Lessons Tata Steel Learnt From Its Corus Acquisition, Or Not
The finalisation of the joint venture with Thyssenkrup AG marks the end of a long, painful chapter in Tata Steel Ltd.’s contemporary history. Twelve years after it made the ambitious acquisition the company acknowledges it bet on the wrong market, at the wrong time.
“If you have to choose between a growing and mature market, you would pick a growing market. You would pick a market where you have been operating for 100 years and have the strongest equity.”
That’s what TV Narendran, Tata Steel managing director and chief executive officer said when asked what he’d do if confronted with a Corus-like acquisition opportunity today.
Since 2006 when Tata Steel paid over $12 billion for London-based Corus Group Plc, it has reduced the firm’s steel manufacturing capacity from 18 million tonne per annum to 10 mtpa. Now it has further cut its European exposure by combining the business with Thyssenkrupp. Tata Steel will transfer $2.9 billion in debt to the 50:50 joint venture.
“I think we have created a sustainable enterprise in Europe while we have reduced the stake in the company from 100 percent to 50 percent, but we are 50 percent of a larger company, structurally stronger company which is able to sustain itself,” Narendran said.
Corus added over $6 billion in debt at Tata Steel and cost India’s largest private sector steel company its financial health and leadership in the home market. Competitor JSW Steel Ltd. stole a march over the Tata company expanding capacity to 18 mtpa versus Tata Steel’s 13 mtpa.
Tata now hopes to win back the number one spot with its almost complete acquisition of Bhushan Steel Ltd. (5.6 mtpa) and the potential purchase of Bhushan Power and Steel Ltd. (2.5 mtpa). But these new purchases mark the persistence of an old problem—debt.
Debt Going Out
- Thyssenkrup JV: Rs 19,100 crore
Debt Coming In
- Bhushan Steel: Rs 35,200 crore
- Bhushan Power: Rs 25,000 crore
In the short term, our debt situation may not improve but I think earnings before interest, tax, depreciation and amortisation are improving and the Rs 20,000 crore of debt which is going to move to the JV balance sheet will certainly help us. The Ebitda which we hope to generate out of Bhushan Steel in addition to the fact that India businesses are doing well otherwise, we hope will help us pare out the debt in the next couple of years.TV Narendran, MD and CEO, Tata Steel
The company anticipates a peak net debt to Ebitda at 4, including if Bhushan Power is acquired. Its stated long-term objective is to bring it down to 3. “ We think we have the ability to do it,” Narendran added.
In some ways, 2018 might be a hark back to 2006, when the Corus acquisition was premised on the promise of a booming global economy and undone by the global financial crisis.
Today too, the winds of trade war threaten to hurt the global economy. And with much of the initial firepower targeted at metal trade such as steel, is Tata Steel back to walking a tightrope?
Narendran doesn’t think so.
I don’t think the steel industry have seen a better time in the last 3-4 years. If you look at all the steel-consuming regions, they are growing, and China is not doing too badly. Consumption of steel in china has grown by 7-8 percent in last 5-6 months. Chinese exports have dropped. Trump has taken some actions on steel, but it has not hurt the steel industry as much as the noise which has been made.TV Narendran, MD and CEO, Tata Steel
Watch the full conversation here:
Here are the edited excerpts from the interview:
What are the lessons that Tata Steel has learnt from the acquisition of Corus?
In 2007, when we acquired Corus, things were looking good. I don’t think anyone had predicted what was going to happen in 2008. In the first one year, we had made a billion pounds of Ebitda. It was a good deal at least for the first year. What happened in 2008 had a very significant impact on our performance since then. The European markets took a long time to recover. It is close to where it was in terms of steel consumption in 2008, just this year or last year.
So, a lot has happened in Europe in the last 10 years. We have done a lot in the last 10 years in Europe. When we acquired Corus, it was 18 mtpa facility. We improved it, we got rid of the assets which we struggled with and we have brought it down to 10 mtpa. So, there is lot of learnings for Tata Steel in the last 10 years. But this is a cyclical business. How we deal with round cycles and difficult times, in some sense, determines what happens to us in the long term.
There was a lot of learnings and the team has put in a lot of great work in the last 10 years. We are happy to be where we are today. I think we have created a sustainable enterprise in Europe while we have reduced the stake in the company from 100 percent to 50 percent, but we are 50 percent of a larger company, structurally stronger company which is able to sustain itself. So, that is an important development as far as we are concerned.
Do you see an opportunity to exit European steel altogether?
First step for us is to complete the transactions, create the enterprise which we believe has a good balance sheet and good cash flows. If it is a self-sustaining business and strong on its own, then there is no reason for us to exit.
But challenges were there in the last 10 years because it was a trade on capital for us and in some sense, it distracted us from opportunities in India because of the challenges which we faced in Europe.
If we have a self-sustaining enterprise which can stand on its own, strong in its own way and is second-largest steel company in Europe and the performance indicates that it can take care of itself, there is no reason why we should not stay in with.
Wasn’t Corus the second-largest steel company in Europe when you acquired it?
It was the third.
Is this a bye bye to Europe in the next 3-5 years?
I don’t think so. When we acquired Corus, Tata Steel in India was 4 million tonnes per annum and Corus was 18 mtpa. So, in India even though we had a very strong cash flow, it was difficult for a 4 mtpa-operation irrespective of Ebitda margin to take care of 18-million-tonne operation which was not doing well. Today we are in a very different situation. Even before this [Thyssenkrupp] transaction, the Indian business is bigger than the European business. We are 13 million in India and 10 million in Europe. So, we are structurally a much stronger enterprise than we were back then. We created a stronger entity in Europe which can take care of its own needs and India is growing.
So, if India doubles its volumes in next few years, India again turns to a 25-26 mtpa facility with strong cash flows and good Ebitda margins, we are better equipped to deal with cyclicality which is inherent to a business.
The European market also has come back from where it was 8-10 year back. It was the last of the major markets to recover after the crisis. But things are better in Europe. Look at Spain, how it recovered, for instance. Spain was a big consumer of steel pre-2008 and it has come back to fairly good levels.
The industrial activity in Europe is picking up. It is not going to be a fast growing market, but it is not being the market of what we have seen in the last 10 years.
If you were today confronted with the choice of making a big purchase in Europe and focusing on the domestic market, what would your decision be? And you can’t have both?
Even over the last 10 years, we have grown in India from 4 mtpa to 13 mtpa. So, it is not that we have not grown in India. Growing three times in size in 10 years is not too bad. I know others have grown faster but we have not done too badly. I don’t think it is a question of one or the other.
Obviously, India is more profitable market and it is growing. If you have to choose between a growing and mature market, you would pick a growing market. You would pick a market where you have been operating for 100 years and have the strongest equity. So, this is natural. It is not as if we have to make the choice today. Our plan is to grow in India as much as we would like to.
Your [Thyssenkrupp JV] IPO is at least six years out? Do you intend to stay invested for those six years? Don’t you feel that your effort, time, management, bandwidth, capital will be better focused in growing the India business where JSW Steel has stolen a march over you.
The IPO choice or when to trigger the IPO lies with Thyssen. So, they can take the call. It is not that we have said we will not do an initial public offer for six years. We have said that for the first six years, we will have between us, together, more than 50 percent of the shares. So, it doesn’t stop us from doing an IPO if we want to.
If Europe doesn’t require any capital from India, then to that extent they are self-sufficient and it is not that you take out money from India and invest in Europe and miss opportunities in India.
From a management point of view, we will manage Europe as a JV, so far we have been managing it as a 100 percent subsidiary. So, it will be jointly managed by Thyssen and us. We have a stronger enterprise there.
All enterprises need some managing, but we have a strong team there and we will have oversight from Thyssen and us. We are comfortable with what we have planned ahead.
Tata Steel Europe is contributing 2.5 billion euros of debt and Thyssenkrupp is contributing 4 billion to the joint venture. Because of the diversions of financial performance between the two, Thyssenkrupp will have economic interest of 55 percent when this company goes IPO, till then you will have 50 and they will have 50. What explains the difference in the amount of debt both of you are bringing to the table?
2.5 billion euros of debt is being put in by Tata Steel into the joint venture and not Tata Steel Europe. As far as Thyssenkrupp is concerned, they don’t have debt but have liabilities because of the pension funds which is 3.8 billion euros. So, they put those liabilities into the JV which gets paid out in 2-3 million a year.
So, that is the liability and not debt. JV will have pro forma Ebitda of about 1.8 to 2.1 billion euros per annum depending on how the synergies flow through and debt of 2.5. It will have access to working capital lines of over 1.5 and rest are liabilities which are paid out 200-300 million euros per year which is paid out as far as ThyssenKrupp pension liabilities are concerned.
That’s the structure. It is a fairly balanced balance sheet which was the intent. The idea was to leave behind a company which is strong and can stand out on its own. That is the way it is structured. As far as the ownership is concerned, we have agreed on 50-50 in terms of economic interest. So, if we do an IPO then Thyssenkrupp gets another 10 percent. So, at that time it becomes 55-45.
First 10 percent of IPO will be sold by Thyssenkrupp which brings it to 45-45. If we have to sell anymore and if there is a minimum condition on how much we need to sell to do an IPO, then the partners will decide how much more each one wants to sell and the subsequent holding in the company.
You seem to have marginally lowered the band of synergies versus the announcement made last year, by 100 million euros. Can you explain why? Can you break up for us what the synergy accrual will be on an annual basis for the next few years?
We had said 400-600 million euros which was more indicative. This (400-500 million euros) is a bit more precise. It is more of fine tuning of the numbers. We do believe that there will be opportunities for more as we go ahead. These are annualised synergies, and it will kick in over the first couple of years. Some of them will be more immediate, for instance, the procurement synergies which are may be 30 percent of the synergies could kick in the minute the JV company is formed because it comes from being a bigger buyer of whatever you buy than you are today.
Some of the synergies are to do with network optimisation which is to do with how you physically optimise your distribution assets and everything else so that, you don’t have inefficiencies in the way you serve your customers. You don’t have unnecessary cost which are incurred. So, these are some of the synergies. Then there is optimisation of R&D expenses, for instance, as both companies may today be doing projects which are similar to each other. Either you can do more R&D projects or save some money doing the same projects and not repeating them.
So, these are some synergies which are being identified, apart from some of the benefits which come from reducing the workforce over a period of time which is also being talked about. We agreed with unions that there will not be any forced redundancy. It will be all discussed and there will be consultation process in Europe which we will go through and work on specific areas where we see optionalities.
You said 30 percent synergies in form of procurement and 30 percent in terms of network optimisation which is 50 percent of your synergies which is 200-250 million euros will be available in first year itself?
I will say in first 12-24 months.
Do you anticipate any delays on account of the fact that some of the key shareholders of Thyssenkrupp and some of activist shareholders have objected, even to these revised terms of engagement?
That’s for Thyssenkrupp to deal with. They are engaged with their shareholders and we will leave it to them to have those conversations. For us, from a timeline point of view, clearance from European Commission is important. The competition commission will take a call there. So, we will engage with them and we have started engaging with them. They will take their time. So, it depends on how comfortable they are and how long will they take.
The good thing for us is that they have already engaged on this because of the ArcelorMittal-Ilva deal. They are familiar with the dynamics and challenge of the industry. We hope we will get there sooner or later. We can’t give any timelines. The sooner the better but it is not in our hands but the European Commission to decide. It’s not for us to put pressure on them.
For some reason if the deal breaks, what is the impact? Is there a break clause or fee if Thyssenkrupp calls it off?
No. Directionally, I don’t think any of the stakeholders have a disagreement. It was the terms which was a moot point. The shareholders didn’t disagree with the direction. It was more the value that they were getting out of it. Same with our stakeholders, whether it was the unions or internal stakeholders. Everyone agreed this was right direction, but everyone had their interest which we needed to engage with. We try to look at the positive side of it. We have weathered the more difficult part of the journey, there will be challenges ahead and we are confident that we can overcome that.
Have you fully taken over Bhushan Steel? Are you firmly in the driver’s seat? Because there was some trouble accessing the plant etc...
Very much so. The issues were more to do with the time when the decisions had not been taken and when the (NCLT) order had not been passed. The minute the order was passed, within a couple of days we paid the money and took charge. Our teams are very much in place. The local teams in the Bhushan plant has welcomed us. The teams are working well together. It has been 45 days and things are looking good.
There are still some pending legal challenges?
As far as Bhushan Steel is concerned, we are almost there. We have submitted answers to all the questions which were asked. We paid for the asset and the shares have been transferred, the boards have been changed and we are the owners. We will continue to deal with the legal issues. We respect the judgment of the court.
Bhushan Power and Steel...what are the chances of that coming your way?
Let’s wait and see. We are well-positioned and ready as and when we get to know. If we go through the appeals process, it is still at NCLAT and July 12 is date and we will wait for it. We will take it as it comes. Internally, the teams are ready to go.
The debt you are transferring out because of Thyssenkrupp, you are taking on the same debt because of the Bhushan Steel acquisition. So effectively you are at the same place when it comes to debt at Tata Steel. What’s the plan on how you will pare this down?
Effectively same place as you said, but with a set of assets which generate more Ebitda per tonne, that itself makes a difference. Obviously the opportunities which came our way because of the IBC were not the opportunities which would wait for us. So, that’s the call we took as a board, that we said that these are not opportunities which come in a lifetime.
We know how long it will take to build a steel plant as we experienced it in a new site. We have two sites in our neighborhood close to our raw material sources in states where we have good relationship with and where we operated. It was an opportunity which we don’t want to miss. That was the basis for which we went for it.
The parent Tata Sons have also supported us on it and the board have supported us. In the short term, our debt situation may not improve but I think Ebitda is improving and the Rs 20,000 crore of debt which is going to move to the JV balance sheet will certainly help us. The Ebitda which we hope to generate out of Bhushan Steel in addition to the fact that India businesses are doing well otherwise, we hope will help us pare out the debt in next couple of years.
Is there any immediate plan for any kind of asset divestiture which might help to reduce this debt?
That goes on constantly. Even over the last few years, we kept rationalising and optimising our portfolio in India and overseas. So, it is an ongoing activity for us.
What’s left to do?
There are a lot of companies we own and subsidiaries we will take a call depending on opportunities and necessities.
Is there any immediate information on it, since your debt situation continues to worry the market?
If you look at net debt to Ebitda, even at its peak, and even if we get Bhushan Power, we are around 4 and our long-term objective is to bring it down below 3. So, we are working towards it. We think we have the ability to do it. I don’t have anything specific to add on it just now.
You are walking a fine line. You keep adding on to your debt if you get Bhushan Power and Steel. You have not spelt out a plan to reduce that debt by asset divestiture and you are looking at a slightly difficult world economy right now.
We spend a lot of time thinking through these things. There is a lot of discussion on these subjects. So, we don’t jump into things without thinking and building out different scenarios. We have been in this industry for a long time and we understand the cycles.
The global economy looked in a much better place 5-6 months ago. Things are now looking less certain. You are adding on debt, but you are not spelling out any plans to reduce it. How is that going to happen?
I don’t think the steel industry have seen a better time in the last 3-4 years. If you look at all the steel-consuming regions, they are growing, and China is not doing too badly. Consumption of steel in china has grown by 7-8 percent in last 5-6 months. Chinese exports have dropped. Trump has taken some actions on steel, but it has not hurt the steel industry as much as the noise which has been made. Steel prices in the U.S. for hot rolled coils are in $900-1000 range.
So, steel consumers in the U.S. are paying the price for the actions that the Trump administration has taken. If you are looking at Tata Steel Europe, we are selling to U.S. The customers have paid us a higher price than we were getting earlier. There is some inconvenience, but steel consumption globally has not struggled. The forecast we have made on behalf of World Steel Association is also that we will see the strongest year in many years.
China has taken significant action on the supply side. Chinese exports have come back to what it was in 2015. It is back to about 70 million tonnes. Steel prices are back to where it was in 2014-15. We are not as pessimistic on the steel industry as some others are. We think we are in the right place and at the right time. The Indian economy is doing well as far as steel consumption is concerned. You can never always be right, but I hope this time we are right.
Are you concerned that India has turned a net importer after three years and because of these crosswinds we might have to see more imports coming to the markets, and as a result it might hurt domestic manufacturers?
We should always be watchful. All of us have suffered in 2015. The government moved in fast and took action. Even in Europe, our concerns are not too much on our exports in U.S. which is going on. The concern is that more U.S. materials will be diverted to Europe and what do we do, and the European government has some plan on it. As far as India is concerned, yes it has turned a net importer in the last 1-2 years, but it is because India is exporting less and importing more.
There imports are 400,000-500,000 tonnes a month. There exports which was 600,000-800,000 tonnes has been dropped down to less than 400,000 tons. We are a net importer. But I look at it positively. It is happening because the demand in India is growing. Indian producers are happier to sell in the domestic markets and Indian imports have not grown to keep pace with the demand.
To that extent, the situation today is different from situation in 2015 when we saw imports doubling from 400,00 tonnes a month to 800,000 million tonnes a month. I am not saying we should not be watchful. We should be watchful and see what is happening. I will always look at how much China is exporting as it has the potential to be a spoiler in steel trade flows. Just now, China is exporting 500 million tonnes a month which is okay.
Are you interested in adding to U.S. exposure?
No. I think U.S. is a good market for us to sell through from Europe but I don’t think we are looking at any investments in the U.S.