Tata Steel-Corus: A Win-Win Situation? - Views on News from Equitymaster

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Tata Steel-Corus: A Win-Win Situation?

Nov 13, 2006

The Tata Steel's bid for Corus Steel, the first multi-billion dollar bid for an overseas company, is a landmark case in Indian corporate history. The Tata Steel's interest in acquiring Corus is in line with its growth objective of entering new, higher end markets and acquiring sophisticated customer base. Enhanced scale will position the combined group as the fifth largest steel company in the world by production and will create vertically integrated global steel company with crude steel output of more than 23 MT. Cost concerns forced Corus to search for a strategic partner. Tata steel is the world's lowest cost producer of steel, while Corus's cost of production is almost twice that of Tata Steel. The deal will be finalized on the 4th of December 2006 at an extraordinary general meeting held by Corus. The company would require support of half of the shareholders present at the meeting and 75% of shares in value. If the deal goes through, it will be India's largest ever-foreign takeover, extending a wave of consolidation in the fragmented steel sector after Mittal Steel's $31 bn acquisition of rival Arcelor.

Company Overview

Tata Steel: Tata Steel is India's largest private sector steel company with revenues of US$ 5.0 billion and crude steel production of 5.3 million tonnes (MT) across India and South-East Asia in FY05-06. It is a vertically integrated manufacturer and is world's lowest cost producer and one amongst the few value creating steel companies. The company has rich iron, dolomite, chromium and manganese mining and related assets in India and even abroad. It currently produces approximately 9 MT of iron ore.

Corus Steel: Corus is an international company, providing steel and aluminium products and services to customers worldwide. The company is world's seventh largest and Europe's second largest steel producer with revenues of £9 billion (approx. US$ 11.55 bn) and crude steel production of 18.2 MT in 2005. It has approximately 50% of the UK carbon steel market and around 11% of the European (including UK) carbon steel market. The company is comprised of four divisions, Strip Products, Long Products, Distribution & Building Systems and Aluminium, and has a global network of sales offices and service centres. It has got manufacturing operations in many countries, with major plants located in the UK, The Netherlands, Germany, France, Norway and Belgium.

Merger condition at present: The acquisition will take place through a wholly owned indirect subsidiary of Tata Steel, Tata Steel UK. The estimated cost of acquisition is US$ 8.1 billion. Tata Steel will inject US$3.5 billion in Tata Steel UK for funding the acquisition while the balance will be mobilized through debt. The company will make upfront cash payment of US$ 237 million to bridge the current deficit or shortfall in Corus' pension funds. It has also agreed to increase future pension contributions to 12% from the current 10%.

Benefits…

To Tata Steel:

  • Tata Steel will leapfrog from the fifty-sixth largest steel producer in the world to the fifth position.

  • The company will have better geographical mix. Tata steel will have access to 40 countries across the globe, transforming it into a major global player from a domestic player.

  • It will also achieve access to high-developed markets and premium customer base.

  • There will be a transfer, from Europe to India, of technology, and expertise, research and development capabilities in the automotive, packaging and construction sectors, increased procurement knowledge and in effect, a better bargaining power.

To Corus, the primary benefit:

Corus does not have any significant mining interest or asset since the second half of 2002, when it sold off its minority holding in Avesta Polarit to Outokumpu. On the other hand, the link-up with a low-cost producer with access to raw materials will enable Corus to compete on a global scale.

Post acquisition: Tata Steel's interest in acquiring Corus is in line with its growth objective of entering new, higher end markets and acquiring sophisticated customer base. The logic behind the acquisition is de-integration, the powerful combination of low cost upstream production in India with the high-end downstream processing facilities in end-user markets. Corus has strong relationships with customers in continental Europe, especially in high margin segments like construction, automobile and aerospace industry, the benefits of which eventually will be passed on to Tata Steel.

The combined entity, Tata Steel-Corus will benefit from the deal but the concern remains with the cost synergies of the acquisition. The combined entity will enjoy synergies in procurement, distribution and logistics, it is not clear as to how and over what time period, the production costs are likely to come down. In medium to short term, synergies are less likely to be seen, but long-term prospects are good.

Further, Corus has high exposure to spot prices and a higher operational gearing among the larger European steel companies. In contrast, Tata Steel has about 70% of its supplies routed through long-term contracts. The combine is, thus, likely to reduce the element of volatility associated with pricing, one of the key elements in determining profitability of a commodity company.

Like with any other acquisition, this too will have its share of soft issues like the speed at which integration takes place and how fast the synergies could be exploited, differences in working culture of the two companies and this too is likely to test the mettle of Tata Steel. On the financial front, if the steel prices soften considerably from hereon, servicing the debt could put a strain on the cash flows of the company. Hence caution needs to be exercised to that extent. As mentioned earlier, long-term prospects of the alliance does look bright.

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