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Tuesday, November 25, 2008

Shipping industry: Desperate for good news


Tuesday, 25 November 2008

The shipping industry is witnessing the toughest times in recent history. The day rates are falling like a pack of cards. The Baltic Dry Index that is the benchmark rate for dry bulk carriers (which ship commodities like iron ore and coal), has fallen by as much as 90% till date in ’08. The crash has not been as severe in the case of tanker rates, which can be gauged from the 50% fall in the Baltic Dry Tanker Index in ’08. The most important reason for the steep fall is the slowdown in commodities trade by China, which accounted for as much as 90% of incremental demand. This has particularly affected the flow of iron ore and coal, leading to the mayhem in dry bulk trade. The troubles of the financial world have come to haunt the real economy as well. Even if we claim that everything is fine with fundamentals, businesses will not do well if finance evaporates.
SEPTEMBER ’08 QUARTER:
Surprisingly , domestic shipping companies put up a better performance in the September ’08 quarter (Q2) vis-a-vis Q1. The profit growth of four major shipping firms - Shipping Corporation of India (SCI), Varun Shipping, Great Eastern Shipping and Mercator Lines - was better than the average growth in earlier quarters. SCI’s profit was up 37% yearon-year (y-o-y ) in Q2 due to the strong growth momentum in revenue. The freight and charter income of Varun Shipping saw a 27.5% y-o-y growth in Q2. This was due to strong realisations in the tanker market and equally strong momentum in the offshore segment.
Great Eastern Shipping’s freight and charter hire income was up 49% on strong growth witnessed in average-time charter yields. Its increasing exposure to the spot market aided the growth figures. This is commendable in times when the day rates have virtually collapsed. Similarly , Mercator Lines’ revenue was up 76% on the back of higher day rates from dry bulk carriers and tankers. In fact, day rates of these companies have gone up in these troubled times. But again, this is because the comparison is on a y-o-y basis. The real impact of the slowdown will be more visible in the coming quarters as the rates crashed only in ’08. Great Offshore’s profit actually fell by 66% y-oy in Q2. Its sales also fell on a quarter-onquarter basis because four vessels were on dry dock, leading to revenue loss. The company also saw a jump in expenses, resulting in a fall in profit.
OUTLOOK:
Though shipping companies have managed to withstand the slowdown, the future does not look promising. The tanker market can see further softening, as its future depends on the demand for oil. Production cuts by the Organisation of Petroleum Exporting Countries (Opec) in order to contain the fall in oil prices will pose challenges to tanker rates in the short term. In the long term, if the slowdown persists, then demand for oil, too, will come down, affecting tanker rates negatively . The market for dry bulk carriers depends upon the commodity market, which is passing through one of the toughest phases in recent memory. Therefore, nothing can be said of dry bulk carrier rates until the commodity market stabilises.
Offshore support is the only segment of the shipping business which is still holding its ground. This is because, despite the steep fall in oil prices, companies have maintained their momentum in offshore oil exploration .
However, exploration activities are closely related to prices and demand for oil, both of which are on a downward trajectory currently.
Given the uncertainty surrounding the global shipping industry, we advise investors to stay away from the shipping sector. However, Varun Shipping is unlikely to be affected as it is into gas carriers , which is the most stable business in the industry. In the past few years, the company has aggressively invested in offshore supply vessels, which is a highmargin business. Moreover, at current prices, its dividend yield is close to 12%. While Varun Shipping is in a stable business , other companies like Great Eastern Shipping, SCI and Mercator Lines are into dry bulk carriers and tankers, which can witness further softening.
Adapted from The India Economic Times

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