The Business Of Cruising
An estimated 15 million people take cruises each year from 23 ocean cruise lines whose businesses see regular growth year over year. Business analysts saw no reason why this trend wouldn’t continue and the primary marketing emphasis has been in luring new customers to cruising rather than taking away market shares from other companies.
In the first quarter of 2020 everything has changed. A global pandemic has moved across the planet with unprecedented speed. Nation after nation closed their boarders and ports. While cruise ships were in no way responsible for any real spread and onboard outbreaks left ships more victims that perpetrators the public relations was disastrous. Even if no one is talking about it, the cruise industry will probably never be the same.
As the United States, England and other countries take drastic measures to financially protect their businesses, industries and citizens the cruise industry finds itself boxed into a corner. Much of the financial success of cruise companies, rightly or wrongly, has been based over the past fifty years on a a maritime, international model. That model now represents its largest current threat.
Cruise lines have avoided U.S., British and other countries laws and regulations for a long time. Starting in 1920 two U.S. ships, the M/V RELIANCE and the M/V RESOLUTE, ‘re-flagged’ in Panama in order to avoid the U.S. Prohibition.
Rules governing ships at sea come under The International Maritime Organization, of which the United States is a member. It requires all ocean ships engaged in international trade to have a country of registry in order to sail in international waters. A ship is considered the territory of the country in which it is registered. The wording “country” pertains to any country, developed or underdeveloped and under maritime law considers those ships the territory of its flagged country subject to its laws and regulations.
Over the past fifty years virtually all cruise ships have been “flagged” in smaller countries like Panama, Liberia, Malta, and the Bahamas. A vessel’s country of registration is commonly referred to as the “flag of convenience”, saving cruise companies taxes, avoiding strict labor laws and provides them favorable court venues.
The Overall Benefits Of Flags of Convenience
Cruising is a unique industry and using flags of convenience has actually been a benefit to a diverse number of people including employees and passengers as well as the companies. The usual criticism is that flags of convenience is used to pay subsistence wages far below what is fair. There is also the issue that passengers are not protected by having the option to seek legal remedies in their home courts. In both of these the truth is much more complicated than it would seem.
The Wage Issue
The internationalization of business has been a huge benefit to people worldwide. Businesses in developed nations have benefited greatly from using off-shore manufacturing to reduce the labor component of their products This allows them to reduce selling prices, benefiting their customers, while increasing profits. Labor in less developed countries has also benefited with more jobs, improving wages and an increased standard of living. While there are always problems, trade-offs and abuse, overall the world has become a better place because of international business.
The cruise business does not sell a physical product but instead is based primarily on providing an all-inclusive service. In order to do that, one of their significant cost areas is associated with labor. Just like many western businesses they also rely on less costly labor. Just like manufacturing industries the cruise business relies on less expensive labor from all over the world, the difference is you don’t see the people that make your electronics, shoes and clothing but on a cruise ship get to know them. It is unfair to suggest that they are paid slave wages. The truth is cruise companies usually pay above prevailing wages in the countries where they recruit staff and while work hours may seem excessive they are in fact usually better than work hours and conditions back home.
If you talk to cruise ship staff you will find people from over fifty countries and a surprising number that have worked for the cruise line for many years renewing contract after contract. It is that flag of convenience concept that allows those employees to work at all. By Western standards they work long hours for little pay. Fifteen hour days for $1,500 to $1,800 a month (with free room and board) is not uncommon but compared to wages and working conditions back home many consider themselves lucky to have these jobs.
It is that flag of convenience labor arrangement that allows for a reduced price of product. If all the cruise companies were required to flag their ships in a major Western country, the cost of an average cruise would probably double. That would than reduce the number of potential passengers by more than half while seriously impacting employment and income in dozens of less developed and third world countries.
Legal Liability Arguments
With more than half of passengers being American the legal rights and remedies of U.S. passengers are, in fact, reduced because of flags of convenience. This is primarily because most ticket/passenger contracts are written under the registering country’s law and can include limited-liability clauses that are no longer supported in the United States and many Western countries. Under international maritime law, those clauses are usually enforced in courts of the registering country. Regardless of the attempted litigation location, the majority of courts worldwide still relinquish jurisdiction to maritime laws and those nations of registration.
There are two reasons why this isn’t as serious a problem as many critics will claim. First most major cruise companies are well aware of the potential public relations impact of seeming insensitive to perceived wrong doing and the media seems always out there waiting for a cruise ship tragedy story to emerge. Second, Western countries are always examining how cruise companies use or abuse that flag of convenience status. In the United States the courts have been stretching their interpretation of maritime law and jurisdiction in recent years and if the cruise companies flagrantly evade reasonable responsibility it could bring on governments rethinking maritime law and those flags of convenience policies.
Much of the criticism and notoriety is driven by litigation law firms seeing cruise ships as a huge potential liability litigation opportunity. If ships decide to start reflagging their ships in major western countries the cost of new civil actions could be significant.
Safety, Regulations And Inspections
While there are a lot of critical claims about cruise companies and their ships evading laws. that is not the case in a number of areas. While cruise ships may be considered territories of specific countries and there laws, there ability to sail within the waters of major nations does bring them under their regulations in a number of areas. Ship safety, food safety, environmental requirements are all regulated by the governments of cruise ports frequented by cruise ships along with international treaties and maritime laws. Lifeboat requirements and safety drills are required by a number of laws and Coast Guard inspections are common. Food safety inspections are required for ships cruising in the waters of a number of countries along with environmental regulations. Often these regulations also cover the qualification requirements of specific crew positions.
How the Pandemic Could Change the World of Cruising
The 2020 pandemic has turned the economies of most of the worlds countries upside down. Governments have forced whole segments of their economies to shut down. After weeks and months of being closed countless businesses could be devastated even if the governments offer assistance. In the United States the administration and government are promising to help major, important businesses but in the case of the cruise companies much of their operations have been outside of the country and its laws. We are already hearing arguments suggesting that if this industry wanted to operate outside the reach of the government maybe they are outside the governments responsibility as well.
Considering the magnitude of the current financial crisis how much financial reserves do these cruise lines have? Looking at the last available financial statement for Royal Caribbean:
2017 Annual Amounts (Monthly Amounts)
Total Revenue $ 8,777,845,000 ($ 731,487,083,000)
Total Costs $ 7,152,712,000 ($ 596,059,333,000)*
Net Income $ 1,625,133,000 ($ 135,427,750,000)
Total Assets $ 22,296,317,000** Includes Capital Leases
Total Debt $ 7,539,451,000
2020 Cash Reserves $ 243,740,000,000***
*Without having access to more financial information this is only an approximation. At full operation monthly costs are around 600 million dollars. In a complete shut down by reducing fuel, provisions and furloughing employees that could be reduced by 40-60%. The company would still be faced with significant operating expenses like servicing debt, headquarters and ship maintenance and operating costs.
**The assumption has to be that a significant percentage of this amount is actually the current value ships. In a market going forward where demand gets reduced by 50% (estimate) the asset value will be seriously impacted and selling ships would probable not be possible.
***This is a current dollar amount which indicates that in a total shutdown those cash reserves would last for one to three months. After that the corporation would be facing defaults on its debt.
The problem is that one has to assume that a major portion of those assets are actually cruise ships. The value of any physical asset is based on its ability to generate revenue and resale value in the marketplace and that depends, in the case of cruise ships, on people wanting to continuing booking cruises. Additionally, with a major monthly loss in revenue cash reserves will vanish quickly.
Everything depends on how quickly cruise schedules can restart and how many people will return to cruising and how fast. In addition there are a significant number of people holding credits for future cruises that will reduce monthly cash flow for a while going forward even after cruising returns to normal. It would not be surprising to see some companies fail over the next six to twelve months and, at the least, see a number of ships removed from service.
A Cruise Industry Without Flags of Convenience
In the world of cruising there is one ship that demonstrates what eliminating that flag of convenience policy would look like. NCL flagged The Pride Of America in the United States in order to allow it to cruise the Hawaiian Islands. This ship must meet a number of American laws and regulations and that means that the crew must work in accordance with American labor laws restricting the number of hours they can work. Pay must also meet minimum wage and other U.S. payroll requirements and additionally the crew must meet legal requirements to work in the United States.
There are two major consequences of meeting the flag requirements of the United States. The first is the cost of the cruise. On average a seven day cruise on The Pride Of America costs about twice as much as other NCL seven day cruises. With those sort of price increases how much of the market will no longer see a cruise as financially justifiable?
The second is level and quality of service. While this is a subjective measurement a number of cruise ship surveys regularly rate The Pride Of America’s service one to two stars lower than the NCL fleet average.
So what you get is a lower quality experience at a significantly higher price. Cruising’s success has been based on a number of factors but affordability is probably the biggest. Vacation competition includes theme park destinations, all-inclusive resorts and land tours and dollar for dollar cruising has consistently been the winner.
Without some outside help with cash infusions and significant numbers of people making cruise bookings again there will be rough seas ahead for this industry.