Shipbuilding Sector- Winding-up:: EMkay

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Shipbuilding Sector

Winding-up

n     Our downturn call on the shipbuilding sector, taken on May’08 has since played out, with valuations taking a severe beating

n     But now, we are unable to determine true earnings of Indian  shipbuilders – due to (1) mixed global industry signals (2) specific domestic issues (3) inadequate management access

n     Citing lower institutional interest, we wind-up coverage on the shipbuilding sector

Past Perfect – Our downturn call on the shipbuilding sector played out

We had initiated coverage on the shipbuilding sector in May’08 with a strong negative

bias – in stark contrast to the huge optimism prevalent amongst ship-builders as well as

investors. This was based on a top-down assessment, which signaled a grossly overordered

situation in the global shipbuilding industry and hence, an impending downturn.

Unable to forecast true earnings of Indian Shipbuilders

We have been unable to forecast the true earnings of the Indian shipbuilding industry with
reasonable degree of certainty. This is due to the global shipbuilding industry giving out
contradicting signals of revival in the past few months. Further, there exist multiple issues
on the domestic front applicable to the industry in general and companies in particular. This
limits our ability to forecast true earnings. These issues have been detailed as follows:
n Non-disclosure of details on order book and its execution – especially with respect
to unexecuted order book and revised vessel delivery schedules. Besides, there exists
material discrepancy on order books gathered from third party sources, further
hindering our analysis and forecasts.
n Minimal subsidy disbursement by the government despite substantial increase in
budgetary allocations every year (ABG Shipyard - subsidy realized Rs0.6 bn versus
subsidy booked Rs5.2 bn while Bharati Shipyard – no subsidy realized and subsidy
booked Rs3.4 bn). Consequently, we are unable to forecast with reasonable degree of
certainty the impact on company’s cash flows. This is concerning since subsidy income
booked constituted 40-45% of company’s networth as on Mar’10.
n Non-renewal of previous subsidy policy (expired in Aug’07) – despite huge
optimism and expectations prevalent amongst industry players. Infact, we would like to
argue against renewal of the shipbuilding subsidy, given healthy ROEs earned by the
domestic industry in the pre-downturn era (despite excluding subsidy income).
n Inability to verify the veracity and extent of company’s future subsidy claims with
the government – There is no correlation between the outstanding subsidy to be
booked (as stated by the management) and current order backlog – having an
important bearing on the company’s profitability.
n We have noted ad-hoc booking of subsidy income over the past 2-3 years – not
able to correlate subsidy income booked with revenues booked.
n Significant transactions with group companies and associates – difficult to
comprehend in absence of consolidation of accounts.

We wind-up coverage on Shipbuilding sector
We had rightly anticipated the downturn in the shipbuilding industry and witnessed it play
out in the last few quarters. But going forward, we are unable to estimate the true earnings
of the domestic shipbuilders due to (1) mixed signals from the global shipbuilding industry
with multiple and contradicting factors at play (2) significant identifiable risks – but extent of
damage unascertainable. Besides, there sharp reduction in holdings of institutional
investors and marginal interest in the sector. The current downturn along with uncertainty
over recovery time for the sector signals curtains down for our coverage on the shipbuilding
sector. The sun has set on the sector with the promise of a new dawn quite some time
away… for now, we wind-up coverage on the shipbuilding sector.