Tata – Corus case

8/8/2019 Tata – Corus case

http://slidepdf.com/reader/full/tata-corus-case 1/42

Tata ² Corus case

Analysis



Introduction ( Position as on

25.4.2007) Tata Steel¶s recent $13.2 billion acquisition of the Anglo-Dutch conglomerate Corus Steel has prompted India¶scorporate and political elite to indulge in much euphoricchest-thumping about ³rising India.´

The boast of Tata Chairman Ratan Tata that thetakeover ³is the first step in showing that Indian industrycan step outside its shores into an international marketplace as a global player,´ was echoed by India¶sCommerce and Industry minister.

Said Kamal Nath, ³It is a two-way street now. Not onlyIndia is seeking foreign investment, but Indiancompanies are emerging investors in other countries.´



But«

Tata¶s acquisition of Corus is largely beingf inanced through debt and many investmentanalysts argue that Tata paid substantially

more than the company is worth so as tooutbid Brazil¶s Companhia Siderurgica Nacional(CSN).

The 608 British pence per share that Tata paidto acquire Corus is 33.6 percent higher than itsfirst offer, made in October 2005, of 455 penceper share.



Tohelp protectyour privacy, PowerPointprevented thisexternalpicturefrom being automatically downloaded.To download and display thispicture,click Optionsin the MessageBar, and then click Enableexternalcontent.

Internal resources about only $4

billion Tata has reportedly financed only $4

billion of the Corus purchase f rom

internal company resources, meaning that more than two-thirds of the deal hashad to be financed through loans frommajor banks, including Lloyds Bank,

Deutsche Bank and ABN Amro.



Consequently,

the Tata business empire, which iscomprised of 96 companies with a total

revenue of $21.9 billion in fiscal year 2005-6, will be transformed from a largelyfamily-owned enterprise into one that willbe under the constant and direct

scrutiny of the f oreign-controlled banksthat f inanced the Corus takeover.



Formidable challenge reflected in

stock market response The formidable challenge confronted by Tata in

ultimately making this takeover profitable wasreflected in the response of the stock market.

The day after the acquisition was announced,Tata Steel¶s shares fell by 10.7 percent on theBombay stock market.

Ratan Tata has rejected suggestions that hiscompany paid too much for Corus, but hasrefused to rule out job cuts.



Leverage, Workers employed

The heavily-leveraged takeover of Corus,which currently employs 47,000 workers inplants in Britain, the Netherlands,Germany, France, Norway and Belgium,will catapult Tata Steel from its currentposition as the world¶s 56th largest steel-

maker to the world¶s f i f th largest.



Production capacity

Before the merger, Tata Steel had an annualproduction capacity of 5.3 million tonnes. Now itsproductive capacity is f ive-times larger, 25

million tonnes Despite its much smaller capacity, Tata Steel

was able to almost equal Corus¶ operating prof it last year, earning $840 million on sales

of

5.3 million tonnes, while Corus generated $860 million in prof its on sales of 18.6 milliontonnes.

Why?



Why?

Tata¶s much higher rate of return is by nomeans the result of higher productivityfrom the use of more advancedtechnology.

Rather, it is the result of much lower inputcosts due to the low wages of Tata¶s

workforce and its access to cheap Indianiron ore.



Acquisition of Corus Group plc, UK

Tata Steel¶s investment in Corus Group plc is consistentwith the Company¶s stated objective of growth andglobalisation.In keeping with its vision of becoming atruly global player and creating a 50 million tonne steel

capacity by 2015, through both organic and inorganic growth, the Company had been examining variousopportunities.

The process started with the acquisition of NatSteel AsiaPte. Ltd. (Singapore) in 2005, and Tata Steel (Thailand)

Public Co. Ltd. (erstwhile Millennium Steel) in 2006, theplanned brownfield expansion in Jamshedpur and thelong-term greenfield projects in Orissa, Chhattisgarh andJharkhand.



Corus Group plc, UK

In October 2006, the Company submitted a bid to acquire the UKbased steel making company viz. Corus Group plc (Corus).

The acquisition was completed on 2nd April, 2007 at a price of608pence per ordinary share in cash for a net consideration of

USD 12.9 billion.

Corus is a leading steel company with an annual crude steelproduction of 18.3 million tonnes and revenues of USD 19.2 billionin 2006.

Corus¶ operations are organised into three principal divisions; StripProducts, Long Products and Distribution and Building Systems,with manufacturing facilities located in UK and Netherlands.

It holds a strong position in the automotive, construction andpackaging sectors in Europe.



Corus Group plc, UK

With the acquisition, the Company has emerged as the sixth largeststeel manufacturer in the world.

Tata Steel is the lowest cost steel producer in the world,catering mainly to the domestic market. The Company has acompetitive advantage of captive iron ore mines and collieries.

On the other hand, Corus has state-of-the-art plants located in theUK and Netherlands producing mainly high end products, with astrong R & D capabilities.

The combination of these two entities will give the Company accessto highly developed and competitive markets of Europe, a strongproduct portfolio and state-of -the art technology in manufacturing.

The Company also sees a strong cultural fit with Corus, which isone of the key elements for successful integration.



Corus Group plc, UK

The Company believes that there are severalareas where synergies are possible and isconfi- dent that these benefits will start accruing

from the current year itsel f . S ince the acquisition is effective from 2nd April

2007, the financial results of Corus will get refl

ected in the consolidated financial statements of

the Company f rom the current year.



Tata Steel has two main aims in

its leveraged buyout of Corus One is to gain access to European and byextension North American steel markets,markets that it could not otherwise hope to

penetrate because of it low-end steel products.

The other is to acquire the advanced

technology that Corus uses in producinghighly-processed steel used by automobileand other industries.



Tata Steel¶s caseTata Steel¶s case

Tata Steel's case f or theacquisition is that its low-

cost plants in India would use Corus's f inishing plants

to supply and expand thelatter's high-end customer f ranchises in Europe.



F inance

In the last few years, the Company hasbeen steadily consolidating its financialposition.

No major borrowings were undertaken andthe entire funds for capital expenditurewere met from internal generation.

Surplus cash reserves were temporarilyinvested in money market mutual funds tofacilitate liquidity.



Leveraging the Balance Sheet

The Company was, therefore, in a strong position toleverage its balance sheet to meet the substantial fundsrequired for the acquisition of Corus.

The Company proposes to infuse USD 4.1 billion as

equity to part finance the transaction. The equity will comprise of USD 700 million frominternal generation, USD 500 million of externalcommercial borrowings, USD 640 million from thepreferential issues of equity shares to Tata Sons Ltd.in 2006- 07 and 2007-08, USD 862 million from a

rights issue of equity shares to the shareholders,USD 1000 million from a rights issue of convertiblepreference shares and about USD 500 million from aforeign issue of equity-related instrument.



Tata Steel UK Limited, a wholly-owned indirectinvestment subsidiary of the Company, hascontracted a USD 6.14 billion long-term debt

from a consortium of banks, with a non-recourseprovision as far as Tata Steel is concerned.

The balance amount of USD 2.66 billion isproposed to be raised through a long tenor

quasi-equity or debt capital market instrument.



Considering the large amount of funds required,adequate care has been taken to ensure thatthe additional borrowings are efficiently priced

and serviced without overly stretching theCompany¶s balance sheet.

The financing structure also allows deleveragingof Corus without any pre-payment costs and

provide flexibility to take advantage of better terms in the future



Corus Group plc, UK



Further,

Tata also hopes to cut Corus¶ costs byexporting relatively inexpensive iron-oreand low-grade steel from India for use by

Corus in Europe. But for Tata Steel to adequately feed its

much large European subsidiary, it isestimated that it will have to triple itscurrent production capacity of 5 milliontonnes.



Cultural aspect

Getting top and middle management teams towork cohesively is often a problem with manyM&A deals.

Tata Steel plans to induct senior executives fromthe two companies to sit on each other's boardsas also a core steel team, but otherwise leavethe existing Corus management intact.

Fears of job losses among Corus's 43,000

employees have been put off for later, but TataSteel is not making any assurances, besidescontributing to its under-funded pensionscheme.



Integration issues

"This merger will require a high level of integration," says Puranam.

"Corus will have to shut down some of its

plants in the U.K., and the two parties will haveto work together for technology transfer andcoordinating supply chains.

What works in favor of Tata-Corus is the

friendly nature of the deal, and the strongAnglo-Indian link. I believe many Tata Steelmanagers were trained in the U.K."



Critical factors

Global demand for steel, could yet cause Tata and its corporate andgovernment cheerleaders to rue the deal.

Moreover to make the leap to ³global player´ Tata Steel has had toplace itself under the firm-scrutiny of the money-sharks of worldfinance capital .

Tata¶s dependence on world money markets may well increase inthe coming period as the cost of borrowing money in India becomesmore costly .

The tightening money market in India could also impact on thedomestic growth rate, further undermining Tata Steel¶s financialposition.

Believing the Corus takeover to be a gamble, the credit-ratingagency Standard & Poor¶s has issued a cautionary note stating thatit involves financial risks for Tata Steel and that the company will,therefore, now be on ³credit watch.´



According to S&P analyst

Anshukant Taneja, ³The size of the acquisition and the potential cash out f low in Tata Steel¶s off er f or Coruscould have an adverse impact on its f inancial risk

prof ile .

In 2005 there were 100 overseas acquisition worth$2.37 billion and in 2006, 166 acquisitions worth$23.1 billion.

This year just two acquisitions²Tata¶s $13 billiontakeover of Corus and the $6 billion acquisition of Canadian aluminium giant Novelis Inc by the BirlaGroup¶s Hindalco Industries Ltd.²have been valued at almost $20 billion.



On the negative side..

As for Tata Steel, it is now firmlyencumbered with a large long-term andpotentially debilitating debt.

There is no doubt that the workers of Tatas²in India and Europe²will be madeto pay the price for the company¶s

overstretched ambitions in the f orm of layoff s and ³plant consolidations.´



Other challenges

While Tata Steel now has tremendous growthopportunities, it also faces significant challenges.

Maintaining its low-cost advantages by securing captiveraw materials as it expands capacity is one; another is

tempering its bet on the current high steel prices with the prospect that they could sof ten over time.

Imminent consolidation in China, the rise of new rivalsas a result of consolidation, and cartelization among thetop producers are transforming the global steelbusiness. What will all these factors mean for the TataSteel-Corus merger? India Knowledge@Wharton spokewith Wharton professors and steel industry experts for glimpses of what lies ahead.



Driven by Threat

The current round of global steel consolidation has an unfamiliar ring, notesPaul Tiffany, adjunct professor of management at Wharton and senior lecturer at the University of California's Haas School of Business inBerkeley.

"It's interesting that the consolidation in the steel industry is driven not bymarket opportunity but by the threat of the industry going out of business,"

says Tiffany, who consults with U.S. Steel and authored the 1998 book, T heDecline of American S teel: How Management, Labor and Government Went Wrong .

Tiffany says that at first sight, steel is "not a naturally global industry,"without the economic argument of brands that can sell across countries."Steel is an undifferentiated commodity in many respects," he says. "Steelis what economists call a producer good.

The major users for steel are the automobile industry and the constructionindustry, and brand doesn't matter much." Tiffany says the industry'sunderlying dynamics fly in the face of notions of globalization.

"One problem with steel is that its bulk and weight tend to minimize how far you can export it," he says. Tata Steel has been actively promoting ahandful of steel brands, which account for about a sixth of its revenues.





According to Peter Fish, ManagingDirector at MEPS (International)

He predicts that a decline in steel prices couldbenefit Tata-Corus. "Prices in the U.S. arealready on the way down.

In Europe, they will turn down by the end of theyear. They could fall by more than 10% duringthe year," he says. "When prices drop, obviouslythe companies that will survive the best will bethose that are most competitive. If you havecheap raw materials available, you have abetter opportunity to survive the difficulttimes."



Consolidation of steel industry in China

Another factor that will have implications for theglobal steel industry -- including Tata and Corus

± is the inevitable consolidation within China,

according to Tiffany, who notes that China hassome 800 steel mills, of which 133 areintegrated producers. "There is bound to beconsolidation in China," he says.

"The reason there are so many integrated firmsin China is because the highway system is notyet large enough to allow a handful of firmsto dominate. Every area now needs a steel mill.



Going forward, Chaudhuri is not too worried about thedeclining steel demand from the developed world."Demand from developing countries, such as India, has just begun so I see other opportunities and other

emerging markets," he says. "The supply side is more of a concern, because of China.

What is the quality of steel the Chinese are putting out --is it the same type of steel, the same quality [as that of

Tata-Corus]?

I f it is lower-grade steel, the Tata bet would be theright one. They are trying to move up the valuechain."



Cartelization in steel industry

Steel is an industry that historically has had lots of collusion. The reason is the very high cost to build asteel mill. And steel is not fungible. Where you build it iswhere you are.

If the market goes down, you have all these fixed costs,so this industry worldwide -- starting in Germany in the1880s -- has long promoted the need for a cartelizedindustry to protect against the downside. So someresidue of that is still there."

But Tiffany points out that the newly emerging global

players from India, Russia and China have never beenpart of that inner circle. "The global club has beenWestern European and American," he says.

"Look at the opposition that the Mittal-Arcelor [merger]faced. The lack of opposition to the Tata-Corus deal is

because Tata Steel is paying a good price."



Is the payment too much?

Chaudhuri says that while Tata-Corus's advantage lies inlow-cost raw materials, "the benefits will come mainlyfrom being a one-stop shop for all kinds of steel, whichcould help the company get orders from customersacross wider geographies." It would be a case of overstating strengths, if the deal were justified simply onthe basis of the sourcing of ore and cost synergies."It would not make so much sense because then $8billion is a lot of money to pay, especially when it is allcash," he says.

What he sees as a signi f icant driver is that "they can improve economies of scale and scope and havegreater distribution f or Tata and Corus products ingeographies where they are not present.³ f or Tataand Corus products in geographies where they arenot present."



Raising Equity

Mumbai April 17 : In what is dubbed asthe biggest fund-raising exercise by anIndian company, Tata Steel is gearing up

to raise $2.3 billion (about Rs 10,000crore) in the coming few months to partfinance its $12.9-billion acquisition of Anglo-Dutch steel maker Corus.

The money is being raised through tworights issues and an overseas issue.



Equity and Debt

The $2.3 billion that Tata Steel will be raising ispart of the company's committed equitycontribution of $4.1 billion (Rs 17,750 crore) for

the Corus acquisition. The remaining $8.8 billion will be financedthrough a non-recourse debt arranged by aconsortium of banks for $6.14 billion at TataSteel UK (the SPV for the buy-out) and thebalance $2.66 billion raised in the form of bridgefinance by its subsidiary Tata Steel AsiaSingapore



Continued..

Tata Steel maintains that its contribution of $4.1 billion for the acquisition will not affectits own greenfield and brownfield projectsin India, as its own cash flows are "robustenough".

The company also f eels that its financials

are not getting stressed in the wake of theongoing fund raising exercise.



Continued..

Out of its share of $4.1 billion, Tata Steelhas already invested about $1.8 billion (Rs7,900 crore). This was made through

internal generation of $700 million (Rs3,000 crore), external commercialborrowings of $500 million (Rs 2,170crore) and funds from the preferential

issue of equity shares to Tata Sons at anaverage price of Rs 499.7 per share thatfetched $640 million (Rs 2,770 crore).



Steely drive

Equity-debt combination at 40:60 ratio

Reconstituted Corus board to have

representatives of T

ataS

teel Synergies worked out between the two

companies in areas such as

manufacturing, best practices, marketing

and R&D



Continued«

Mr Tata highlighted the need for rawmaterials security and said the TataGroup was looking at "how we can alignourselves, buy into and partner withsources of iron ore, coal, etc."

The group is scanning various possibilities

in this regard, including the acquisition of acoal mine in Australia.



State Bank Of India(11th sep,2007)

The State Bank of India (SBI), the country'slargest lender, has come to Tata Steel's aid for completing the fund-raising for its $12.9 billion

acquisition of Anglo-Dutch steelmaker Corus. The bank has agreed to provide up to $1 billionto Tata Steel's special purpose vehicle, TataSteel UK, to refinance $7.2 billion of bridge loanstaken for the biggest buyout by an Indiancompany.

A Tata Steel spokesperson confirmed that thecompany was availing of the loan from the SBI.



Continued«

Tata Steel had to turn to the SBI after some foreign banks backed out, thanks tothe sub-prime crisis in the US and thecredit squeeze that followed.

This is also the first acquisition financing of this size provided by the SBI, which till

now was involved in deals of less than$100 million (Rs 410 crore).

Documents

Tata – Corus case