Indian shipping: Not ready to sail on the high seas

Transcription

1 Indian shipping: Not ready to sail on the high seas With the liberalization of the economy, the Indian shipping industry is fast losing the assurance of cargo and profit margins that it enjoyed till recently. However it continues to face several restrictions, which have traditionally hampered its growth and which make it uncompetitive vis-à-vis foreign players. Even though the authorities recognize this fact, as evident in the significant tax concessions given to the industry in the Union Budget , much more needs to be done to allow the Indian fleet to compete effectively in international waters. The Indian shipping industry seems to be a bit at sea today. On the one hand, it is buffeted by the winds of change, as it no longer enjoys the assurance of cargo and profit margins of a protected economy. On the other, it does not enjoy the freedom to compete effectively in the international market as vestiges of the controlled economy drag it down. Thus, at a time when both the consumer and the competition are international, Indian companies remain anchored to an uncompetitive cost structure imposed on them by the regulatory environment. The fact that the sector has failed to attract any foreign direct investment (FDI), even after the policy was revised to allow 100% foreign equity in May 2001, underpins the country s unattractiveness as a shipping base. The Indian shipping industry in a snapshot Currently, the Indian fleet comprises 557 vessels with a total capacity of 6.9 million gross tonne (GT) 1. The three main Indian shipping companies are the Shipping Corporation of India (SCI), Great Eastern Shipping Company (GE Shipping) and Essar Shipping (Essar). Together, they account for around 70% of the total Indian fleet tonnage. In addition, there are around 100 small shipping companies in the country. Given below is a distribution of the fleet among the various players in the industry. Tolani Sanmar Varun Others 17% By GT SCI 4 Others 32% No of Ships SCI 30% Chowgule 4% Essar Shipping 1 GE Shipping 14% Tolani 2% Varun Sanmar 2% Chowgule Essar Shipping 9% GE Shipping 19% Around 84% of the Indian fleet is concentrated in the bulk and tanker segments compared to 67% of the world fleet in these segments. Except for the three large players, almost all other Indian companies are present only in the bulk carrier segment with most companies catering predominantly to coastal trade. Regulations begin to bite into the industry s growth The effects of the regulatory constraints are already surfacing in the stagnating tonnage and consistently declining share of Indian ships in the country s overseas trade. Indian tonnage registered a 1 Gross tonne is a measure of capacity. This measures the capacity of the spaces within the hull and of the enclosed spaces above the deck available for cargo, stores, fuel, passengers and crew. 100 cubic feet of capacity is equal to one gross tonne

2 negative compound annual growth rate (CAGR) of 1% over the last five years compared to a CAGR of for the world fleet in the same period. Over the last few years, countries like Panama, Liberia and other similar flag of convenience (FOC, see box below for more details) countries have shown a sharp increase in tonnage registered (CAGR of 5% in the last five years), because of their conducive fiscal and regulatory environment. These countries today account for almost 60% of the world fleet by registration. In fact, almost every maritime state has been compelled to alter its fiscal regime to rival that of the FOC countries in order to retain the tonnage registered with it 2. Growth in Indian tonnage Percentage share of Indian shipping in Indian overseas trade fleet in million GT % volume hand Source INSA FOC countries and their place in international shipping FOC countries are countries that offer their maritime flag registration to owners from other countries for a nominal registration charges. These countries offer low or zero taxes and no restrictions on the crew s nationality. Panama, Liberia, Bahamas, Malta, Cyprus, Gibraltar and Singapore are some FOC countries. Currently there are around 25 such FOC countries. The International Transport Workers Federation has a list of FOC countries. Countries are added to this list according to certain criteria. The most important of these parameters is that a majority of vessels registered in a country should be foreign-owned or controlled. While FOC countries dominate the world fleet in terms of registrations, the scenario is entirely different when it comes to nationality of ownership, which is dominated by the developed world. For instance, 78% of the total Japanese fleet, which is the second largest in the world, is flagged in FOC countries. Indian companies, however, are not permitted to flag outside India. 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% Principal merchant fleets -by flag of registration Panama Liberia Bahamas Malta Greece Cyprus Singapore Norway China Japan U.S.A Russia Hongkong Marshall Italy Source INSA in million GT Principal merchant fleet by country of ownership Greece Japan Norway USA China Germany Hong Korea UK Russia Singapor Taiwan Italy Sweden India Turkey in million GT 2 Many countries like Netherlands, Norway, Greece, Denmark, Germany, Italy, UK, Spain, Portugal, Turkey and South Korea have introduced tonnage tax regimes. Tonnage tax is levied on the basis of tonnage registered rather than on actual profits earned. While the basis for calculation of tonnage tax varies from country to country it is nominal around 2%-

3 Most of the increase in tonnage in FOC countries is because a greater number of foreign vessels are being registered there. For instance, countries like Japan, U.S.A, Greece and South Korea have registered more than 60% of their fleet in FOC countries. In fact, for many countries, fleet owned or controlled has increased, despite a decline in tonnage registered, due to increasing registrations in FOC countries (see table below). However, Indian companies are not permitted to register their ships outside India, and are consequently deprived of the benefits that FOC registries offer. Allowing Indian companies to register their fleet abroad will significantly reduce the relative disadvantage that they currently face, and encourage a growth in Indian owned fleet. Trend in fleet profile of some major economies (Fleet in million GT) Fleet in million GT CAGR JAPAN Fleet owned % Fleet registered % % of fleet owned 32.84% 31.74% 29.76% 27.01% 26.01% 22.04% South KOREA Fleet owned Fleet registered % % of fleet owned 51.80% 50.11% 46.38% 35.25% 34.58% 35.70% GREECE Fleet owned % Fleet registered % % of fleet owned 42.46% 39.84% 34.68% 33.04% 31.32% 31.09% CHINA Fleet owned % Fleet registered % of fleet owned 74.71% 73.21% % 63.38% 62.27% USA Fleet owned % Fleet registered % of fleet owned % % 35.12% 34.85% Indian Industry is sailing upstream While the Indian industry does not enjoy the substantial benefits of registering in FOC countries, several factors continue to hinder its competitiveness in India. These include: Difficulty in financing new ships both access and cost Lower operating efficiency Steep tax rates Difficulty in financing new ships Indian shipping companies are at a disadvantage both in terms of the cost of and access to funds. Shipping is a capital-intensive industry, and the cost of acquiring new vessels is high. For instance, new tankers can cost anything between $35 million to $100 million, depending upon the vessel s size. Therefore, shipping companies require large funds to modernize and expand their fleet. Being a cyclical and volatile industry, however, shipping has not been a preferred investment option for domestic financial institutions traditionally. Moreover, raising capital in India is more expensive than raising it abroad in absolute terms. Consequently, the industry requires foreign currency borrowings at competitive rates. But here again,

4 most foreign lenders are unwilling to look at India because of the following reasons: India s low credit rating Standard & Poor s (S&P) outstanding rating for India is BB with a negative outlook. This is a big deterrent for foreign lenders investing in India and it also results in higher borrowing costs. Time required for registering mortgages While internationally, registration and deregistration of mortgages is typically completed within a day, in India, it currently takes days to complete the process. Although this is expected to come down to four-five days following the revision in the guidelines for registering mortgages in May 2002, it will still be much longer than the international norm. Even if Indian shipping companies manage to overcome these hurdles, they still have to bear much higher borrowing costs. The imposition of a 20% withholding tax on the interest on external commercial borrowings (ECB) from June 2001 has increased borrowing costs by around 200 basis points, adversely affecting the competitiveness of Indian shipping companies. Restrictive covenants such as a minimum average maturity for foreign currency loans and securing the Reserve Bank of India s (RBI) approval for more than US$50 million of ECB also hamper the financing of new ships. These difficulties in accessing competitive finance have dampened the fleet modernization and expansion programmes of most Indian companies. As a result, these companies have a negligible presence in capital-intensive and fast-growing segments like container shipping today (see table on the comparison between the Indian and world fleet below). A segment-wise break-up of the world and Indian fleet World fleet Million GT Indian fleet Million GT Bulk carriers % % Crude Oil Tanker % % Product tanker % % Chemical % LPG tanker % % LNG tanker % 0.00% General cargo % % Container % % Other vessels % % Total % % Source: INSA Lower operating efficiency The Indian shipping industry is also at a disadvantage vis-à-vis its foreign competitors in terms of certain operating costs. Operating costs can be fixed or variable. The variable cost elements, which include bunker (fuel) costs and port charges, change with the vessel s voyage pattern. Fixed running expenses generally comprise crew, insurance, repair and maintenance, stores and provisions costs and administrative costs. Outlined below are some of the fixed running costs, where Indian shippers suffer a disadvantage: 3 Others include, Ro-Ro cargo (roll-on/roll-off are used to carry cars & trucks), refrigerated cargo, cruise ships and passenger ship

5 Higher insurance costs Indian ship-owners are statutorily required to insure their fleet for hull and machinery with Indian insurance companies. The premium rates are fixed by the tariff advisory committee. Traditionally, premium rates in India have been much higher than those prevailing internationally due to the underwriting procedure prescribed by the tariff advisory committee. Shortage of efficient labour Indian officers and crew employed on foreign flag vessels are exempted from paying income tax. But the same officers, when employed on Indian flag vessels, are subject to income tax unless they spend at least 183 days outside the country s territorial waters. As a result of this inequity in tax provisions, a staggering 80% of the officers leave Indian employment in favour of foreign flag employment after completing their training on Indian ships. In order to check this outflow, domestic companies, will have to pay higher wages to compensate for the tax burden. Although overall crewing costs on Indian ships are marginally lower than international standards, the experience level of the crew is also substantially lower. This lack of experienced crew results in high labour inefficiency, which, in turn, affects a company s ability to target international customers. While the insurance cost and wages (adjusted for experience) are higher on Indian ships, administrative costs are lower in India. Administrative costs include onshore costs of operating a vessel. Steep tax rates Indian shipping companies have been among the highest taxpayers in the global shipping industry with an effective corporate tax rate of 22%. This puts them at a cost disadvantage vis-à-vis their foreign counterparts, especially since around 60% of the global fleet is governed by zero tax regimes and another 20% operates in countries with minimal tax rates of 2-. The significant tax benefits given to the industry in Union Budget are, however, a progressive step towards bringing Indian companies on par with their foreign counterparts. The definition of Section 33AC has been expanded to include share premium account and general reserve along with paid-up equity capital. Even though the provisions will significantly lower the industry s tax liability, its tax outflow would still be high by international standards, particularly in comparison with FOC countries. This is because profits for distribution as dividend are not exempted from tax. Section 33AC Under Section 33AC of the Income Tax Act, the entire profits of a shipping company are allowed as deduction if the profits are carried to a special reserve account. These reserves have to be utilized for new tonnage acquisition within a period of five years. Earlier, the aggregate amount that could be transferred was limited to twice the amount of the company s paid-up share capital. This has now been expanded to include both the share premium reserve and the general reserve. Moreover, the profits transferred to this reserve will not be considered while computing book profits under Section 115JB for calculating minimum alternate tax (MAT).

6 An illustrative benchmarking of the cost structure of Indian companies with international companies We have compared the profitability of a 75,000 dwt 4 Panamax bulk carrier, which is less than five years of age and is owned and registered in India, with a similar vessel that is owned and registered outside India. $/day India* International** TCY $10,000 $10,000 Crewing $1, % $1, % Insurance H&M $ $ % Insurance P&I $ % $ % Repairs and maintenance $1, % $1, % Admin*** $ % $ % Total operating cost $4, % $4, % EBDIT $5, % $5, % Depreciation $2, % $2, % Interest & finance charges $2, % $2, EBT $ % $ % Tax $ % $0 0.00% PAT $ % $ % * Source: Indian companies ** Source: UBS Warburg equity report ***Administrative costs are onshore costs, and are therefore lower in India Average Time charter yield (TCY) for a 75,000 dwt Panamax has been taken as: _ TCY = net voyage revenue/days required to complete the voyage _ Net voyage revenue = Total freight hire - direct operating costs (fuel and port related) Insurance includes two elements, the first related to hull and machinery and the second to protection & indemnity (P&I) The value of the Panamax is assumed to be $22 million financed in a debt to equity ratio of 70:30 Interest rates on ECB are assumed to be 7% for India and 5.5% abroad The Panamax is assumed to have a life of 25 years, and depreciation is charged on a straight line method basis No. of operating days are assumed to be 360 for the calculation of interest charges and tax/day Clearly, as this comparison shows, the Indian shipping industry is at a disadvantage vis-à-vis its global competitors. This disadvantage is even greater for more capital-intensive segments like containers and tankers since financing costs are higher for these segments. To allow Indian shipping to grow unhindered, it is imperative that the regulatory environment is made conducive to its growth. The need of the hour is not to provide sops or financial support to the shipping industry but rather to create an investment environment that encourages growth in the national fleet and allows it to compete on fair terms in international waters. 4 dwt or deadweight tonne is another commonly used measure of capacity. It is expressed in tonnes. Dwt is the maximum permitted load of a ship, i.e. the weight of cargo, passengers, fuel, stores and crew.