be integrated and processes streamlined so that the industry as a whole will become more efficient and cost-effective.

For example, in dealing with insurance matters such as checking and approving the credit of Underwriters, insurance policy terms and conditions, claims, etc., instead of each individual Bank interacting directly with the insurance companies or insurance brokers, such activities can be taken up collectively by the Exchange on behalf of the syndicate members.

Finally, the nature of the Exchange should also help to enhance professional excellence and breed imagination and creativity within the industry. This is important as it will have a far-reaching impact on ship financing in the future and will hopefully make everybody a winner in the long run. Indeed if the Exchange works well and is successful, it can be expanded at some later stage to include other forms of structured finance such as aviation, ports, terminals and rail.

Why Singapore?
For the scheme to have any chance of success, one critical element that needs to be examined and determined is “location” and “Government Support”. In this connection I have chosen Singapore because Singapore’s involvement is vital. Let me quickly take you through the factors concerned.

Apart from the stable political and economic environment, the highly efficient and effective government and the excellent infrastructure, other important factors include:
1)     The presence of international banks – There is already a good presence of international banks in Singapore, including most shipping banks. This will certainly facilitate the evaluation and implementation of the scheme.
2)     The Asian Dollar Market (ADM) and Asian Currency Unit (ACU) – Singapore has an excellent track record in successfully implementing ADM / ACU. Moreover, the presence of a US Dollar funding source is of great importance. This puts Singapore ahead of other alternatives in the region.
3)     Singapore’s Ship Registry- There is now a sizable fleet under the Singapore Ship Registry and the chance of further expansion is high. Singapore can capitalize on the strength of its Registry to spearhead the development of the International Shipping Finance Exchange if necessary.
4)     An approved International Shipping Enterprise Scheme (AIS) – As more and more shipowners set up operation in Singapore, this will provide the balance on the other side of the equation.

In addition, we can also throw in Singapore’s sizable shipbuilding industry, terminal operations, shipping agencies, etc. Incidentally, I have been told that Lloyds is also considering setting up an operation in Singapore. So let us imagine: if we take what Singapore already has and add to it Marine Insurance and Shipping Finance, Singapore will then  truly become a one-stop international maritime center.

Danny Ho can be reached in Hong Kong at Tel: 852 2820 1200; Fax: 852 2596 0313.

East Asian Developments

by K.K. Chadha, Hong Kong

South Korean shipbuilder Hyundai Heavy Industries’ 1997 business plan envisages a 31 percent increase in orders for its six divisions to US$8.94 billion, with overseas orders rising to 60 percent ($5.4 billion). The shipbuilding division expects growth of 49 percent to $3.34 billion by focusing on VLCCs, LNG tankers and other high-end ships, a shift from the previous emphasis on containerships and bulk carriers. More efforts will be made to maximize the efficiency of its VLCC dock. The company expects to get orders from Malaysia, Australia and Oman. The ship engine division will launch an aggressive marketing campaign to win more orders from foreign shipbuilders. The division expects growth of 52.4 percent to achieve a sales target of $1 billion. The company will focus on selling large engines of more than 70,000 hps to diesel-powered generation plants in Southeast Asia. To encourage exports, the company plans to increase loan support to the companies placing orders for floating petroleum storage facilities. Continue Reading

Business as Usual After Deng’s Demise

by K.K. Chadha, Hong Kong

Shipping executives say the death of China’s paramount leader Deng Xiaoping last month will have little impact on the shipping industry in Hong Kong or China.

Hong Kong Shipowners’ Association director Michael Farlie said: “I don’t think it will have any impact on the industry in the short term.” He said the association, which had good relations with China’s Ministry of Communications, had no reason to believe the mainland’s supportive policy towards Hong Kong’s shipping industry would change. Continue Reading

Corrections, Apologies and Comments on P&I Clubs’ Financial Statements

by Graham D. R. Barnes, Chairman, Nicholson Leslie BankAssure Limited

In the Marine Money issue dated 16th to 31st January 1997, we published an article titled “Concerns of the Unwelcome Guests” which included a summary of the latest financial statements of each International Group club to 20th February 1996 under Table 4 “Liquidity Coefficients.”

We regret that the figures extrapolated from the financial statements of the West of England P&I Club and The Steamship Mutual were incorrect and consequently understated the liquidity coefficients of these two clubs, an error for which we sincerely apologise. The correct liquidity coefficients for the West of England P&I Club should read +0.5% and for the Steamship Mutual -12.71%.

The Liquidity Coefficient table with the corrected figures, including the British Marine Mutual figures, are reproduced in Table 1 attached.

The Liquidity Coefficient table was prepared to give a rough indication of the ongoing liquidity position of each P&I club and therefore the potential requirement for future Supplementary Calls to meet any shortfall position. Continue Reading

TEEKAY SHIPPING CORPORATION

EXCHANGE:
NYSE

SHARE PRICE (DEC. 31, 1996):
US$32.75

1996 TRADING RANGE (THROUGH NOV. 26):
US$23.25 – $31.50

MARKET CAP. (AS OF SEPT. 30, 1996):
US$812,196,000

OVERVIEW
•    Teekay Shipping Corporation, founded in 1973 by the late Torben Karlshoej, is a leading provider of quality transportation services to the oil industry.
•    Teekay, which went public in July of 1995 and is headquartered in Nassau, Bahamas, owns and manages the world’s largest and most modern fleet of medium-sized tankers employed primarily in the Indo-Pacific Basin.
•    Teekay maintains full control in-house over all ship management and operations through a network of agents that work exclusively for Teekay.
•    The majority of Teekay’s operations are orchestrated from the Vancouver, Canada office, but the company also maintains regional chartering offices in London, Singapore and Tokyo. Continue Reading

OMI CORP.

EXCHANGE:
NYSE

SHARE PRICE (DEC. 31, 1996):
US$8.75

1996 TRADING RANGE (THROUGH NOV. 26):
US$5.63 – $9.25

MARKET CAP. (AS OF SEPT. 30, 1996):
US$221,947,419

OVERVIEW
•     OMI provides seaborne transportation services for crude oil, petroleum products and dry bulk products including iron ore, coal and grain.
•     OMI owns solely or through joint-ownership, or charters in, a fleet of 33 vessels. The fleet consists of 4 American Flag vessels, 20 wholly owned foreign flag vessels, 5 joint venture vessels, 1 chartered in vessel, and 3 chartered in vessels from OMI’s 83% owned subsidiary OMI Petrolink, a provider of lightering services to tankers importing crude oil into the Gulf of Mexico.
•     The company’s vessels are available for charter on a voyage, time or bareboat basis.
•     OMI is involved in both the technical and commercial operation of its vessels. Continue Reading

NORDIC AMERICAN SHIPPING

EXCHANGE:
Oslo

SHARE PRICE (DEC. 31, 1996):
NOK 55.00

1996 TRADING RANGE (THROUGH NOV. 26):
NOK 41 – 52

MARKET CAP. (AS OF SEPT. 30, 1996):
US$55.96 million

OVERVIEW
•     Nordic American Shipping (NAS), based in Norway and established in 1989, is primarily involved in the operation and development of shuttle tankers and floating offshore storage vessels in the North Sea.
•     In September 1996, the company merged with the tanker operations of Andreas Ugland & Sons. As a result of the merger, NAS is well positioned in the rapidly expanding shuttle tanker market.
•     Through its 13% stake in Nordic American Tanker Shipping, a Bermuda-registered company established by NAS in 1995, and ownership in one aframax tanker and one panamax tanker, the company is also involved in traditional tanker operations.
•     The company’s administrative and commercial operations are run from the head office. Technical operations are handled by Ugland Interocean Management. Continue Reading

MIF in Successful Secondary Offering

by Alan Ginsberg

To repeat the immortal words of Yogi Berra, our acknowledged American master of malapropisms, “It’s deja vu all over again.” How better to describe the recently completed $70,000,000 share offering by MIF Limited, the Tsakos-controlled, thinly traded, Oslo sharelisted company.

We do not choose our words lightly. While Tsakos Shipping & Trading S.A. (hereafter “TST”) owns only 23% of the approximate 4.1 million shares previously outstanding, TST exerts complete commercial, technical and financial control over the day-to-day operations of MIF. Simply stated, MIF has no employees. Absolute Navigation Ltd., (hereafter “Absolute”) the single purpose company “managing MIF affairs” also has no employees, having in turn “employed the technical management services of TST for all day-to-day aspects of vessel operations.” To be sure, these relationships are fully disclosed. What miffs us (and we do apologize for any puns) is the antiquated notion of management either adding no intrinsic value or at best only being for rent. For those with short institutional memories, we need only to query the management of Teekay Shipping Corporation, whose initial attempt for a public sharelisting failed in part on this issue. The fact that this is a secondary offering does not impact our views. Continue Reading

ICB SHIPPING

EXCHANGE:
Stockholm

SHARE PRICE (DEC. 31, 1996):
A shares: SEK 80; B shares: SEK 79

1996 TRADING RANGE (THROUGH NOV. 26):
A shares: SEK 58 – 85; B shares: SEK 57 – 82

MARKET CAP. (AS OF SEPT. 30, 1996):
US$329,457,713

OVERVIEW
•    Stockholm-based ICB operates six VLCC and six Suezmax tankers with one more on order. The vessels are used solely for the carriage of crude oil.
•    All of the company’s vessels were constructed after 1990, thereby making ICB one of the world’s leading operators of modern crude oil tonnage.
•    ICB’s theory is that, through superior management of first-rate tankers, the company’s vessels will receive preferential treatment from transport purchasers and will be in constant and lucrative employment.
•    The company’s owned and chartered vessels are currently employed in spot market charters.   Continue Reading