Ispat Industries Ltd first denied rumours that its lenders were planning to convert their loans to equity and then sell it. It subsequently announced that the UK’s Stemcor Holdings Ltd is buying a 10% stake and will become a strategic partner.

Ispat makes flat steel products with a capacity to make 3.3 million tonnes of hot-rolled steel with additional capacities for value-added products.

Also See Debt Burden (Graphic)

A key problem for the company is its large debt burden. It had debt of 7,186 crore as of June 2010 with a debt-equity ratio of 3.2 times. In fiscal 2010 (15 months ended June), its interest outflow was 1,285 crore, while its profit before interest and depreciation was just 1,721 crore. Though its operating profits are adequate to service debt, rising raw material and steel prices come with their own headaches, for companies with stretched balance sheets. They signal higher working capital requirements, both for inventories and debtors.

Ispat’s lenders had restructured its debt in 2009. Around $130 million, or around 600 crore, has to be repaid in 36 monthly instalments, from April 2010.

Meanwhile, Ispat is also in the middle of integrating its steel operations in an attempt to improve profitability and lower its working capital needs, which will leave it with more cash to service its loans. These include captive iron ore mining operations, a captive power plant, a coke oven plant, and iron ore pellet facilities for its steel-making operations. These projects will need funds too.

Stemcor was earlier partnering Ispat’s coke oven project of Ispat. The steel trading company takes equity stakes in projects in return for the privilege to supply raw materials to the project or market its finished products. The 10% stake sale could yield about 270 crore, based on its market price before the deal was announced. That is sizeable considering Ispat’s cash balances of 204 crore as of 30 June.

Stemcor will supply raw materials to Ispat till its projects begin production, expected to take two years. Broadly, according to a company statement, Ispat and Stemcor will get access to each other’s distribution networks to market their respective product range. More specifically, though, Stemcor gets equity stakes in the new projects, with Ispat becoming a captive and committed customer. Stemcor could also facilitate Ispat’s exports. In return, Ispat will share profits from its new projects with Stemcor.

If Ispat’s performance and cash flows improve significantly as a result of this alliance, it can service its debt and keep its lenders at bay. That outcome is, perhaps, attractive enough for Ispat to cede some of its profits to Stemcor.

Graphic by Yogesh Kumar/Mint

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