Sun shines, but still miles to go... - Views on News from Equitymaster

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Sun shines, but still miles to go...

Mar 10, 2001

The fiscal year 2000-01 has reversed fortunes for the shipping industry with freight rates touching their historically high levels. As a result, shipping companies are reaping the benefits in form of higher margins and profits. But, inadequate government reforms have been a drag on the Indian shipping companies. We take a closer look at the challenges and opportunities for the Indian companies.

(grt m) Targeted Achieved
VIth plan 7,500 6,319
VIIth plan 7,500 5,907
VIIIth plan 7,000 6,916
IXth plan 9,000 6,852
One of Indian shipping industry’s major drawbacks is the lack of fiscal incentives. By fiscal incentives, we mean reforms like infrastructure status for the industry, which would enable these companies to mobilise debt at international interest rates, introduction of tonnage tax and other tax incentives.

Indian shipping tonnage is minuscule compared with global capacities. So, the need to enhance aggregate tonnage is pressing given the fact that more than 70 percent of Indian international trade is transported by foreign carriage. The total volume of India’s international trade increased from 202 million tonnes (MT) in 1999 to 204 MT in 2000. However, percentage share of Indian tonnage has come down from 32 percent in 1999 to 30 percent currently. This indicates a severe drain of foreign exchange, which is estimated to be around Rs 150 billion (US$ 3.1 billion) per annum. India cannot afford such a huge loss in foreign exchange.

So, there is a need to provide necessary budgetary support to save our precious forex reserves and increase India's competitiveness in the global markets. Currently, freight cost as a percentage value of import cost is 10.3 percent in India. This when compared with 5.2 percent and 5.8 percent for Korea and Singapore is extremely high. If India were to reduce this, it would have to increase tonnage capacity, which in turn would decrease transportation costs.

The shipping industry was hoping that the budget 2002 would bestow adequate tax incentives to the shipping companies. However, it turned out to be a disappointment for the industry. The important amendments in the budgets are removal of surcharge on corporate tax to 2 percent from 13 percent, reduction in dividend tax rate from 20 percent to 10 percent and additional spending by government to enhance port infrastructure.

But, the budget has also imposed a five percent customs duty on import of cargo and cruiser vessels, which has dampened sentiment. Since most of the Indian shipping companies place orders for new ships abroad because of lack of capacity in Indian imports, it is expected that the average cost of acquisition to go up by more than 7 percent.

Though depreciation rate has been increased from 20 percent to 25 percent, this is much lower than 40 percent, which the industry was demanding for. As a result, the Shipping Corporation of India (SCI) is expected to save only around Rs 231 million (US$ 5 million), which is not substantial given the fact that acquisition of new crude carrier would result in an outflow of US$ 230 million.

Following the reduction of small savings rate in the budget by 150 basis points, the Reserve Bank of India (RBI) has reduced bank rate of 50 basis points (the RBI had already reduced bank rate by 50 basis points in February 2001). For a capital-intensive industry like shipping, the reduction in lending rate should reduce cost of capital in the long run. To put things in perspective, for The Great Eastern Shipping Company (Gesco), a one percent reduction in interest costs would increase net profits by 5 percent in fiscal year 2002.

There are enormous opportunities for shipping companies to exploit. The sharp rise in domestic refining capacity will lead to higher demand for crude (estimated to be around 77 MT by fiscal year 2002). Besides, in light of rising input costs, the number of power companies who have plans to shift to liquefied natural gas (LNG) based generation is on the rise. Precisely, this is the reason why major Indian shipping companies are aggressively venturing into LNG shipping. Added to this, cash flows of shipping companies are also expected to stabilise because LNG transportation contracts are usually for 20 to 25 years.

It is only that the government needs to recognise the need to enhance port-handling capacities and provide the necessary fiscal benefits to the Indian shipping companies. The rest will automatically fall in place.

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