Fincantieri buyout of STX France may prove a hard sell among regulators

27 January 2017. By Natalie McNelis.

When Italy's Fincantieri emerged as the sole bidder for rival shipbuilder STX France, French Industry Minister Christophe Sirugue voiced his support. Saying "no" to the Italian powerhouse would be hard, he said.

But regulators in Brussels and beyond might flinch at how this merger could slash competition among builders of large cruise ships. The deal could leave big cruise-line operators such as Carnival with only two viable suppliers of these floating cities.

European manufacturers dominate global sales of large cruise liners, and right now there are just three major players.

The region's biggest shipbuilder by sales is Fincantieri, a 230-year-old manufacturer that churns out vessels ranging from yachts to aircraft carriers.

The other leaders are Germany's Meyer Werft, itself more than 200 years old, and STX France, which specializes in cruise liners at its 100-hectare shipyard in Saint-Nazaire on the Atlantic.

French support?

STX France is up for auction as a profitable subsidiary of South Korea's struggling STX Offshore & Shipbuilding. A Fincantieri buyout would likely require EU merger approval under rules that give the European Commission power to investigate deals involving companies whose sales exceed certain thresholds.

Fincantieri posted revenue of 4.18 billion euros in 2015, or $4.48 billion today. STX France's sales for the year reached 983 million euros. That puts the deal on the sonar of EU competition officials, who review mergers involving companies whose combined global sales exceed 5 billion euros and whose individual sales reach more than 250 million euros in Europe.

STX Offshore & Shipbuilding is under bankruptcy protection in South Korea, where a court overseeing the company approved Fincantieri's bid for STX France on Jan. 3. Neither the court nor Fincantieri has disclosed the value of the bid, but it is reported to be less than 100 million euros.

The French government owns 33.34 percent of STX France and has a right of first refusal to buy the business when it's up for sale.

But France would hardly want to do so if there's another way to preserve jobs at the shipyard, says Tony Peisley, an analyst who's been writing about the passenger shipping business for more than 40 years. That's because profit margins in the market for building cruise ships are notoriously low — in the order of 3 percent to 4 percent, Peisley says.

And even if France prefers a European buyer to an Asian one, it might insist on Fincantieri taking a stake smaller than 50 percent, to limit its control. France might also push a state-controlled naval contractor, DCNS, to take a stake.

Order books

Fincantieri, Meyer Werft and STX France are the only serious competitors when it comes to building the biggest of the big cruise liners — those weighing in at 100,000 gross tons or more, a measure of a vessel's internal volume.

The order books tell the story. Mitsubishi seems to be getting out of the business, after racking up losses from building two ships of 125,000 gross tons for Carnival. The Japanese company has one liner left to deliver in 2017 and nothing further, according to statistics compiled by Cruise Industry News.

An upstart has appeared, but only on the distant horizon. MV Werften's Baltic shipyards, owned by Malaysia's Genting Hong Kong, is due to deliver a ship weighing 204,000 gross tons in 2020. But its current production is understood to be destined for Genting's own Star Cruises and Crystal cruise lines to serve the burgeoning Asian cruise market.

Entry barriers

Barriers to breaking into the business of building cruise ships are higher than the 18 decks of MS Harmony of the Seas — the largest cruise ship in the world, built by STX France for Royal Caribbean Cruises.

You need massive shipyard infrastructure, pockets deep enough to bankroll long-term projects, and know-how to both engineer the vessels and manage mammoth construction projects, according to a 2008 decision from the European Commission analyzing the market.

Building a cruise ship can take more than three years from start to finish and can involve a dizzying network of suppliers. Up to 70 percent of the components of a cruise ship come from hundreds of independent suppliers, according to an earlier commission decision.

Buyer power

Buyers in this market are a powerful lot. Cruise operators such as Carnival, Royal Caribbean and MSC Cruises hold the keys to valuable, multiyear contracts that the shipyards are anxious to win.

Cruise liners in this class can cost more than $1 billion apiece and keep a shipyard busy for years. A contract often involves the construction of "sister ships" based on the same prototype, so winning the contract for the prototype ship is of paramount importance.

The shipbuilders tend to treat the customers with kid gloves, knowing it doesn't pay to antagonize them. But that doesn't keep the cruise operators from shopping around.

Buyers have been known to consult other shipbuilders on price even when ordering a sister ship, where savings in time and money weigh heavily in favor of sticking with one supplier.

And when it comes to the largest cruise ships, buyers won't likely welcome a merger that would slash the number of companies capable of competing for their business.

Three to two?

If regulators focus on this slice of the market, Fincantieri's purchase of STX France would reduce the number of credible independent competitors from three to two. In a market with so few players and such high barriers to entry, regulators can be expected to balk at the loss of one powerful, independent supplier.

German competition authorities have cleared a takeover that might seem similar: In 2014, the Bundeskartellamt approved Meyer Werft's purchase of STX Finland, amid concerns that the Finnish yard would otherwise withdraw from the market.

But that justification doesn't apply to STX France, which turned a profit of 4 million euros last year. All indications are that the Saint-Nazaire shipyard will remain in full operation, with orders on the books until well into 2025.

A regulatory impasse in Brussels might induce another buyer to pick up the Saint-Nazaire site. Genting Hong Kong might take it on. Or Dutch shipbuilder Damen, which flirted with a bid for STX France but withdrew, might come back into play.

Such an outcome — assuming it preserved three independent players in the market — would probably find an easier path to regulatory approval.