When Hawaii regulators let the state’s monopoly interisland shipping company increase its rates a whopping 46% in August 2020, the order came with an equally whopping string – more like a rope – attached: Young Brothers would have to subject itself to a sweeping financial and management audit.
The purpose: to see what had gone so wrong that the century-old company needed an extra nearly $27 million to make ends meet.
Just over a year later, the audit is out. Its main finding: Young Brothers’ management had dropped the ball when it came to keeping up with rising labor costs, which were increasing sharply as outlined by a collective bargaining agreement with the company’s dock hands.
“Though the 2020 financial crisis faced by the Company was blamed on the impacts of the 2020 Covid 19 pandemic, in fact the root causes were much deeper and had been growing for several years,” auditors from the firm Munro Tulloch said in the report, which was submitted earlier this month to the Public Utilities Commission.
Young Brothers is enormously important to Hawaii’s economy because it’s the state’s monopoly interisland shipping company, a common carrier for everything from milk to automobiles.
The Public Utilities Commission regulates the shipping rates, much the way power utility rates are regulated. Any increase in Young Brothers rates ripples through the economy, often in the form of higher prices for retail customers – no small deal in a state where the cost of living is already among the nation’s highest.
With such high stakes, the company’s financial woes were alarming enough that in 2020 Hawaii lawmakers considered subsidizing the company’s operations by dipping into a special fund used to maintain and operate state harbors. Supporters said the bill was needed to prevent big price increases on food and other essentials on neighbor islands.
But several big questions were left unanswered, and the bill ultimately died in committee. Instead, the PUC approved an emergency rate increase to keep Young Brothers going, with the provision that auditors take a hard look into the company.
The 217-page audit report examined not only corporate governance, management, and marine and terminal operations, but also areas such as information technology systems and financial management.
Passing Rising Costs To Customers
While the details of Young Brothers’ future might be unclear, the audit does provide some insight into how the company, which was founded in 1900 and was once part of Hawaiian Electric Industries conglomerate, sailed to the brink of failure. Young Brothers is now a subsidiary of Foss Maritime, part of the Seattle-based Saltchuk Marine companies.
In essence, the audit found, Young Brothers management had simply grown accustomed to passing its increasing labor costs on to customers via rate increases routinely approved by the Hawaii Public Utilities Commission.
But by 2016, the PUC had become less compliant, and Young Brothers’ approved rate increases weren’t keeping up with the labor costs that were growing more than 10% per year, according to Young Brothers’ contract with its main union, the International Longshoreman and Warehouse Union, Local 142.
The labor costs weren’t the only issue the audit identified, and ILWU officials declined to comment. Still, the audit pointed out that the cost to employ workers combined with no plan to reduce costs elsewhere was a major problem.
“As labor accounts for almost 60% of total YB operating costs,” Munro Tulloch reported, “this had a major impact on financial performance from 2016 onwards.”
Some cargo Young Brothers carries is not regulated, meaning rates for it do not have to be set by the PUC. The auditors noted that Young Brothers tried to boost revenue by shipping more unregulated cargo, but, again, the issue was that costs also rose.
“Despite mounting losses, it appears that previous YB management had made minimal effort to make strategic changes during this period either to address operating efficiencies or to contain costs,” the auditors found. “Company leadership appeared to base this on the premise that their costs were fixed and instead focused their efforts on growing revenues by carrying more unregulated cargo. This had the net effect of growing overall revenues, but also resulted in additional costs such that operating losses continued to grow.”
Its recommendations for Young Brothers included:
Agreeing to implement measures to cut costs by at least $3.4 million in the short term and to not ask for another rate increase until at least 2023.
Extending credit lines.
Holding on to some $10 million in cash it has on hand and agreeing to get PUC approval before spending any of that money on operations, investment or dividends.
Having an independent observer step in to help oversee operations.
The recommendations are not binding, and it was not clear how strongly the PUC would try to impose them.
PUC Chairman Jay Griffin declined to comment on the report and referred a query to Ray Tulloch, a principal in the audit firm. Tulloch also declined to comment, saying he first wanted to meet with lawmakers to discuss his findings.
Kris Nakagawa, Young Brothers’ vice president for external and legal affairs, did not return calls seeking comment.
The audit report noted Young Brothers already had taken some steps to mitigate problems and that the company had cooperated with the auditors.