I am often asked how a demurrage rate is determined in a charter party. I reply that it is similar to fixing the freight rate but there are some differences.
How is the freight rate agreed? This is determined by two factors; the size of the vessel and the state of the market.
Most freight rates are quoted as a percentage of the flat rate per tonne of cargo as determined by Worldscale for their standard vessel. The standard vessel is 75,000 DWT so all things being equal a charter of a 75,000 DWT vessel should command Worldscale 100 (WS100), or 100% of the freight rate calculated by Worldscale. Of course this will rarely happen as the rate is influenced by the market so if there are few cargoes but lots of available ships the rate is likely to be a lot lower than WS100. Conversely if there are lots of cargoes and few ships the rate will exceed WS100.
Economies of scale. On top of this ‘market’ factor there is an element of the economies of scale so if the fixture is for a 270,000 DWT vessel it follows that the dollar cost per tonne of cargo will be less than that for a 75,000 DWT vessel on the same voyage. As a result the fixture will be concluded at less than W100. It works the other way round for smaller vessels.
What has this got to do with demurrage rates? Well the same principles apply in that the demurrage rate, usually agreed at a fixed value per day or pro rata is a reflection of both the market and the economies if scale. The demurrage rate for a VLCC of 270,000 DWT is unlikely to be almost four times that of a 75,000dwt tanker because of the economies of scale although it could happen if the market is tight in one sector of the market compared to another.
Whilst the freight rate is subject to spikes up and down according to market influences demurrage rates follow the same pattern but the spikes are smoother and they don’t hit the extreme top and bottom as seen in freight rates. This is illustrated by today’s market.
I understand that the freight rate today for a VLCC is approaching W45 – and I believe this gives the Owner a daily return of about USD22,000 per day. However the demurrage rate for a VLCC fixed today is around USD34,000 per day. Obviously the Owner must deduct the cost of idling bunkers to get a proper comparison with the freight rate return per day but it is clear from these numbers that the demurrage rate is better for the Owners.
I find it interesting that while Charterers are happy to take the freight rates as low as the market gives them they appear not to insist on reducing the demurrage rates to a comparable level. This is good news for Owners in this bleak market and even at its recent low point when freight was giving a return of only USD3,000 or 4,000USD per day the demurrage rate did not drop below USD20,000 per day.
The converse of this is also true in that when the freight market hits a high the demurrage rate lags behind the daily return achieved by the freight. In such cases the Owner hates getting delayed at any ports as he wants to get on and earn the next freight.
Back to today’s market – the Owner is earning more on demurrage than he is on freight and he must be praying for delays in port to earn demurrage and boost his earnings.
What is your experience of the relationship between freight and demurrage rates? Do you have an alternative viewpoint? Do my numbers add up? Let us know what you think by posting your comments here.