Mumbai: Armed with Ispat Industries Ltd shareholders’ approval to convert part of a Rs7,000 crore loan into equity in the event of a payment default, 14 creditors led by IFCI Ltd, India’s oldest institutional lender, have tightened their grip on the steel maker.
At the annual general meeting in September, Ispat shareholders gave their consent to the lenders acquiring a 19.53% stake by subscribing to preferential shares worth Rs665 crore at Rs19.38 per share in case of a default. If the option is exercised, creditors will raise their stake to 30.39% from 10.86%.
Ispat promoters—chairman Pramod Mittal and vice-chairman Vinod Mittal—have already pledged a 39.1% stake, or nearly 95% of their 41.14% stake, in the company to a consortium of banks and financial institutions that have lent Rs7,000 crore to the firm to build a 4.6 million tonne (mt) steel plant in Dolvi, Maharashtra.
High stake: Ispat Industries vice-chairman Vinod Mittal. Daniel Acker / Bloomberg
Financial institutions have the option to convert some of the loans into equity shares, Ispat executive director, finance, Anil Sureka confirmed to Mint in an interview on 26 October. The Mittals, brothers of L.N. Mittal, chairman of the world’s largest steel maker ArcelorMittal, risk losing control of the Rs9,063.41 crore firm if they fail to repay the loan on time and trigger the conversion clause.
Lenders approved a second corporate debt restructuring (CDR) package for Ispat on 29 May that allowed the firm to repay their debt between 2010 and 2018. The recast came with riders requiring the promoters to pledge their shares and shareholders’ consent to convert Rs665 crore worth of loans into equity in case of a default by the company.
Companies come under CDR when they face difficulties in repaying loans, according to B. Ravindranath, executive director at IDBI Bank Ltd, one of the lenders to Ispat.
In a CDR, which requires lenders to delay the repayment schedule and convert some interest owed into principal, some promoters are required to pledge their shares depending on the financial package offered to the firm, he added.
Ravindranath declined to comment on the Ispat debt recast. The bank doesn’t comment on individual borrowers, he said.
Lenders approved a similar CDR package for Ispat Industries, JSW Steel Ltd, Essar Steel Ltd and Lloyds Steel Industries Ltd in 2002 when the firms were stricken by low demand for the alloy and their cash flows weren’t enough to repay debt. Essar, JSW and Lloyds repaid their loans and expanded their production capacities, but Ispat failed to do so.
Ispat has been especially hit hard by high production costs because, unlike rivals Tata Steel Ltd, Essar Steel and JSW, it lacks captive mines producing iron ore and coal that add up to 40% of the cost of making steel. Ispat has had to buy these raw materials from the global market.
A steep rise in the price of raw materials in the absence of captive mines and high logistics costs hurt the company’s margins, Ispat informed its shareholders in September.
The principal advantages Indian steel makers have are easy access to iron ore and coal mines and low wages, according to Peter Fish, founder of MEPS International Ltd, a British steel consultant.
“This gives them an opportunity to be profitable in global markets,” Fish said in a telephone interview from London on 28 October.
Ispat Industries doesn’t have that advantage. The company spent Rs4,650 crore, or more than half its revenue, to buy raw materials, and paid Rs1,061 crore as interest to lenders in the fiscal year ended March when its sales earned Rs9,063.44 crore.
Tata Steel, which sources iron ore from its own captive mines, spent only Rs5,709.91 crore, or about one-fifth of its sales of Rs24,024.45 crore, on raw materials.
Even without pledging a controlling stake to creditors, corporate defaulters face the risk of being taken over, according to a Mumbai-based lawyer. Under new Reserve Bank of India draft guidelines, lenders can take over the business and management of a corporate borrower even after a single payment default, according to Suhas Tuljapurkar, a partner at Legasis, a Mumbai-based law firm that advises companies on corporate and financial issues.
The draft guidelines have been released for feedback and are expected to become policy. Lenders are preparing to implement these guidelines, Tuljapurkar added.
Until now, it has been rare for lenders to take control of a company in the event of a loan default. Creditors have preferred instead for such cases to be settled through the Board for Industrial and Financial Reconstruction (BIFR), which deals with companies that are in poor financial health, or a debt recovery tribunal.
Ispat promoters aren’t taking any chances, raising funds and putting in place a plan to cut costs and turn around the company’s fortunes.
“We have four projects that will make us comparable to our peers, double our margins to 40% by 2011 and save Rs1,250 crore a year,” said Sureka, a chartered accountant who has been with the company for more than a decade.
The Mumbai-based steel company is building a gas-fired 110MW power plant, a coke oven plant with partner Stemcor Holdings Ltd, the world’s largest steel trading company, a pellet plant with a partner that will be finalized this year and developing an iron ore mine that will supply half of its needs of the material.
“We expects these projects to go on stream by financial year 2010-11,” Sureka said.
The company has tied up Rs470 crore to build the power plant. Some 70% of the gas required to fuel the plant will be sourced from the coke oven plant and blast furnace that emit natural gas as a waste byproduct, Sureka said.
Another source of ready money will be from the sale of seven duplex apartments that Ispat Industries built in a joint venture with a Mumbai-based developer. The company expects to raise between Rs300 crore and Rs350 crore from the sale.
“We do not need any fresh funds as we have provided a portion of land at the 1,200 acre steel complex at Dolvi in Maharashtra as equity to both the coke oven and pellet plants,” said Sureka, who is a board member of Ispat.
The new projects will save Rs300 crore each a year to source iron ore and power, Rs500 crore on coke and Rs150 crore from its captive pellet plant. The company, which sells 90% of its production in the domestic market, can buy coke at $120 (Rs5,640) a tonne, compared with the $220 it pays outside suppliers.
Power will cost Rs1.50 per kWh, compared with the Rs5.50 per kWh it pays the Maharashtra State Electricity Board. The captive iron ore plant will insulate Ispat from price volatility in the global market. Ispat now buys iron ore from NMDC Ltd, India’s largest iron ore producer, which links its price to global prices.
Indian companies are expanding steel capacity to feed growing domestic demand, fuelled by an expected infrastructure boom. The government estimates that spending on infrastructure, including bridges, ports and power plants, will require $550 billion of investment in the next five years in a country where steel demand is also growing on the back of home and auto sales.
ArcelorMittal, the world’s largest steel maker, has announced plans to buy a 35% stake in Uttam Galva Steels Ltd, which plans to build a 1 mt plant in phases in Orissa. JSW and Essar Steel both plan to raise steel capacity and have set up franchise-based steel retail chains across the country to sell value-added products directly to end-users.
If the commodity cycle is kind, Ispat Industries’ turnaround plan may succeed, helping it pay its debt on time and averting the risk of a takeover by creditors. Recession in the US, Europe and Japan has led to a plunge in steel demand, but according to the World Steel Association, the global steel market is expected to grow 9.2% in 2010 as demand rebounds.
According to MEPS International’s Fish, it will be 2012 before the global market bounces back to 2007 levels.
Ispat’s Sureka says the company is confident it will meet its debt repayment obligations.
“Lenders have only an option to convert loans into equity shares, but we will repay the loans before the conversion clause triggers as our margins improve,” he said.