Shipping Corporation of India (SCI)

STATE-OWNED Shipping Corporation of India (SCI) appears well positioned to take advantage of the much-awaited upturn in the global shipping industry. That's because the US economy, a key determinant of the global shipping industry, is on the growth path and demand for crude oil is also showing signs of a revival. This, in turn, should help freight rates in the key tanker segment of the shipping industry, where vessels are utilised for transporting petroleum products. Indian shipping companies have a majority of capacity utilised in the tanker segment.

   In addition, strong demand for crude oil from emerging markets, such as China, and a revival in other emerging economies, will help the shipping industry emerge from the slump during the year ended March 10. We had recommended this stock in our issue dated June 22, 2009 and since then the stock has gained 41.6%. Also, this stock trades at about 1.1 times its book value for the year ended March 2009, while it has traded in a range between 0.64 times and 0.8 times between March 2005 and March 2008. However, given the anticipated upturn in the global shipping industry in the medium term, we believe that there is still upside potential in this stock.

FLEET SIZE

Shipping Corporation's owned fleet capacity was 75 vessels with a capacity of 5.35 million dead weight tonnes (DWT) as on August 2009, a rise of 12.4% from two years earlier. Shipping Corp, like other players, in this sector has a majority of its capacity utilised for the tanker segment. At the end of March, 2010, SCI had a fleet of 76 vessels with a capacity of about 5.14 million DWT. Rival GE Shipping's fleet capacity was 2.71 million DWT in May 10.

   However, the underlying problem related to SCI's fleet was the age profile of its vessels — at the end of August 2009, SCI has highlighted that 85% of its dry bulk fleet capacity is over 15 years old and it has handymax vessels which are even over 20 years old. As a result, quick deployment of these vessels with clients is difficult, as users typically prefer younger vessels.

EXPANSION PLANS

SCI has an ambitious programme to modernise its fleet and to take advantage of the growth opportunities over the next few years. As part of that strategy, it had earlier got government approval for a total capex of Rs 13,135 crore to induct 62 new vessels by the end of the 11th plan (which ends 2012). SCI has 30 vessels on order and these vessels will be delivered at various time points by 2012. The total capex involved for these acquisitions is approximately $1.5 billion (nearly Rs 6,900 crore). These acquisitions will be financed through combination of internal resources and external commercial borrowings.

   SCI's leverage ratio was just 0.33 at the end of FY09, one of the lowest in the industry and it leaves enough headroom to fund the company's expansion plans. Also, as per the recently announced rules related to shareholding pattern and ensuring 25% public float, it does appear that SCI will need to come with a follow-on issue to dilute the government stake, going forward. However, details regarding a follow-on offer are still sketchy.

FINANCIALS

The shipping industry experienced a very difficult operating environment, especially during the year ended March 10, due to sluggish global demand for transporting crude oil. As a result, for players such as SCI, operating profit margin during the previous financial year declined 1110 basis points y-o-y to 15.5%, at a time when its net sales also fell 16.9% to Rs 3,463.1 crore. That's because in the key tanker segment, for crude carriers, their average freight rates had dropped to $23,800 per day levels, in the first quarter of FY10, a sequential decline of nearly 27.7%. However, with a pick-up in the global economy, especially in the US and China in the second half of the financial year, freight rates for crude vessels recovered and averaged about $29,000 in the fourth quarter of FY10. Nevertheless, its adjusted net profit declined 70.4% to Rs 279.9 crore for year ended March 10. GE Shipping's consolidated operating profit margin also declined 740 basis points y-o-y to 37% in the previous financial year.

VALUATIONS

SCI trades at 18.8 times on a trailing four-quarter basis, while rival GE Shipping trades at 8.8 times on a consolidated basis. One of its peers in the private sector, Mercator Lines, trades at 19.8 times on a consolidated basis. Investors could consider SCI on a long-term basis.