Making the jump from metals to oil

Making the jump from metals to oil

Mumbai: Three years ago, when a close associate of billionaire metal maven Anil Agarwal advised him to acquire oil fields, he shrugged off the suggestion saying: “I understand the algorithms of metals and not oil."

On Monday, announcing his decision to pay anywhere between $8.5 billion and $9.6 billon (39,780 crore and 44,928 crore) for India’s second largest private oil exploaration company Cairn India Ltd, Agarwal told analysts and reporters: “We are in an emerging market. Everything is at an inflection point, and what we are seeing so far is just the tip of the iceberg."

Many believe that the move marks an entry into a sector that has little synergy with his multi-billion-dollar integrated mining enterprise, but Agarwal has an uncanny knack of spotting opportunities. Be it non-ferrous metal such as copper, aluminium and zinc or iron ore, he can zero in on an acquisition that his peers often give up as too expensive and make money.

He changed his view on oil as there is money to be made, especially when some of his peers in the metal businesses are fighting pitched battles with environmentalists, Maoists and tribals to start projects in Orissa and Chhattisgarh.

An unrelated acquisition is not new for the maverick metal trader who rose from selling copper cables to state electricity boards in the late 1970s riding a Lambretta scooter to build a $7 billion metal empire in London, criss-crossing the globe in his private jet, arguing with environmentalists and institutional investors, and reasoning with regulatory bodies.

Agarwal has had several run-ins with investors. When Vedanta group decided to delist its flagship Sterlite Industries (India) Ltd from the bourses by sending investors cheques for the value of the shares, many contested his move, forcing him to withdraw.

In another episode, Agarwal approached Canadian aluminium firm Alcan for a stake in its Indian unit. Rebuffed, he decided to launch a hostile bid, but the company made sure the subsidiary would go to rival Aditya Birla Group’s flagship company Hindalco Industries Ltd.

More recently, a proposal to merge Sterlite Industries with group firms invited investor ire and forced him to change course, as shares of his companies plummeted.

Sterlite Energy Ltd’s initial public offering prospectus is thick with regulatory issues of his group companies and pension funds such as the Church of England selling shares in Vedanta Resources Plc. The church sold its £3.8 million (28 crore today) stake in Vedanta in February over concerns about its human rights record.

Agarwal has never been short on confidence. Back in 1975, a 19-year-old Agarwal came to Mumbai and checked in at the Trident hotel (then known as the Oberoi Towers) as it was a great address for his business. Things weren’t too easy as he could not speak English. To bring down costs, he ate and did his laundry outside the hotel.

In the early 1980s, Agarwal persuaded an apprehensive Syndicate Bank to lend him 60 lakh to buy a jelly-filled cable-making firm owned by the King of Nepal. The shrewd trader was actually interested in the large stock of copper at the company’s Ghatkopar factory in Mumbai. Immediately after buying the company, he sold off the copper for 2 crore, though he insists he made only 20 lakh.

He paid back a surprised Syndicate Bank within two weeks. That company later became his flagship, Sterlite Industries. That payment record has been maintained— Agarwal’s companies have never defaulted on a loan.

In 2008, he pipped the world’s largest steel maker Lakshmi Mittal to purchase Sesa Goa Ltd for $981 million, which some investors dubbed as an unrelated diversification from the core non-ferrous trading business of making zinc, copper and aluminium. But in two years, he started using the reservoir of cash generated by Sesa Goa to partly fund his latest acquisition.

Sesa Goa, the cash cow, will provide $3 billion to purchase oil assets along with a $6.5 billion two-year debt being raised by Vedanta Resources from foreign banks.

Agarwal’s latest bid is part of a business plan modelled on $50.2 billion Australian firm BHP Billiton Plc to create a diversified portfolio that can provide both cash flow and flexibility to fund complex and large projects, and his long-term view to invest in cyclical businesses.

The Australian giant that trades in both coal and iron ore earned its highest operating margin from petroleum (56%), followed by non-ferrous metals (49%) and iron ore (47%) for a total operating cash flow of $8.7 billion in the first half of this year.

“We wanted to be a natural resources company in bulk commodities and energy," Agarwal told analysts. “Cairn India is a natural step for us."

Not all analysts are convinced about the synergies accruing from Cairn India, but Agarwal has his own logic: oil “in the backyard to our zinc operations will strengthen our growth pipeline".

To a pointed question on why an iron ore firm should invest in crude oil, Agarwal’s close associate Tarun Jain, Vedanta’s executive director, said the interest accruing in the bank would fetch about 4-5% while investment in Cairn could earn about 15%.

Cairn pumps 125,000 barrels of crude from the desert terrain in Rajasthan, but Agarwal is clearly not considering this as the peak production. “We have done this before," he declares. Zinc production at Hindustan Zinc Ltd (HZL), which was formerly a public sector enterprise, was raised 500% after acquisition, while Sesa Goa production doubled after Vedanta took over from Mitsui, a Japanese trading company.

The Mangala oil basin of Cairn has a capacity to pump out 400 million barrels of oil and a 25% sale of 400 million barrels will give Vedanta nearly $7 billion, said the chairman of a diversified group that owns a 30% stake in the Ravva oil field in Rajasthan where Cairn India is the exploration company.

Agarwal is not alone in the pursuit of oil in India. Mittal, who acquired a 50% stake in a small steel company Uttam Galva Steels Ltd, has revived his plan to build a nine-million-tonne oil refinery in Punjab and has tied up with Oil and Natural Gas Corp. Ltd’s subsidiary ONGC Videsh Ltd to purchase oil blocks overseas, apart from scouting for land in Karnataka to build steel plants. The global economic crisis in 2008 put the brakes on Mittal’s plans for steel and oil in India.

Reliance Industries Ltd, India’s most valuable company by market capitalization, has huge assets in the sector. The diversified Tata group, too, has exposure to the oil sector through Tata Petrodyne Ltd.

Agarwal’s purchase is fully valued, said a former senior employee of Sterlite Industries. According to him, there will be financial strain on the balance sheet for two-and-a-half to three years.

Despite what could be a bill close to $10 billion, Agarwal’s business plans are on course.

“The purchase will not have any bearing on our plans to build the alumina smelter, refinery in Orissa and expand in zinc, copper, and our decision to purchase the government’s (residual) stakes in Hindustan Zinc Ltd and Bharat Aluminium Co. Ltd (Balco)," Jain said. “We have tied up funds to meet these plans."

Agarwal is reputed to have an ability to see value in seemingly bad assets. In 2004, he paid 550 crore for Balco when there were few takers. Later, he picked up HZL for 600 crore, paying 40.50 a share when the metal’s prices were at rock bottom. Today the company is the largest zinc maker with the highest margin by virtue of having a captive power plant and mines that can feed smelters for the next three decades.

“While other Indian firms are looking overseas for oil blocks, Agarwal is focusing on India," said a banker who worked with Agarwal on several deals.