mydigitalfc – For banks, a Rs 10,000 crore business opportunity

(Written by Manju AB)

21 December 2012 - Shipbreaking finance is a lucrative business for banks. It gives them good margins over their base rates of nearly four to five per cent as the loans are availed by small, unlisted players who are generally micro, medium and small entrepreneurs.

Bulk of the financing is non-fund based whereby the bank provides the guarantees to the firms to buy the ship. The size of the shipbreaking bank finance in India is about Rs 10,000 crore, according to the banks’ estimate and about half of this financing is undertaken by State Bank of India (SBI).

Among the banks, the big financiers of shipbreaking are SBI, Bank of Baroda, Dena Bank, Indian Overseas Bank and HDFC Bank.

A senior SBI official said, “Operating revenues of ship breaking are showing a healthy growth but the operating margins are growing at modest levels but have come under pressure due to fragmentation, competition and interest costs. The credit profiles of the shipbreaking finance companies will remain under pressure as demand for scrap steel is down and the exchange rate is volatile.”

According to a report by rating agency Icra, the shipbreaking financing business typically starts with the shipbreaker paying the earnest money of about 10 per cent of the ship’s value in order to bring the ship to the national anchorage point/high seas.

But the volatility in the exchange rate and the falling cost of scrap steel are deteriorating the financial position of shipbreakers as the scrap steel is the main component in a ship.

Senior official from Bank of Baroda said, “Shipbreakers have a letter of credit (LC) with a credit cycle of 180 days to 270 days from the banks to procure the ship and the LC is later converted into a fund-based facility. But mostly, all of this is short-term financing. The fund-based component is mostly for paying the customs and excise duties. The loan is generally of Rs 30 to Rs 50 crore, where the ship is hypothecated to the bank along with some personal properties of the borrower. The ship breaker has to make an upfront fees of 10 to 25 per cent of the cost of the ship.”

Icra says in its report, “In most cases the fund based limits, which are mainly used to cater to the daily requirements like administration expenses, labour charges and fuel expenses, are significantly lower than the non-fund based limits. Hence, any delays in the approvals for beaching as well as delay in the shipbreaking activity after beaching can result in substantial funding mismatches with respect to the obligations related to the non-fund based limits and can have an adverse impact on the liquidity profile of the concerned shipbreaker.”

A senior official from Indian Overseas Bank said, “It is a lucrative financing option for banks as it is non-fund based exposure and the revenue stream is guaranteed as the ships are purchased with clear assessment of the worth. But of late, as the demand for steel is going down many shipbreakers are loosing the market to sell off the scrap steel.”

Bankers are, however, worried about the exchange rate volatility, unless the customers take forward covers it gets very risky.

In Icra’s view, any further depreciation in rupee, decline in steel prices or increase in interest costs would be few of the key downside sensitivities affecting the business and financial risk profile of the Indian shipbreakers. Icra also notes that Indian shipbreakers have a high reliance on non-fund based facilities like import letter of credit (LC), which are used for funding the purchase of ships. In comparison, their fund based facilities are rather limited which exposes them to a risk of liquidity crisis in case of significant delays in the shipbreaking process which may take place at the approval level, before beaching or during demolition.”

In 2011-12, India reclaimed its lost position as the world’s largest shipbreaking nation with its yards in Alang demolishing 415 ships. According to bankers, “over 150 ships are waiting for their turn at the dismantling units.”