shipping report

Shipping UNNATI

REPORT ON SHIPPING SECTOR This report broadly outlines the value chain, industry dynamics, growth drivers & sector outlook Aditya Kandoi & Mayank Bukrediwala

Shipping REPORT ON SHIPPING SECTOR

UNNATI |Management Development Institute 2

Table of Content

S. No. Particulars Page No.

1 Indian Shipping Industry 3

2 Ports 7

3 Important Trade Routes 9

4 Market Segmentation 11

5 Value Chain 13

6 Freight Business- A Closer Look 14

7 Ship Financing 16

8 Chartering 18

9 Operating Parameters/Indices Assessing Freight Rates 19

10 Key Trends & Forces Affecting BDI 21

11 Demand & Supply Factors 23

12 Government & Maritime Regulations 25

13 Factors Hampering Indian Shipping Industry 27

14 Shipping Stocks 32

15 Companies Overview 33



SHIPPING

INDIAN SHIPPING INDUSTRY

Shipping plays an important role in the transport sector of India's economy. Approximately, 90 per cent

of the country's trade by volume (70 per cent in terms of value) is moved by sea. India has the largest

merchant shipping fleet among the developing countries and ranks 20th amongst the countries with the

largest cargo carrying fleet with 8.83 million GRT as on 01.06.2008 and the average of the fleet being 18

years. Indian maritime sector facilitates not only transportation of national and international cargo but

also provides a variety of other services such as cargo handling services, shipbuilding and ship repairing,

freight forwarding, lighthouse facilities and training of marine personnel, etc.

The salient features of India's shipping policy are the promotion of national shipping to increase self-

reliance in the carriage of the country's overseas trade and protection of stakeholders' interest in EXIM

trade. India's national flag-ships provide an essential means of transport for crude oil and petroleum

product imports. National shipping makes significant contribution to the foreign exchange earnings of

the country.

Some important features of the shipping industries are:

a) CYCLIC: Shipping markets have historically shown very long cycles which extend into decades.

The imbalances, created due to the substantial growth in trade and subsequent shipbuilding

bubble, inflates the fleet build-up. This leads to a drop in charter rates which when goes down

the breakeven cost per vessel (consisting of operational + capital cost). This leads to scrapping of

vessels which again balances the demand supply gap. In the 1970s, the last shipbuilding bust

period, had a very similar resemblance to the bust seen recently in 2009 though the magnitude

was different. The boom in the shipping tonnage addition was led by the demand for

commodities by Japan and Europe in the 1960s. The demand push for Tankers was further

amplified due to growth in oil imports by US. This led to an order of 129.5 mn dwt by 1973.

Remarkably, the historical data shows us that the deliveries lagged the ships on order so much

so that only 60 mn dwt of tonnage was delivered.

b) HIGHLY CAPITAL INTENSIVE: Apart from ship breaking business, other business segments in

shipping mainly freight & ship building are highly capital intensive. It requires huge investments

& in turn has high gestation periods thus pushing break even time to years. This capital intensive

nature of the shipping business acts as a barrier to entry & in a way protects those already in the

business.



INDIAN FLEET

Indian shipping tonnage, which was only 1.92 lakh GT on the eve of independence, now stands at 8.83

million GT and 14.85 million DWT consisting of 872 vessels (282 overseas vessels with 7.89 million Gt

and 13.55 million DWT and 590 coastal vessels with 0.5 million GT and 0.99 million DWT). There has

been an increase of 1.89 percent million GT in the tonnage during the last four years due to various

facilitative measures adopted by the Govt. especially introduction of toungsted for Shipping Industry

from the year 2004-05.

The total quantity of cargo handled at various Indian ports during the year 2006-07 was to the tune 464

M.T. as against 424 MT in 2005-06. It is reported that the share of overseas cargo carried by Indian Flag

vessels varied in respect of different categories of cargo. The diversion Cargo carried by Indian flag

during the year 2006-07 was around 12.2% comprising mainly of coal, crude oil and petroleum products.

The share of Indian Flag vessels in carrying grouped cargo was 3.6%, dry bulk 6.3% and petroleum

products, 24.7% respectively during 2006-07.

SHIPS AND WATERCRAFT

Most modern merchant ships can be placed in one of a few categories, such as:

Bulk carriers, such as the Sabrina I seen here, are cargo ships

used to transport bulk cargo items such as ore or food staples

(rice, grain, etc.) and similar cargo. It can be recognized by

the large box-like hatches on its deck, designed to slide

outboard for loading. A bulk carrier could be either dry or

wet.

Container ships are cargo ships that carry their entire load in

truck-size containers, in a technique called containerization.

They form a common means of commercial intermodal

freight transport. Informally known as "box boats," they carry

the majority of the world's dry cargo.

http://en.wikipedia.org/wiki/File:Sabrina_I

http://en.wikipedia.org/wiki/File:Resim_057



Tankers are cargo ships for the transport of fluids, such as

crude oil, petroleum products, liquefied petroleum gas,

liquefied natural gas and chemicals, also vegetable oils, wine

and other food - the tanker sector comprises one third of the

world tonnage.

Reefer ships are cargo ships typically used to transport

perishable commodities which require temperature-

controlled transportation, mostly fruits, meat, fish,

vegetables, dairy products and other foodstuffs.

Roll-on/roll-off ships, such as the Chi-Cheemaun, are cargo

ships designed to carry wheeled cargo such as automobiles,

trailers or railway carriages. RORO (or ro/ro) vessels have

built-in ramps which allow the cargo to be efficiently "rolled

on" and "rolled off" the vessel when in port.

Coastal trading vessels, also known as coasters, are shallow-

hulled ships used for trade between locations on the same

island or continent. Their shallow hulls mean that they can

get through reefs where sea-going ships usually cannot (sea-

going ships have a very deep hull for supplies and trade etc.).

Ferries are a form of transport, usually a boat or ship, but

also other forms, carrying (or ferrying) passengers and

sometimes their vehicles. Ferries are also used to transport

freight (in lorries and sometimes unpowered freight

containers) and even railroad cars. Most ferries operate on

regular, frequent, return services.

http://en.wikipedia.org/wiki/File:Supertanker_AbQaiq

http://en.wikipedia.org/wiki/File:Salica_Frigo_cropped

http://en.wikipedia.org/wiki/File:ChiCheemaun.

http://en.wikipedia.org/wiki/File:YarmouthNS_FishingBoats

http://en.wikipedia.org/wiki/File:PrideofRotterdam



Cruise ships are passenger ships used for pleasure voyages,

where the voyage itself and the ship's amenities are

considered an essential part of the experience. Cruising has

become a major part of the tourism industry, with millions of

passengers each year as of 2006. The industry's rapid growth

has seen nine or more newly built ships catering to a North

American clientele added every year since 2001, as well as

others servicing European clientele.

Cable layer is a deep-sea vessel designed and used to lay

underwater cables for telecommunications, electricity, and

such. A large superstructure, and one or more spools that

feed off the transom distinguish it.

A tugboat is a boat used to manoeuvre, primarily by towing

or pushing other vessels (see shipping) in harbours, over the

open sea or through rivers and canals. They are also used to

tow barges, disabled ships, or other equipment like towboats.

A dredger (sometimes also called a dredge) is a ship used to

excavate in shallow seas or fresh water areas with the

purpose of gathering up bottom sediments and disposing of

them at a different location.

A barge is a flat-bottomed boat, built mainly for river and

canal transport of heavy goods. Most barges are not self-

propelled and need to be moved by tugboats towing or

towboats pushing them.

Ships that fall outside these categories include Semi-submersible heavy-lift ships or OHGC.

http://en.wikipedia.org/wiki/File:CelebrityCruises_Century

http://en.wikipedia.org/wiki/File:Cable_layer_ship

http://en.wikipedia.org/wiki/File:FS_Le_Four_1

http://en.wikipedia.org/wiki/File:Dredge_No-4_(2)

http://en.wikipedia.org/wiki/File:CrushedStoneBarge



PORTS

India has a long coastline spanning 7600 kilometres forming one of the biggest peninsulas in the world.

It is serviced by 12 government ports and 1 corporate major port and 185 notified minor and

intermediate ports. The latest addition to major ports is Port Blair on June 2010. The 13 Major Ports

(including the Port of Ennore which is a corporate port set up under the Indian Companies Act, 1956) are

evenly spread out on the Eastern and Western coast. The ports of Kolkata, Paradip, Visakhapatnam.

Chennai, Ennore and Tuticorin are on the Eastern coast of India while the ports of Cochin, New

Managalore, Mormugao, Mumbai, Jawaharlal Nehru at Jhavasheva and Kandla are on the Western

Coast. The Gangavaram Port in Andhra Pradesh, inaugurated in July 2009, is India's deepest port, with a

depth of 21m

Major ports handled over 80% of all cargo traffic in 2007. However, the words "major", "intermediate"

and "minor” do not have a strict association with the traffic volumes served by these ports. As an

example, Mundra Port, a newly developed minor port in the state of Gujarat registered a cargo traffic of

around 28.8 million tonnes per annum during the financial year of 2008, which is higher than that of

many major ports.

The classification of Indian ports into major, minor and intermediate has an administrative significance.

Indian government has a federal structure, and according to its constitution, maritime transport falls

under the "concurrent list", to be administered by both the Central and the State governments. While

the Central Shipping Ministry administer the major ports, the minor and intermediate ports are

administered by the relevant departments or ministries in the nine coastal states of West Bengal, Orissa,

Andhra Pradesh, Tamil Nadu, Kerala, Karnataka, Goa, Maharashtra and Gujarat. Several of these 185

minor and intermediate ports are merely "notified", with little or no cargo handling actually taking

place. These ports have been identified by the respective governments to be developed, in a phased

manner, a good proportion of them involving Public-private partnership.

The capacity of major ports has increased from 20 Million Tonnes per annum (MTPA) 1951 to 504.75

MTPA as on 31st March, 2007. At the beginning of the 10th Plan, the capacity of the major ports was

343.95 MTPA which has increased to 504.75 MTPA at the end of the 10th Plan (i.e. as on 31st March,

2007) thereby achieving the capacity addition of 160.80 MTPA. In all the years of 10th five year plan the

capacity at the major ports exceeded the traffic handled. The non-major ports handled traffic of 185.54

MT in 2006-07 and had a capacity of 228 MTPA at the end of 2006-07. The container traffic in the major

ports has increased from 61.98 MT in 2005-06 to 78.87 MT in 2007-08.

In order to improve efficiency productivity and quality of services as well as to bring in competitiveness

in port services, the port sector has been thrown open to private sector participation. The Major Port

Trust Act, 1963 permits private sector participation in major ports invites Foreign Direct Investment

(FDI) upto 100% under the automatic route is permitted for construction and maintenance of ports and

harbours. Private sector participation has been allowed in a variety of ports services which includes



construction and operation of terminals/berths, warehousing/storage facility, dry docking and ship

repair facilities.

Till date 17 private sector projects involving an investment of Rs. 4927 crores has been operationalised

which involves capacity addition of 99.30 MTPA. 8 projects are under various stages of evaluation and

implementation which involves an investment of Rs. 5181 crores and capacity addition of 75.40 MTPA.

Cargo handling is projected to grow at 7.7% until 2013-14 Some 60% of India’s container traffic is

handled by the Jawaharlal Nehru Port Trust in Navi Mumbai. It has just 9 berths compared to 40 in the

main port of Singapore. It takes an average of 21 days to clear import cargo in India compared to just 3

in Singapore.

Following is a snapshot of major activities that take place at major ports:



IMPORTANT TRADE ROUTES

a) Crude and product imports from Gulf, Malaysia and Nigeria

India imports around 40 million tonnes of crude and 20 million tonnes of products every year on a FOB

basis, chiefly from Gulf, Malaysia and Nigeria. While Indian shipowners have a considerable stake in this

trade, liberalization and relaxation of norms has allowed private-sector refineries to make their own

shipping arrangements. Indian shipowners chiefly deploy Suezmaxes from Gulf and Aframaxes from

Malaysia. Most of the vessels chartered from foreign shipowners are large-sized VLCCs. Product imports

are carried out chiefly in small vessels of around 30-40,000 dwt.

b) Iron ore exports from India to East Asia

India exports around 30 million tonnes of iron ore annually, 70 per cent of which is directed toward

Japan, China and South Korea. Iron ore exports are predominantly made on a f.o.b. basis, implying lack

of opportunity for Indian shipowners. It should be noted that globally iron ore shipments are made in

large Capesize and Panamax vessels. These vessels, however, constitute a small portion of the Indian

fleet. Exports from the ports of Mormugao, Chennai and Visakhapatnam are in such vessels while from

New Mangalore and Paradip they are carried out in ships of Panamax vessels of upto 65,000 DWT, due

to draft restrictions. Shipping Corporation of India is the only major Indian player in iron ore

transportation and carries around 0.5 million tonnes to Japan from Visakhapatnam and Paradip. These

Handymax vessels are deployed on a triangular route to carry coking coal from Australia and then iron

ore to Japan followed by ballast to Australia on return.

c) Coking coal imports from Australia to Visakhapatnam, Paradip and Haldia

India imports around 10 million tonnes of coking coal, chiefly from Australia, by Handymax vessels for

consumption by public sector steel majors like SAIL & RINL and Tata Steel. Indian shipowners, led by SCI,

have a share of 4 million tonnes. Coking coal imports by Tata Steel are however made in Panamax size

vessels of foreign flag.

d) Fertilizer and fertilizer material

India imports around 5 million tonnes of fertilizer and 3 million tonnes of rock phosphate and sulfur,

chiefly in small size Handymax and Handysize vessels. Imports are made nearly at all the major ports of

the country, of which, more than 60 per cent of the imports are routed through the East India ports.

While previously Transchart used to play a major role by making around 50 per cent of the shipping

arrangements for fertilizer imports, its role has come down substantially over the past few years,

primarily because major portion of imports are carried out by private companies nowadays. Better

infrastructure facilities at ports such as JNPT, have led to prospects of future fertilizer imports being

made in Panamax vessels to capitalize on economies of scale.



e) Containers

India exports and imports around 1 million TEU’s each, mainly through Bombay, JNPT and Chennai. USA,

Western Europe and East Asia are the chief destinations through transshipment ports of Dubai, Colombo

and Singapore. Only one Indian player, SCI, has a role in container shipping. However, most of the

leading global container lines like NOL-APL, Maersk-Sealand and P&O-Nedlloyd offer services to Indian

shippers.

f) Coastal shipping

Against the fairly respectable growth witnessed in India’s overseas trade, coastal trade has remained

quite stagnant and today accounts for around 40 million tonnes of cargo, chiefly comprising four bulk

commodities viz. crude, products, thermal coal and iron ore. This is primarily because of the typical

contours of our country which favors road-rail transport more than coastal shipping. This, added to lack

of proper regulatory support to coastal shipowners and lack of proper integration with road/ rail

network, has led to present scenario of low coastal trade volumes. Approximately 90% of the coastal

movement in India is between the major ports. Some of the important trade routes are as follows.

Thermal coal from Haldia, Paradip and Vizag to Chennai and Tuticorin

More than 14 million tonnes of thermal coal moves along the coast from Haldia, Paradip and

Visakhapatnam to Chennai and Tuticorin primarily to meet the fuel requirements of coal-fired power

plants of the Tamil Nadu Electricity Board. The responsibility of making necessary shipping arrangements

is borne by Poompuhar Shipping Corporation (PSC), a government of Tamil Nadu undertaking. The firm

along with its three Handymaxes, hires around 10 vessels of similar size from Indian shipping companies

like - Great Eastern, Tolani, Surrendra Overseas, Essar and Varun Shipping, on a one year time charter

basis by way of open tender and in case of need, more vessels are also hired on a spot charter basis. PSC

has recently planned to charter foreign flag vessels in this route to meet the increased requirement.

Overall, these vessels in this trade make more than 500 sailings, every year. Thermal coal from Haldia

and Visakhapatnam generally gets unloaded at Tuticorin, while the same from Paradip gets unloaded at

Chennai. With the commissioning of the Ennore port project, existing linkages are expected to change.

Shallow draft and geared vessels are presently preferred for the trade. However, with the setting up of

modern port equipment systems by South India Corporation (Agencies) Limited (SICAL), at Ennore and

Chennai ports, non-geared vessels might be opted for in the future. Because of lack of any major dry

bulk cargo movement from the South to the East, these vessels return back ballast to the loading ports.

Iron ore from Visakhapatnam and Paradip to JNPT and minor ports in Gujarat Around 3 million tonnes of

iron ore move in Handymax vessels from the eastern ports to JNPT and Magdalla for shore-based steel

plants of Ispat and Essar respectively.



Crude oil from Bombay to various major ports like Kandla, Cochin, and Chennai

Coastal movement of crude oil is to the extent of 10 million tonnes while the above routes account for

around 8 million tonnes. Crude originates from Bombay High oil fields of ONGC off Bombay and is chiefly

bought by oil majors like IOC, HPCL and BPCL for their shore-based refineries. Coastal movement of POL

is around 10 million tonnes.

Cement

Cement is another important commodity moving between various minor ports, in smaller 2,500 - 4,000

dwt vessels. Gujarat Ambuja Cement was the first company to set-up bulk-handling facilities to transport

cement by sea. The company has 3 port facilities in Western India and is also planning to build a jetty in

southern state of Kerala. The company owns five mini bulk carriers of 2,500 DWT, which carry around 1

million tonnes of cement between the jetties in Western India. Narmada Cement, which has been taken

over by L&T, is also using coastal shipping for transporting cement between ports in Western India.

Other companies who have used coastal shipping for movement of cement include L&T, Saurashtra

Cements, etc.

MARKET SEGMENTATION

The shipping industry can be classified into the following segments based on their business function.

Though there are many companies which operate in more than one segment.

Shipbuilding industry

The Indian shipbuilding industry currently accounts for a mere 1% of the global shipbuilding market. At

present India has 27 shipyards of which 19 belong to the private sector. The current cumulative

shipbuilding capacity of Indian shipyards is around 0.5 million deadweight tonnage.

The major players in this market are private players such as ABG shipyard and Bharti shipyard along

government controlled Hindustan shipyard and Cochin shipyard. Together these four account for more

than 70 per cent of the market share. Of late a lot of companies from the infrastructure segment are

showing an interest in this industry like L&T, TATA Steel and some other carrier companies like Mercator

Lines and Apeejay shipping.

These companies are investing heavily to ramp up their infrastructure so as to acquire the majority of

this market which is majorly served by foreign players. A major setback for this industry recently was

from the order cancellation from the Defense sector to build submarines.



Shipping transport industry/Freight or Cargo Industry

At present there are 235 shipping companies in India in which the shipping corporation of India is the

largest accounting for about 33% of the total tonnage. India has one of the largest merchant shipping

fleets with about 997 vessels and is ranked 17th in the world. Most Indian shipping companies ply on

Indian shipping routes only to meet Indian export and import demands; however a few companies like

GE shipping also do business on global routes. This business is explained in detail in the later half of the

report.

Shipbreaking industry

The Indian shipbreaking industry has a global market share of 25 per cent. Alang in Gujarat is one of the

world’s largest shipbreaking yards. The Andhra Pradesh authorities gave conditional approval to a mega

shipbreaking project on Vodarevu beach. The area is as big as 160 football fields. Three or four medium-

sized ships can be broken up at each of the 60 plots at this yard.

The other ship-breaking yards are in Pipavav and Bombay. The ship breaking industry is located in India

because of the availability of cheap labor and also a lax government attitude towards stringent

regulation of environmental laws.

Ports

India has 13 major ports and about 200 non-major ports covering an extensive coastline of 7517 Km. the

port sector has witnessing a substantial growth in cargo traffic leading to utilization levels of almost

94%. Taking this into account government has called for capacity expansion projects on a PPP basis with

the private players. Also, the recent corporatization of JNPT Port along with a proposal to replicate it for

other ports on successful results, has given a major thrust to this segment.

The ports authorities earn majorly through regulation of these ships & collecting what is known as port

charges. These charges are levied on both loading & unloading, as well as occupancy of idle ships.

Recently, ports have started collecting congestion charges due to overcongestion at the ports. Revenues

also come from sources like demurrage collection, port handling activities, storage of containers,

providing Depot services, etc.

Offshore industry

The offshore industry comprises of support services to the exploration and production (E&P) activity of

oil and gas in offshore areas. The industry includes a wide array of activities ranging from drilling rigs,

marine construction, port support / terminal services to development of oil field and production of

support facilities.

Presently, a handful number of Indian offshore service providers like the Shipping Corporation of India,

Great Eastern Shipping, Essar Shipping, Varun Shipping and others are involved in the offshore business,

serving to the domestic industry demand. The sector is dominated by ONGC, which is the largest owner

of offshore fleet in India as well as the biggest client to other service providers.



Others

Ship sale & purchase, ship engineering & manning personal are also a part of shipping industry.

These businesses/markets are linked by cash flow and form an inevitable part of the value chain of

the shipping industry as a whole.

VALUE CHAIN



FREIGHT BUSINESS- A CLOSER LOOK

The freight or cargo shipping industry can be broadly classified into wet bulk (like crude and petroleum

products), dry bulk (like iron ore and coal) and liners (like containers and others). There are various

benchmarks that determine freight rates for these segments. The prominent amongst them are Baltic

Freight Index, Baltic Handymax Index (for dry bulk segment) and World Scale (for tankers).

Following is a layout explaining the freight/cargo business in detail by breaking it into finer components:

TRAMP SHIPPING

Tramp shipping comprises of Freight carrying both dry & bulk cargo. They are designed to carry bulk solids such as grains, fertilizer and ores or bulk liquids such as refined petroleum products, chemicals and orange juice. These ships are categorized partly by their capacity, partly by their weight, and partly by their dimensions (often with reference to the various canals and canal locks through which they can travel). Some common categories include:

Dry Cargo

Handysize

Size: 10,000 - 30,000 dwt

These are small bulk carriers that make up the majority of the world's short haul fleet. Handysize can

refer either to a bulk carrier or tanker.

Handymax

Size: 30,001 - 50,000 dwt



These are a larger version of the Handysize vessels and popular for both bulk and crude carriers. These

vessels have a large variation in size and characteristics.

Panamax

Size: 50,001 dwt - 80,000 dwt

This is the maximum size ship that can pass through the locks of the Panama Canal. Locks are 1000ft

long by 110ft wide and 85ft deep. Panamax dimensions are: overall length (LOA) of 965ft (290m); beam

of 106ft (32.3m); draft of 39.5ft (12.04m).

Capesize

Size: 80,001 dwt - 199,000 dwt

These are vessels that are too large to pass through the locks of either the Panama or Suez Canals. As a

result, these vessels must travel around the Cape of Good Hope in South Africa or Cape Horn in South

America to their destinations. These vessels also require deep-water ports.

Very Large Ore Carriers (VL Ore Carriers)

Size: 200,000+ dwt

These vessels are the largest bulk carriers and also cannot pass through either the Panama or Suez

canals.

Wet Bulk & Crude Oil Carriers/Tankers

Tankers of less than 100,000 dwt are referred to as either "clean" or "dirty". Clean tankers carry refined

petroleum products such as gasoline, kerosene or jet fuels, or chemicals. The so-called dirty vessels

transport products such as heavy fuel oils or crude oil. Larger tankers usually only carry crude oil.

Panamax

Size: 50,001 - 80,000 dwt

Approximate 32.2m beam limitation

This is the maximum size ship that can pass through the locks of the Panama Canal. Locks are 1000ft

long by 110ft wide and 85ft deep. Panamax dimensions are: overall length (LOA) of 965ft (290m); beam

of 106ft (32.3m); draft of 39.5ft (12.04m).

Aframax



Size: 80,000 - 119,000 dwt

This is the largest crude oil tanker size in the AFRA (Average Freight Rate Assessment) tanker rate

system.

Suezmax

Size: 120,000 dwt - 150,000 dwt

This is the maximum size crude oil ship that can pass through the Suez Canal in Egypt.

Very Large Crude Carrier (VLCC)

Size: 150,000 - 320,000 dwt

These are very large crude oil carriers that transport crude oil from the Gulf, West Africa, the North Sea

and Prudhoe Bay to destinations in the United States, Mediterranean Europe and Asia. Although VLCCs

are otherwise too large, it is possible to ballast these vessels through the Suez Canal.

Ultra Large Crude Carrier (ULCC)

Size: 321,000+ dwt

These are the largest man-made vessels that move. Currently, the largest ULCC is 564,939 dwt. These

ships sail the longest routes, typically from the Gulf to Europe, the United States and Asia. They are so

large that they require custom-built terminals for loading and unloading.

Others Carriers

a) Gas Carriers: LNG Carriers, LPG Carriers

b) AHTV (Anchor Handling Tug Vessels), Offshore Supply Vessel (OSV) and Rigs, PSV (Platform

Supply Vessel)

SHIP FINANCING

Ship financing has become a generic term referring to the financing of maritime projects, encompasses

not just shipping, but also other sub-sectors like ports, shipyards, and containers. However, we have

confined our discussion to ship financing projects.

Shipping is a capital-intensive industry; hence Ship financing is popular practice area in the industry.

Vessels constitute almost 90 percent of the fixed assets (net block and capital work in progress) of a

typical shipping company. A LNG carrier costs around USD 250 million, a double-hulled VLCC costs

around USD 90 million and a Handysized chemical ship is around USD 70 million. In such a scenario, a



shipowner or a potential ship owner wishing to acquire a vessel finds a considerable gap in his personal

funds availability and additional funds requirement.

Ship financing has to a large extent remained a specialty sector on account of a number of unique

characteristics associated with the shipping industry such as volatile markets, international service,

mobile assets and others. Despite the intricacies involved in ship financing, sophisticated financial

instruments are conspicuous by their absence. In contrast, asset-based financing in industries with a

similar profile like Airways has had highly sophisticated instruments to match the prevalent risk-return

structure. Internationally, term lending backed by security in the form of collateral and mortgage has

been the most prevalent form of financial assistance given to shipping companies.

Globally, governments have provided substantial financial support to respective shipping industries

either directly or indirectly. The growth of the maritime industry, especially shipping, in countries like

Japan and Korea can be attributed to this.

Equity Markets

Equity markets comprise of equity capital markets, venture capital and private equity funds. Ship

financing through equity mode is more popular in the case of high-risk projects where vessel acquisition

is not backed by a firm contract for deployment or where vessels are acquired for asset play. Shipping

companies adopted an equity route mainly after the 1980s for Shipping Finance in India, owing to

factors like phasing out of subsidized debt funding by Shipping Development Fund Committee (SDFC),

easing of norms for tapping the equity market and ship-owners becoming increasingly aware of the

pitfalls of a highly leveraged capital structure.

Indian shipping companies have a miniscule market capitalization vis-à-vis the market capitalization of

the Indian stock market. Market capitalization of the largest public sector company namely Shipping

Corporation of India (SCI) is around USD 120, whereas that of Great Eastern Shipping, the largest private

sector is USD 150. Currently, we have around 8 shipping companies listed on the stock exchange, scrips

of whose are trading at a substantial discount to book value or net asset value.

Debt Markets

Banks and financial institutions have been the main source of ship financing via debt mode for shipping

companies. The industry can avail of broadly two types of finance viz. fund-based finance and non-fund

based finance. Term loan and working capital credits come under fund-based finance. Under non-fund

based finance, funds are not actually employed, but a liability is created on the lenders to make

payment in case of a default. Letter of Credit, bills discounting and guarantees constitute such facility.

Globally, a few banks like Christiana Bank, ABN Amro, Citibank have specialized in Ship Financing

practices. As per various estimates, around 200 banks are presently active in Shipping Finance in India

and abroad.



For shipping finance in India, very few of the Indian banks and financial institutions have the necessary

expertise or infrastructure to appraise shipping projects. Some of the exceptions are ICICI Limited

(erstwhile Industrial Credit and Investment Corporation of India) and State Bank of India who have

dedicated divisions for ship financing. Most other commercial banks show considerable skepticism in

taking up exposure in shipping, as the industry through the ages has been considered highly risky and

prone to innumerable dangers. A ship sails in the high seas outside the protective policies and regulation

of the domestic government, where physical viewing and monitoring of the vessel is difficult.

Additionally, the sector is cyclical in nature.

Broadly banks that are willing to take up ship financing proposals can be divided into six groups,

Financial institutions

Public sector commercial banks

Private sector banks

Co-operative banks

Non-banking financial institutions

Foreign banks and financial institutions

With a view to attract more investments into the maritime sector, the shipping ministry plans to

introduce a new maritime policy expected to be finalized in the next one month which will replace the

existing National Maritime Development Programme (NMDP).

CHARTERING

The freight market consists of shipowners, charterers and brokers. They use four types of contractual

arrangements: the voyage charter, the contract of affreightment, the time charter and the bareboat

charter. Shipowners contract to carry cargo for an agreed price per tonne while the charter market hires

out ships for a certain period. A charter is legally agreed upon in a charter-party in which the terms of

the deal are clearly set out. In some cases a charterer may own cargo and employ a shipbroker to find a

ship to deliver the cargo for a certain price, called freight rate. Freight rates may be on a per-ton basis

over a certain route (e.g. for iron ore between Brazil and China) or alternatively may be expressed in

terms of a total sum - normally in U.S. dollars - per day for the agreed duration of the charter.

A charterer may also be a party without a cargo who takes a vessel on charter for a specified period

from the owner and then trades the ship to carry cargoes at a profit above the hire rate, or even makes

a profit in a rising market by re-letting the ship out to other charterers.

Depending on the type of ship and the type of charter, normally a standard contract form called a

charter party is used to record the exact rate, duration and terms agreed between the ship-owner and

the charterer. Time Charter Equivalent is a standard shipping industry performance measure used

primarily to compare period-to-period changes in a shipping company's performance despite changes in

the mix of charter types.



CHARTER TYPES

A voyage charter is the hiring of a vessel and crew for a voyage between a load port and a discharge

port. The charterer pays the vessel owner on a per-ton or lump-sum basis. The owner pays the port

costs (excluding stevedoring – which means loading & unloading of cargo), fuel costs and crew costs.

A time charter is the hiring of a vessel for a specific period of time; the owner still manages the vessel

but the charterer selects the ports and directs the vessel where to go. The charterer pays for all fuel the

vessel consumes, port charges, and a daily 'hire' to the owner of the vessel.

A bareboat charter is an arrangement for the hiring of a vessel whereby no administration or technical

maintenance is included as part of the agreement. The charterer pays for all operating expenses,

including fuel, crew, port expenses and hull insurance (Typically, marine insurance is split between the

vessels and the cargo. Insurance of the vessels is generally known as 'Hull and Machinery' (H&M). A

more restricted form of cover is 'Total Loss Only' (TLO), generally used as a reinsurance, which only

covers the total loss of the vessel and not any partial loss. Cover may be on either a 'voyage' or 'time'

basis. The 'voyage' basis covers transit between the ports set out in the policy; the 'time' basis covers a

period of time, typically one year, and is more common.) Usually, the charter period (normally years)

ends with the charterer obtaining title (ownership) in the hull. Effectively, the owners finance the

purchase of the vessel.

A demise charter shifts the control and possession of the vessel; the charterer takes full control of the

vessel along with the legal and financial responsibility for it.

Time Charter Equivalent

The Time Charter Equivalent (TCE) rate is a standard shipping industry performance measure used

primarily to compare period-to-period changes in a shipping company's performance despite changes in

the mix of charter types (i.e., spot charters, time charters and bareboat charters) under which the

vessels may be employed between the periods. TCE revenue is a non-GAAP measure.

A standard method to compute TCE is to divide voyage revenues (net of expenses) by available days for

the relevant time period. Expenses primarily consist of port, canal and fuel costs.

OPERATING PARAMETERS/INDICES ASSESSING FREIGHT RATES

a) Baltic Dry Index

The Baltic Dry Index (BDI) is a number issued daily by the London-based Baltic Exchange. Not

restricted to Baltic Sea countries, the index tracks worldwide international shipping prices of

various dry bulk cargoes. The index provides "an assessment of the price of moving the major raw

materials by sea. Taking in 26 shipping routes measured on a timecharter and voyage basis, the

index covers Handysize, Handymax, Panamax, and Capesize dry bulk carriers carrying a range of

commodities including coal, iron ore and grain. The index is made up of an average of the Baltic



Supramax, Panamax, and Capesize indices. These indices are based on professional assessments

made by a panel of international shipbroking companies. The BDI factors in the four different sizes

of oceangoing dry bulk transport vessels.

Most directly, the index measures the demand for shipping capacity versus the supply of dry bulk

carriers. The demand for shipping varies with the amount of cargo that is being traded or moved in

various markets (supply and demand). The supply of cargo ships is generally both tight and inelastic

— it takes two years to build a new ship, and ships are too expensive to take out of circulation the

way airlines park unneeded jets in the Arizona desert. So marginal increases in demand can push the

index higher quickly, and marginal demand decreases can cause the index to fall rapidly. e.g. "if you

have 100 ships competing for 99 cargoes, rates go down, whereas if you've 99 ships competing for

100 cargoes, rates go up. In other words, small fleet changes and logistical matters can crash

rates..." The index indirectly measures global supply and demand for the commodities shipped

aboard dry bulk carriers, such as building materials, coal, metallic ores, and grains.

Because dry bulk primarily consists of materials that function as raw material inputs to the

production of intermediate or finished goods, such as concrete, electricity, steel, and food, the index

is also seen as an efficient economic indicator of future economic growth and production. The BDI is

termed a leading economic indicator because it predicts future economic activity.

b) HARPEX

It is an index of global containerized freight. HARPEX typically measures finished goods - the

containers of LCD screens from Taiwan, Scotch Whisky from the UK, motorcycles from Italy and so

on. In our opinion, it's a good indicator of global consumer activity and value-added conversion

activity - which for a consumer-driven and high value-added conversion economy is surely the

critical indicator.

c) WORLD SCALE

Worldscale is a unified system of establishing payment of freight rate for a given oil tanker's cargo.

Worldscale was established in November 1952 by London Tanker Brokers’ Panel on the request of

British Petroleum and Shell as an average total cost of shipping oil from one port to another by ship.

A large table was created. The same scale is used today, although it was merged with the American

Tanker Rate Schedule (ATRS) in 1969. By 2002, the table included the average cost of 320,000

voyages in permutations of from one load and one discharge port to five loads and ten discharge

ports. Worldscale is produced by Worldscale Association (NYC) Inc. for the Americas and by

Worldscale Association (London) Ltd. for the rest of the world. The freight for a given ship and

voyage is normally expressed in a percentage of the published rate and is supposed to reflect the

freight market demand at the time of fixing. In negotiating a price to pay, the above table is referred

to as WS100 or 100% of Worldscale. The actual price negotiated between shipowner and charterer

can range from 40% to 200% and is referred to respectively as WS40 to WS200, depending on how

much loss the first is willing to take on that voyage and how much the latter is willing to pay.



KEY TRENDS AND FORCES AFFECTING BDI

Commodity Demand - This is determined mainly by industrial production and energy demand. If

commodity demand is strong, BDI rates will increase regardless of spot rates for those

commodities. Companies that have contracted out spot rates will show increased demand

through paying more for shipping of the materials. As more coal and steel are being demanded

by China, so will the rates for dry bulk shipping increase.

Fleet Supply - This is determined by the number of available ships, their capacity, and the

utilization rates. Additionally, the average age of the fleets will determine where they are in the

life cycle. The average ship lasts 25 years. If the average is closer to that number, supply will be

decreasing in the short term. Also, supply is greatly determined by delivery of new vessels.

Currently, there is significant back logged demand for new vessels. With rates for the largest dry

bulkers fetching nearly 10x that of a comparable VLCC Oil Tanker, many companies converted

tankers into dry bulk carriers.

Seasonal Pressures - Weather has a major impact on both demand and logistics. For demand,

cold weather may increase the demand for coal and other energy creating raw materials. For

logistics, cold weather may cause ice to block ports and low rivers to prevent travel. Both of

these cause increases in the BDI. Conversely, a mild winter or early ice breakup in cold water

parts will cause decreases in the BDI.

Bunker Prices - Bunker fuel is a type of fuel oil a ship uses for propulsion. Bunker fuel accounts

for between a quarter and a third of vessel operating costs. Higher crude oil prices also mean

higher bunker fuel prices which will be reflected in higher BDI prices. So, just as higher oil prices

will put a damper on Airline company margins, they will squeeze margins for dry bulk operators.

Choke Points - Nearly half of the world's oil passes through a few narrow shipping lanes. This

includes the straits of Hormuz and Malacca, the Bosporus and the Suez and Panama canals.

These geographic choke points cause natural caps in the number of ships that can pass through

each day, month or year and therefore also limits the bulk tonnage capacity of certain shipping

routes. If anything disrupts the flow of ships through the choke points, the BDI will increase. The

narrow (52 mile wide) Bering Strait (also called the "Bering Gate" in the shipping industry) may

soon become the world's newest strategic "choke point" for shipping.

Market Sentiment - Because of the time lag in forecasting demand for raw materials, market

opinion can greatly affect the freight exchange. The recent halving of the index's value can be

attributed to many companies forecasting lower global growth and cutting their

production/demand targets.

Port Congestion -This acts as another great buffer against supply increases lowering index

prices. The actual infrastructure of these ports prevents more ships entering the market. The

http://www.wikinvest.com/index/Baltic_Dry_Index_-_BDI_(BALDRY)?action=edit&section=5



ports simply cannot handle more traffic. Until major changes occur at these vital terminals,

there will be upward pressure on dry bulk prices. Shipping industry analysts are actually

developing an index to standardize and make available this incredibly vital data.

Labor Relations - Nothing is loaded or unloaded from ships without labor. Labor relations at

various ports around the world directly affect the BDI. For example, in the U.S. both the ILA

(International Longshoreman's Association) and the ILWU (International Longshoreman's and

Warehouse Union) exert enormous control over the labor at ports. Labor relations issues

include: intentional work slowdowns, company lockouts, strikes and political boycotts. Labor

unions have expressed their political power and influence in the past by boycotting products

from apartheid South Africa, protesting the war in Iraq and even the Soviet Invasion of

Afghanistan. Labor relations impacts on the Baltic Dry Index should not be underestimated by

the sophisticated investor.

Piracy - Although piracy has been a constant factor affecting shipping for thousands of years,

2008 saw some significant piracy events including the capture and ransom of the MV Sirius Star,

a Saudi owned oil supertanker seized by pirates off the coast of Somalia. Pirates are also holding

crews hostage for significant ransoms as in the case of the MV Faina, a Ukrainian arms shipping

vessel. Interpol and other global law enforcement agencies are investigating the connections of

various organized crime groups that may be bankrolling and organizing pirate groups including

those based in Somalia. Various nations including the U.S., Canada, France, U.K., Russia, Ukraine

and China are now deploying warships to patrol the coast of Somalia. These factors put

additional upward pressure on the BDI.

New Arctic Shipping Routes - Shipping from Europe to China by means of the arctic offers a

route distance savings of approximately 4000 miles, which is a large percentage of the non-

arctic total route distance. Of course, the historical search for the Europe-China route was the

reason for the discovery of the "New World" (America). With oil prices (Bunker Fuel) at 1st Q

2009 lows, arctic shipping may or may not be economical. But during mid-2008 oil prices, a 4000

mile route saving offered significant fuel and time savings. Discussion among scientists attending

the March 2009 "Copenhagen Conference" suggests that the predictions by the 2007 UN- IPCC

Report on Climate Change regarding the likely clearing of arctic sea ice has underestimated the

rate of clearing and by 2013 arctic shipping may become feasible. Although the shipping

industry remains highly secretive, the potentially significant economic advantages have caused

many international shipping companies to begin analyzing and planning for potential new arctic

routes. Shipping industry intelligence indicates that China is interested in potential deep-water

ports in Iceland. Arctic routes do not currently affect the BDI but may in the near future.



DEMAND & SUPPLY FACTORS

The demand and supply drivers for the shipping sector are:

Demand drivers

I. Trade growth

World GDP growth: Shipping is a global industry and its prospects are closely tied to the level of

economic activity in the world. A higher level of economic growth would generally lead to higher

demand for industrial raw materials (like oil, iron ore and coal).

Oil demand/Supply: The tanker market cannot exist without the demand for oil and in particular how

much of the demand is met through domestic production and stocks. Besides demand, oil supply (which

mainly comes from OPEC) is also of significance. The quantum of oil produced by OPEC has a direct

impact on the tanker market. For instance, when OPEC cut down its production in February 2007 (to

keep oil prices at desired levels), shipping industry was left with surplus capacity considering that the

tanker fleet is already growing at a rate faster than growth in demand for tonnage.

Oil inventory levels: The amount of oil held in storage which can be drawn upon to meet future

requirements also impacts the demand for oil tankers. Generally, consumers hold stocks and levels are

drawn down in winter and replenished in spring.

Steel production: Iron ore and coal together represent about 42% of the total global dry bulk trade.

Since iron ore and coking coal are key inputs in the production of steel, steel production plays a

significant role in determining the demand for dry bulk carriers.

II. Trade patterns

Refinery locations: Before it can be used for final consumption, crude oil needs to be refined into

products like petrol, diesel and kerosene. Since refineries are generally located away from the places of

production, crude tankers are used to transport crude oil from producing countries to refineries. Tanker

transportation is generally more viable for inter-regional trades while pipelines are preferred for intra-

regional trades. To distribute the refined petroleum products to places of consumption, product tankers

and pipelines are used. Varying levels of capacity and the sophistication of refineries' processing

capabilities also play a role in oil markets. Many refineries are located in consuming regions, facilitating

response to weather-induced demand spikes and seasonal shifts.

Sourcing areas: The distance between the place of origin and the place of destination is an important

demand driver since a shift from a shorter haul movement to a longer haul one (for the same amount of

cargo) is likely to result in increased tonne-mile demand for vessels.



Regional grain production: Grain, along with iron ore and coal represents a significant portion of the

total dry bulk trade. In case of a drought in a particular region, arrangements are made to import food-

grains from countries with surplus production. This, in turn, influences the demand for dry bulk vessels.

Supply drivers

I. Ordering

Shipbuilding capacity: The number of vessels that a shipyard can build and the time taken to build a

vessel plays an important role in determining the growth in tonnage supply. Since new capacities take

time to set up, shipyards are unable to cope up with any sudden increase in demand. This impacts the

delivery of ships and thereby acts as a supply constraint. Considering the huge order backlog of global

shipyards, especially those in the Asian regions of Korea and Japan, ship owners are currently being

quoted deliveries that will be beyond 2011.

New building prices: In case of high new building prices, shipping companies are likely to slow (or defer)

their new purchases as the break even becomes higher. Similarly, lower new building prices can lead to

increased orders (assuming that companies are expecting demand to pick up in the future), thereby

increasing the total tonnage available in the market.



II. Scrapping

Economic Life: Higher the age of the fleet, higher is the expected scrapping and lower the net fleet

growth. Economic life differs across vessel category (crude tankers have a relatively lesser economic life

than dry bulk vessels). At present, the average age of the global shipping fleet is 19 years.

Regulations: Statutory regulations on age and safety norms set by International Maritime Organization

and the European Union may place restrictions on particular kinds of vessels, thus affecting fleet

augmentation. For instance, the International Maritime Organization (IMO) has stipulated that all single

hull ships be scrapped by 2010.

Over and above these fundamental demand and supply parameters, freight rates can witness spikes due

to short-term events. These could be natural catastrophes, accidents or political upheaval in the form of

strike/war, or even as basic as port/canal congestion.

GOVERNMENT & MARITIME REGULATIONS

The scope and sweep of the prevailing regulatory laws in the Indian maritime sector are indeed vast and

cover a wide gamut of activities, though there is no single enactment as yet. There are different laws in

different maritime domains and are administered and enforced by different agencies. The Merchant



Shipping Act 1958 is indeed, one of the key legislations in the country pertaining to shipping is

administered by the Director General of Shipping, which is further empowered under the act to make

rules and regulations of its own with respect to technical standards and manning requirements. The

Ministry of Shipping through various Port Trusts respective to their locations administers the Major

Ports Act and the Indian Ports Act, which cover the working of all major ports. Tariff Advisory for Major

Ports (TAMP) is another offshoot of the Major Ports Act that is seeking to regulate and determine

permissible tariff levels for major ports. However, the numerous minor ports that dot the coastline fall

under the respective state government’s jurisdiction. A similar bifurcation of jurisdiction can be seen

with respect to inland waterways, where designated National Waterways are administered by the

ministry of shipping while, other waterways come under the state government jurisdiction.

All these regulatory laws were aimed at creating and managing what can be considered basic

administrative and physical infrastructure in respective domains. They were indeed part of the efforts to

assign a developmental to the government, which consequently resulted in government emerging as a

direct stakeholder in shipping and maritime sectors. A number of government owned companies and

other agencies have over the years thus, played a key role in bringing up the basic port infrastructure, a

sizeable national shipping fleet and shipbuilding capacity, which taken together is quite a significant

achievement, given the strategic goals of development. However, with steady decline of performance

and efficiency standards and inability of the government to sustain steady flow of investments into the

maritime sector, the erstwhile developmental role of the State has come under question for more than

one reason. While questions still remain as to what extent the government should retain responsibility

for further development of the maritime sectors, the focus has since moved to putting in place a

comprehensive regulatory system, which will substantially limit government’s direct role and

responsibility and instead allow the private sector to take on a developmental role, under the overall

regulatory supervision of the government. Such new regulatory frameworks have been established in a

number of other industries, where the government had initiated major privatization exercises such as

TRAI for the telecommunications industry, SEBI for regulating the capital markets etc.

Collaborative reforms

Though the government has great deal of responsibility and powers to make and amend laws, it cannot

unilaterally undertake regulatory reforms in the maritime sector. Regulatory reforms also has the

broader agenda of infusing new institutional dynamics by increasing competitiveness by reducing

transport costs, in particular port costs – through encouraging more number of players, improving port

efficiency and logistics infrastructure – through bringing in new institutional and market related

practices, diversifying the sources of mobilization of capital investment and enabling attractive returns

to investors and to create lasting mechanisms for arbitration of disputes between service providers and

end users of service. These broader objectives of regulatory reform can only be achieved depending on

how far the new private sector players are able to work within a common framework of market and

business governance. In fact, one of the basic stumbling blocks to creating a common regulatory

framework in the maritime sector is the highly differentiated structure of the maritime industry in terms



of ownership of assets, unit sizes of operations and uneven levels of integration between different sub-

segments of the Indian maritime industry. Any law that may be framed is therefore, less likely to be

uniformly beneficial to all players in an industry segment and is perhaps one of the major reasons for

tardy progress, when it comes to bringing about changes in basic maritime laws of the country.

Considering these anomalies in the situation, the regulatory laws cannot be allowed to further

perpetuate the advantages of some against the disadvantages of the many. This becomes particularly

important in the context of current discussion of regulatory reform that is expected to lead to creation

of a single nodal regulatory agency.

Empowering new regulators

The Union Ministry of Shipping has been the single most powerful integrated regulatory agency that has

really existed so far. The bodies of various regulatory laws and guidelines pertaining to different

segments of the maritime industry have evolved at different points of time and through initiatives of

various independent and external agencies, appointed for the purpose from time to time. The powers of

the shipping ministry are however, discretionary in nature and in fact exercised through a number of

agencies and institutions. Bringing all these regulatory institutions and agencies into a common

framework of enforcement is bound imply that such a regulatory body would considerably draw on the

powers of the Ministry of Shipping itself, while it would completely take over other regulatory

institutions under its purview. However, any regulatory body cannot function under terms of

discretionary powers and instead needs to have a well carved out mandate and legal framework of

operation. Putting together such a mandate and necessary legal framework for maritime regulation is

certainly a task that calls for a thorough review of various laws that affect the maritime domain and how

their likely implications can be synchronized under a common framework of regulatory enforcement.

While any residual scope for interpretation and discretionary judgment would still be considerable with

a regulatory authority in the maritime domain, the basic regulatory law need to be well defined.

FACTORS HAMPERING INDIAN SHIPPING INDUSTRY

a) TAXES

Indian shipping industry is charged with the following 12 types of direct & indirect taxes:

Corporate income tax on interest and other income

Minimum alternate tax (MAT) on profit on sale of vessels

Dividend distribution tax

Withholding tax liability on interest paid to foreign lenders

Withholding tax liability on charter hire charges paid to foreign ship-owners

Seafarer’s taxation cost to employer

Wealth tax



Fringe benefit tax

Sales tax/value added tax (VAT) on ship supplies/ spares

Lease tax on charter hire charges

Customs duty on import of certain categories of ships, stores, spares and bunkers

Service tax

This increases the effective tax rate of around 2% under the tonnage regime to around 9%. Such a tax

regime has been one of the major reasons hampering the shipping industry which has not been able to

keep pace with the increasing trade. The present situation demands rationalization of tax & tariff system

in order to make Indian services more competitive.

Replacement of the 44% of the current 9.3 million gross tonnage which is likely to be scrapped over the

next five years, either on completion of commercial life or on account of International Maritime

Organization regulations for phasing out single hull tankers, would likely cost about USD 4-5bn,

according to the paper.

The Indian shipping industry has benefited from the introduction of a tonnage tax. Tonnage tax is

calculated not on the profit or loss of a company in a given year, but by applying a notional annual

income on its net registered tonnage. This means that the tax burden is known in advance and is neutral

to the performance of the company. The effect is to ring-fence the company’s tax liabilities, making

financial planning and long-term strategic operations easier. But Indian owners are increasingly opting

to own vessels in low-tax jurisdictions outside India while accessing India’s booming cargo base. Little

worthwhile foreign investment has taken place due to the high taxes and rigid regulations like manning

norms in India.

Following are certain recommendations, if made, will be a certain boost to the Indian Shipping Industry:

The definition of ‘core’ activities for tonnage tax purposes should be modified to treat the

incomes arising from book-profit on sale of vessels as core activities under the Tonnage Tax (TT)

regime and not subjecting it to MAT

Interest income from compulsory reserves should be treated as arising from ‘core activities’ of a

tonnage tax company

Zero rating of input services availed by the Indian shipping industry (either imported or

domestically procured) - these services include brokerage, commission and finance charges,

general insurance services including P&I insurance, ship management services, manpower,

recruitment and supply agency services

Addressing the seafarers’ taxation issue as Indian shipping companies face an acute shortage of

seafarers, particularly in the officers’ category because of drift of personnel from Indian flag

ships to foreign flags under the lure of higher ‘take home’ pay packets

Exemptions from Customs Duty on direct import of repair materials by ship repair units and



ship-owners for repairs in India on import of certain vessels and on capital goods imported for

shipbuilding including renewals and replacements of yard facilities from customs duty (as in any

yard having both ship building and ship repair facilities, most of the assets are common and the

concessions extended to one activity alone may not serve the required purpose)

Exemptions from Excise duty of 16% on capital goods required for construction of ships as in the

case of ship repair

Reinstating the exemption from withholding tax of 10% on interest paid to acquire ships abroad,

which were withdrawn in 2001

Similarly withholding tax on chartering of foreign vessels could be removed

b) FOC : Flag of Convenience

The term flag of convenience describes the business practice of registering a merchant ship in a

sovereign state different from that of the ship's owners, and flying that state's civil ensign on the ship.

Ships are registered under flags of convenience to reduce operating costs or avoid the regulations of the

owner's country. The closely-related term open registry is used to describe an organization that will

register ships owned by foreign entities. A ship operates under the laws of its flag state, and these laws

are used if the ship is involved in an admiralty case.

Flag-of-convenience (FOC’s) registries are often criticized. As of 2009, thirteen flag states have been

found by international shipping organizations to have substandard regulations. A basis for many

criticisms is that the flag-of-convenience system allows ship-owners to be legally anonymous and

difficult to prosecute in civil and criminal actions. Ships with flags of convenience have been found

engaging in crime and terrorism, frequently offer substandard working conditions, and negatively

impact the environment, primarily through illegal, unreported and unregulated fishing. As of 2009, ships

of thirteen flags of convenience are targeted for special enforcement by countries that they visit.

Supporters of the practice, however, point to economic and regulatory advantages, and increased

freedom in choosing employees from an international labor pool.



Other Concerns & Challenges

1) The age of the Indian shipping fleet compares poorly with the global average. As on July 1, 2006, the

average age of the Indian fleet is 17.9 years as against a world average of around 12 years. More

than 50% of the Indian fleet are in the above 20 years category.

2) The share of Indian shipping industry in India’s overseas sea-borne trade is low. It dropped to about

12.2% in 2007-08 from 17% in 2000-01. The share of Indian shipping in the carriage of general cargo

stood at 3.6% while that of dry bulk cargo amounted to 6.3% in 2007-08. Liquid cargo, meanwhile,

accounted for a share of 24.7%.

3) The slow growth of coastal shipping despite having a low unit transportation growth is of a major

concern. The overall end-to-end cost by coastal shipping escalates due to inadequate port & land

side infrastructure (capacity, connectivity etc), resulting in a preference for road / rail modes for

trade. Burden of customs duties, cumbersome customs / other procedures, low port productivity

with high tariffs aggravates the problem.



4) The existing tonnage tax needs to be streamlined to be in line with other schemes in other maritime

countries, and should be amended to include profit on sale of ships as well as interest income as

tonnage tax income.

5) The Indian shipping companies are unable to retain quality manpower due to distortions in income

tax structure. Indian officers and crew employed on Indian flagged vessels (for a period of less than

183 days) are subject to income tax. No such tax is imposed on foreign shipping companies, making

employment on these flags more attractive. As a result, the Indian shipping industry is not able to

retain quality personnel.

6) Another issue is the statutory insurance of the fleet for hull and machinery with the Indian insurance

companies. The domestic premium rates fixed by the tariff advisory committee are much higher

than the international premiums.

7) The low depreciation rate of 25% applicable to the shipping industry is another of industry concerns.

On the other hand, vehicles such as trucks and cars are permitted a 40% rate of depreciation. There

is a strong case for removing this inequity by raising the depreciation of ships also to 40% as it would

help companies to build up reserves to finance fleet replacement and growth.

SHIPPING STOCKS

Factors to consider while valuation

Management: The ability of the management to foresee trends and alter the fleet mix accordingly to

improve realizations is of high significance considering the volatile nature of the shipping industry. Since

freight rates are highly volatile, it would be prudent for shipping companies to maintain sufficient

revenue coverage through time charters. The company thus insulates its earnings from the highly

cyclical nature of freight rates, thereby increasing its revenue visibility. Even though this comes at a cost

of losing out on substantial upsides in case of attractive spot freight rates, the company can alter its mix

of time charters and spot rates depending upon their outlook on freight rates.

Fleet mix: As mentioned earlier, shipping companies operates in different segments viz., tankers (crude

and product), dry bulk, gas, containers and offshore. The segment in which a particular company

operates, and the freight outlook in that segment, will ultimately determine the future prospects of the

company. As compared to the dry bulk and crude segment, the offshore business provides higher

visibility and lower volatility. Oil rigs provide long term visibility to the company’s revenues and with the

rise in exploration and production (E&P) activities, the demand for offshore support vessels is likely to

remain strong.



Valuations: Shipping is a highly volatile business and freight rates are determined depending on global

supply and demand. Therefore, valuing a shipping company on the basis of price to earnings may not be

meaningful. However, considering the asset intensive nature of the shipping business, price to book

value (P/BV) would be an appropriate method of valuation. Though the book value does not indicate the

market value of the fleet, book value capture the essence of the balance-sheet strength of the company.

It has to be remembered that when freight rates are higher, the asset value of the fleet increases and

vice versa. If the company declares the net asset value (NAV), investors could use that as a very good

indicator. Otherwise, we suggest investors to value a shipping business on the basis of P/BV. For

offshore companies, price to earnings would be an appropriate tool as the revenue visibility is higher

and also less volatile.

COMPANIES OVERVIEW

GE Shipping (GESCO)

Investment Highlights

a) Listing of the offshore subsidiary to provide value unlocking

GESCO plans to list its offshore subsidiary Greatship India. The subsidiary currently has 14 owned assets and 2 in-chartered assets under management. Post the leftover capex of US$ 362 mn the company will have total owned assets strength of 23 vessels. The listing of the offshore subsidiary is expected to further unlock value.

b) Stable offshore earnings to contribute significantly

With the growth of fleet in the offshore segment where the charter rates are likely to remain stable we expect the offshore contribution in the combined consolidated entity will increase to ~37% by FY12. Company's presence in the mid-sized offshore assets is likely to be less risky as compared to a player like Varun which has a higher exposure in the higher end offshore segment.

c) Greater exposure to the tanker segment to provides better long term visibility

On a standalone basis GESCO currently books ~85% of its revenues from the tanker segment. We believe that despite a bleak near term scenario the tanker segment is likely to achieve better rates in the longer terms (beyond two years). We believe that the tanker cycle is currently at its trough and is less likely to go further down from here.

d) Valuation

The valuation is carried out on the SOTP basis due to disparateness in the shipping and offshore business. The shipping business has been valued on the basis of P/NAV basis whereas offshore has been accorded 9x FY11E, PE based on the global peerset valuations.



Background

G E Shipping is India's largest private sector shipping service provider. G E Shipping initially promoted by two families - the Sheths and the Bhiwandiwallas, who started GESCO to help expand the reach of their trading businesses. The company started its shipping operations in 1948, after obtaining the mothballed Liberty ship, SS Fort Elice. GESCO has a diverse asset base with presence in the crude, product, dry bulk and offshore segments. GESCO has a presence in the offshore business through the wholly owned subsidiary Greatship India Ltd. The company's management is constituted by Mr. K M Sheth, Chairman, Mr. Bharat Sheth, Managing Director and Mr. Ravi Sheth, Managing Director of Greatship India.

Operational Highlights

a) Very dynamic in S&P (Sale & Purchase) activity GESCO has been one of the most aggressive companies historically in the field of sale and purchase of ships and is likely to continue the policy.

b) Greatship: a good support Greatship has a young (average age of ~2 years) mainly mid-sized offshore vessels. The following is the expected fleet profile of the offshore segment at the end of planned capex. The charter rate scenario in the offshore markets is expected to be more robust as compared to the shipping sector. Order book situation is much less alarming in case of offshore vessels. The order book in case of AHTSV and PSV category of vessels stands at 15.4% and 10.7% of existing fleet. Also about 48% and 40% of the existing fleet is above 25 years in the case of AHTSV and PSVs respectively. Hence relatively lower additions in the shipping tonnage are expected to sustain the current levels in charter rates.

Financials

a) Revenue contribution likely to be skewed towards offshore

The dependence upon offshore revenues is expected to escalate over the next couple years with the stagnation in the shipping charter rates. Fleet accretion in the offshore segment is expected to increase its contribution with the charter rates likely to remain stable. The GESCO standalone revenues are expected to remain depressed in the next two years. Greatship revenues are expected to grow exponentially on the back of fleet addition though the EBIDTA margins are expected to stabilize in the range of 36%.

b) EBIT contribution to be further skewed towards offshore

We believe that the earnings will be further skewed towards offshore in FY11 as it is expected to contribute to 35% of consolidated revenues whereas constitute about 45% of PBIT.



c) Leverage The DSCR and the interest coverage ratios of the company are at ~1.2x and 3.7x for FY11E. We believe that GESCO (consolidated) is in a comfortable position to provide for the long term obligations.

SUMMARY

GE Shipping (GESCO), India's largest private sector shipping company has had a successful track record of maintaining profitability despite severe fall in rates. We expect the company to be able to successfully hedge its earnings by growing its fleet in offshore space, which currently has owned fleet strength of 14 assets through its subsidiary Greatship India. We believe that offshore will contribute to almost 45% of FY11E PBIT. With likely listing of the offshore subsidiary we expect a value unlock in the near term. We recommend a BUY on the stock with target of Rs 376, a 23% upside.

SHIPPING CORPORATION OF INDIA LTD.

Background

The Shipping Corporation of India was established in 1961 by the amalgamation of Eastern Shipping Corporation and Western Shipping Corporation. Starting out as a marginal Liner shipping company with just 19 vessels, the SCI today has 77 ships of 5.1 mn dwt with interests in almost all segments of the shipping trade. In addition, SCI mans/manages 60 vessels of 0.2 million tonnes DWT. The SCI owns and operates about 33% of the Indian tonnage servicing both national and international trades. Over the years it has diversified into a large number of areas, and is today the only Indian shipping company providing overseas break-bulk and container services to Indian trade. The SCI operates shipping services in various segments viz. container, break-bulk, crude oil & products, dry bulk, LPG / Ammonia, Phosphoric Acid / Chemicals, LNG, coastal passenger transportation, offshore logistic support services and other coastal services.


a) Lowest leverage in the shipping space SCI's conservative policy has helped it maintain a low leverage with a Net debt to equity position at ~0.1x. Though with a substantial capex planned in the next three years the company's leverage is expected to increase. Still the DSCR is reasonably positioned at about 1.5x in FY11E and equity infusion at this juncture may help it revamp and expand its fleet further when the asset prices are low.

b) Container segment losses to reduce but breakeven elusive SCI, the only Indian shipping company running international liner operations has been booking EBIT losses since FY08 due to extreme competition in the segment. In FY10 there has a been a steady improvement in the rates in the liner segment on the back of container shipping companies taking a conscious decision against moving containers at less than breakeven costs. This decision will be under strain due to slew of ship additions, ~ 10% additions in capacity every year in FY10-11.



c) Predominantly tanker based player The company's revenues in the bulk segment are largely dependent upon the tanker segment. Tankers contributed to 87% of the bulk segment EBIT in FY10. The tanker segment though in the medium term is expected to remain depressed. It is expected to show a recovery in next two years due to scrapping of vessels and crude oil demand recovery by non-OECD nations.

d) Divestment candidate SCI is a divestment candidate which currently has ~80% government holding. Also with the current guidelines of more than 25% public shareholding we expect SCI to explore ways its float soon.

Management

The SCI Board is headed by the Chairman and Managing Director, Mr S.Hajara, 5 full time directors heading the divisions and 10 part time directors (2 official and 8 non-official) nominated by Government of India.

Operational details

a) Bulk SCI currently has had a higher share of tankers in its fleet which is expected to undergo significant revamp post the acquisition plan. The average age of the bulk fleet is expected to reduce post acquisition to 14 years from current 18 years. In bulk operations the company is mainly catering to the cargo originating from the Indian subcontinent.

b) Liner The company's liner operations are largely concentrated in the Asia-Europe route. Besides five owned vessels with 14,407 TEUs of owned capacity the company also has also an in-chartered fleet of about 5 vessels. SCI has actively renegotiated the older charters and working on a loss mitigation plan in the Liner business.

c) Others SCI has a fleet of 10 offshore vessels with an average fleet of 25 years; these are currently employed in the Indian waters with ONGC. It also services about 21 vessels of ONGC. The Liner segment also includes the passenger transport services both owned by SCI and on account of the Andaman & Island administration.

d) Capex details



The company plans to incur a capex of US$ 1.6 bn over the next three years. About 15 vessels are estimated to be added in FY11 and another ~10 in FY12.

Financials

a) Revenues

SCI is expected to book revenue CAGR of 15% over FY10-12E. Further growth in revenues is likely to be contributed by the fleet increment in the next couple of years which is likely to see addition of about 25 vessels. Of this the bulk (mainly tanker) segment is expected to provide major portion of growth with increment in the fleet. The recovery in the liner segment is currently dependent upon the ability of the liner companies to hold on to the rate.

b) EBIT to improve We expect a modest recovery in liner segment and the accretion of the new-buildings is likely to lead to growth of overall EBIT.

c) Interest cover and DSCR SCI is currently has an interest cover of 7x EBIT. The DSCR for the company is likely to be 1.5x in FY11E and 1.3x in FY12E. Net Debt to equity which is negligible currently is expected to increase but with vessel acquisitions.

Summary

Shipping Corporation of India (SCI) a Navratna PSU is one of the least leveraged plays in shipping space in India. The company has India's largest shipping fleet has a major presence in the tanker segment. Currently having an aged fleet (average age ~19 years) the company has on order 38 vessels which will bring down its fleet age to <15 years by end of FY12. Its container shipping segment continues to be in losses due to a highly competitive sector which is reeling from overcapacities. SCI management though expects to turn around the container/liner segment by FY12 which we believe will be difficult task to achieve though the rates/TEU have improved. We initiate coverage with a HOLD rating on the stock.

MERCATOR LINES LTD.

Background

Mercator Lines Ltd (MLL) was incorporated on 24 November 1983 as a private limited company and is currently the second largest private sector shipping company in India. It was converted into a public limited company on 3 April 1984 and was taken over by the promoter of the company, Mr H. K. Mittal in 1988. After its maiden issue in 1993 the company procured an oil tanker of 1,000 dwt capacity and a cargo carrier of 4,300 dwt capacity and since then has grown manifold. The tonnage has expanded exponentially to about 1.8 mn dwt in 2007. The company has forayed into the oil & gas offshore business through its subsidiaries and placed an order for the construction of a new



generation Jack-up rig. Currently, Mercator has presence in the segments of crude oil, product tanker and dry bulk operations. Mercator also has presence in coal mining through its subsidiary Oorja Holdings Pte, which holds coal mining blocks in Indonesia.


a) Most diversified player in the shipping space Besides shipping, MLL has presence in offshore, coal mining, dredging and oil prospecting. The revenue contribution from all these segments on a consolidated basis is expected to be in excess of 35% for FY11- 12. We believe that the diversification strategy may help the company to withstand the downturn in the shipping space.

b) MOPU deal to provide earnings support The Mobile Offshore and Production Unit (MOPU) to be stationed at the west coast of Africa have been chartered out to Afren Plc. The deal to provide a rig and one of its Suezmax tankers involving a capex of US$ 125 mn would provide MLL, revenues of US$ 225 mn over the next seven years. The company will be booking revenues of US$ 88,000/day from the MOPU venture which would provide it an EBIDTA contribution of ~US$ 65,000/day from Sept 2010 onwards.

c) Time charters and COAs to cover the dry-bulk operations

Mercator currently owns and operates 17 ships in dry-bulk space of which 13 vessels are owned. The company currently has firm TCs for eight of its vessels and COAs for another four. The company's strategy of fixing long term charters has helped it bode over worse of the times.

d) Dredging business has seen a slow-down MLL is has reduced focus on the dredging segment which was bogged down by lower utilization post the ending of contracts with DCI for the Sethusamudram project and other manpower issues. It plans to develop the skillset of the people in place which would take 4-6 months, before undergoing further expansion.

Time charters and COAs to provide good visibility for dry-bulk operations

Mercator Lines (Singapore) currently owns and operates 17 ships in dry-bulk space of which 13 vessels are owned. Currently, MLL has firm TCs for 8 of its vessels and COAs for another ~4 vessels which provides it a better TC:Spot mix of ~70:30. The company's strategy of fixing long term charters has helped it bode over worse of the times. Only one of these vessels is coming for re-negotiation in the next six months.

Coal mining / trading may provide upsides

The company had achieved a total throughput of 1.5 mn tonnes of coal in its coal mining / trading activity in FY10. In FY11, it expects further growth in the mining output to about 1 mn tonnes of coal and



trading activity to achieve 4-5 mn tonnes of coal. The coal mine in Indonesia has 15 mn tonnes of reserves and Mozambique has 3 bn tonnes of reserves. Currently it is mining only the Indonesia reserve.

Capex details In FY11E, MLL plans to incur a capex of US$ 125 mn on MOPU. Also capex in the tanker and the dry-bulk space is planned in FY11 though the exact amount and vessel acquisition target is not finalized. It also plans to incur further capex for prospecting of oil in the Gulf of Cambay blocks.

Financials

a) Revenues and EBIDTA

The revenue booking is expected to increase to Rs 24 bn by FY11E, 34.6% YoY growth on back of coal trading/mining segment which is expect to contribute almost 40% of total revenues. The share of the shipping revenues in the total revenues has been in the range of 70-80% in the last two years is expected to reduce further to ~50% by FY12E. Revenue contribution from the coal segment is expected to increase manifold mainly due to the trading activity undertaken by the company. Its impact on accretion of the profitability though is expected to be minimal (5-6% EBIDTA margin).

b) Interest cover and DSCR

MLL has a modest interest cover ratio of 1.9x and with a current consolidated gross debt of Rs 39.7 bn and cash of Rs 9.4 bn the net debt to equity stands at 0.8x for FY11E. The DSCR of company is expected

to be modest at 1.2x for FY11E.

Summary

Mercator Lines (MLL), is India's second largest private sector shipping player has historically ridden the shipping cycles well to show rapid growth of 56% CAGR in revenues and earnings from FY04-09. The sudden sharp decline in charter rates in FY09 impacted the earnings adversely which in FY10 which led to 81% YoY fall in earnings. We expect the earnings scenario for the company to moderately improve from here. This is expected to be mainly due to aggressive expansion in other avenues like offshore (rigs), and coal to hedge its risks due to shipping. We believe that the stock is fairly valued at these levels and initiate coverage with a HOLD rating on the stock.

VARUN SHIPPING LTD.

Background

Varun shipping is a key player in the LPG shipping business with one of the largest medium sized LPG carrier fleet (10 nos) in the world. Having a fleet strength of 20 vessels the company 72% of the revenues is contributed by the LPG carriers. Varun's has one of the best dividends paying track record in the industry and provided a dividend yield in excess of 6% over FY02-07.




a) Turnaround in higher end offshore category still elusive? We believe that the turnaround in the higher end offshore category vessels has remained elusive for the company which the company had bought for about US$ 60 mn a piece. The higher end AHTSV category currently has an orderbook of 56% of existing fleet.

b) LPG segment to recover but remain rangebound We expect the LPG segment to remain recover from its lows seen in the last couple of years but remain range bound in the coming months. The company has sold 5 of its owned vessels in the LPG segment to its group company.

Summary

Varun Shipping (VRNS) is a niche player in the LPG shipping space in India. It has a sizeable presence in the LPG shipping and offshore shipping with about 20 owned and operated vessels. The company is highly leveraged at the current stage and has reported difficulty in achieving contracts for its large size offshore vessels (160 tonnes). Also, the MGC-LPG vessel segment which traditionally offered more stable charter rates also suffered a drop in rates. The turnaround for the company which has been booking losses on an operational basis for the last six quarters will be largely dependent upon the turnaround in the offshore segment.

OUTLOOK – INDIAN SHIPPING INDUSTRY

OVERALL FREIGHT MARKET Freight rate on year on year basis being higher across all segments is expected to result in higher TCY (Time Charter Yield) earning for the industry players in the first quarter of current fiscal. Given the quantum of scheduled deliveries for remaining part of 2010 the shipping rates will be under pressure but an upward thrust would be provided by the continued slippage in delivery. The performance of the shipping companies going forward is all likely on their exposure to spot rates and operational efficiency. GE Shipping given its right balance in exposure to spot market and TC and its incremental revenue from offshore subsidiary is expected to have smooth sail. Similarly given the less volatility in the rates of Gas Carriers the voyage of Varun Shipping is also expected to be smooth. Overall outlook is neutral. TANKER MARKET Prospects for the tanker market in FY 2010-11 remain uncertain. As per IEA, world oil demand in 2010 is expected to improve to 86.6 million barrels per day, which is about 2% or 1.7 million barrels higher than that seen in 2009. While China’s oil demand growth is expected to stay in the region of 6.5%-7%, a lot depends on a sustainable oil demand recovery in the OECD nations, specifically the US and the Europe. While last quarter of the previous financial year did see slight improvement in the US oil demand,



economic problems in Greece and surrounding Euro zone can dramatically alter demand dynamics. Significant refining capacity will come on stream in the Middle East and Asia in 2010, which will take away market share from refiners in the US and the Europe. This will boost tonne mile demand for the product tanker tonnage going forward. On the supply side, the global tanker orderbook currently stands at about 128.6 million dwt or 29.1% of the fleet at the end of March 2010, with about 50.40 million dwt scheduled for delivery between April and December 2010. However, last calendar year registered 25% slippage in tanker new building deliveries against that scheduled at the beginning of the year. Assuming similar slippage and complete single hull tonnage phase out in 2010, net tanker fleet is expected to grow at approx. 2-3% in the calendar year. Overall, barring seasonal volatility, average tanker earnings in FY 11 are expected to remain similar to those seen in FY 10. DRY BULK MARKET Chinese imports policy and actual new building deliveries will set the undertone for the dry bulk shipping market in short to medium term. On the back of increased domestic demand backed by greener pastures outside China, there is a potential for Chinese steel mills to increase steel production at home at a quicker rate than domestic consumption. However, a cause of concern exists as international prices for iron ore and coal have shot up nearly 50-60% and have turned fairly uncompetitive to Chinese domestic ore. If this propels higher consumption of the domestic ore in China, sea borne iron ore and coal trade can suffer severe impact at a time when the dry bulk shipping industry is already under pressure from potential new building deliveries. Currently the dry bulk orderbook stands at 288.2 million dwt or 60.6% of the existing fleet with 109.5 million dwt scheduled for delivery in the balance of calendar year 2010. However, it must be pointed out that the above delivery schedule is fairly theoretical in nature as we have already seen 40% slippage in new building deliveries during the last calendar year. Further extraneous factors such as trade patterns, congestion, natural calamities and weather changes can have their multiplier effect on dry bulk freight earnings. Overall, it is expected that going forward new building deliveries are likely to cap any improvement in dry bulk earnings in the short to medium term and hence FY 11 earnings are likely to average lower than FY 10. PORT TRAFFIC The world seaborne trade declined 3.4% in 2009, after a growth of 4.0% in 2007 and 2.3% in 2008. But there are some favorable trends. On the one hand, there is recovery in global trade, though it is threatened by downside from Sovereign Debt crisis of a few countries in European Union. Amidst this, India is witnessing a healthy growth in its economy, which is improving its global competitiveness and hence exports on the one hand, and increased imports to satisfy domestic demand on the other. These factors should facilitate better growth in Indian port traffic growth in the current fiscal.

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