Structuring and Pricing a deal Financing Structure Financing India’s largest leveraged buyout comprised of a $3. 88 billion equity contribution from Tata Steel, a fully underwritten non-recourse debt package of $5. 63 billion, and a revolving credit facility of $669 million. As per the acquisition plan a special purpose vehicle, a wholly owned subsidiary, called Tata Steel UK would be set up by Tata Steel. The acquisition was proposed to be effected under section 425 of the English Companies Act 1985 and upon approval from the Corus shareholders.
Tata Steel UK would offer a price of 455 pence per Corus share valuing Corus at ? 4. 3b ($8. 04b). This price represented a multiple of 7. 9 times the EBITDA of Corus from continuing operations for the twelve months to July 1, 2006. The acquisition was to be structured as a 100 percent leveraged buy out funded through cash resources and loans raised by Tata Steel and the SPV. Under the plan Tata Steel UK would arrange a loan of ? 1. 6 b ($3056m), a revolving credit facility and a bridge loan and the rest would come from Tata Steel (to the SPV).
Tata Steel appointed Credit Suisse, ABN Amro and Deutsche Bank to arrange financing. Of the ? 3. 3 billion of financing being raised at the SPV level, Credit Suisse would provide 45% and ABN AMRO and Deutsche 27. 5% each. The $1. 8 billion bridge debt being raised at the Tata Steel level in India would be shared between Standard Chartered and ABN AMRO. The financing structure and the break up of sources are shown in Exhibits 13 and 14. Operational Structure One of the biggest concerns Tata executives had was whether the inevitable cultural conflicts between the organizations would pose significant operating problems.
Integrating a large company that operated on a different continent with diverse cultures and operating environments was going to be no small task. Exacerbating this problem was the fact that Corus itself was formed by the merger of an English and a Dutch company that had different cultures and profitability. In line with the Tata Group’s approach to acquisitions, Tata Steel announced its intention to continue with the senior management of Corus. Appointments to the Tata Steel and Corus were to provide common platform for strategy and integration.
According to the plan Ratan Tata would be the chairman of both Tata Steel and Corus and Jim Leng would serve as deputy chairman of Tata Steel and Corus. Three board members (including the CEOs) of each company would serve on the other company’s board. A strategic and integration committee comprising of Ratan Tata, the CEOs and senior management professionals of both companies was formed to develop and execute the integration plan and further growth plans. Appropriate cross functional teams were to be formed to execute the integration plan.
Strategy Muthuraman, the Managing Director of Tata Steel had a number of things to consider in negotiating a deal for Corus. First of all, Tata Steel could not make an all cash offer and assume the assets and liabilities of Corus on its balance sheet because of the sheer size. Second, both companies had to convince their shareholders about the strategic and financial benefits to the companies. Shareholders would be concerned about the size of the premium and the potential dilution in earnings per share. Muthuraman explained in a conference:
While we have been talking about strategy in this world of consolidation and growing in size, both in geography and in size, Tata Steel has been planning its long-term strategy. Tata Steel’s strategy, in terms of what it wanted to do over a period of time of 10 years, between 2002-03 and 2015, was to grow from four million tonnes per annum, which we were at that time, to about 30 million tonnes plus, beyond the shores of India, multinational, and continuing to be in a low-cost position and continuing to be EVA positive.
That strategy had six elements. One of them was that we would build a strong base in India, which is why we’re expanding Jamshedpur from five to 10 million, and we’re building three greenfield projects. The second part of the strategy was that we’d adopt a de-integrated strategy where we believed that the world steel industry, over the last 150 years or so, had adopted a certain model of making from iron to finished steel in one location, irrespective of where the raw materials were.
We always believed that this model will change, because steel has to compete with other materials and, for the sustainable competitiveness of steel, it is necessary that this business model will undergo a change. We wanted to be at the forefront of that change in business model, so we said we would look for private steelmaking in countries which are rich in iron ore and coal or gas. So we thought of plants in India, we thought of plants in Bangladesh, we thought of plants in Iran.
The third part of the strategy was raw material security. It’s important that we have raw material security to be competitive and sustainable in this world. We have raw material security on a 100% basis for our existing operations in Jamshedpur. We have a large extent of self-sufficiency for coal. Each of our three greenfield projects in India will carry with it raw material iron ore security. We have some strategic types and some strategic positions in terms of coal and limestone beyond the shores of India.
We said we should continue to look for raw material security, both in India and overseas. The next part of our strategy was getting more out of steel, which is by branding, by going downstream, by positioning the products, getting into construction solutions and so on. It is with that aim we formed the joint venture with BlueScope. It is with that strategy that we started having a joint venture with Ryerson of the US, for going downstream into processed materials. The next part of the strategy was control over logistics.
No large company– no large steel company– can be sustainably competitive over a period of time without some control on the efficiency and costs of logistics, so we decided to build a port in Orissa to connect Indian operations with our overseas operations. We decided to start a shipping company with NYK of Japan, and these are all in progress. Our acquisition of Corus and our partner in Corus to form a joint entity is part of this strategy, and it is part of this strategy that we have been talking about for the last few years.
Just like Mr Leng mentioned, Corus had a strategy, and the partnership with Tata Steel was part of that strategy. We have looked at it exactly in the same manner, and we believe that this entity, which will become, in terms of scale, number five in the world, has the potential to consolidate the steel industry even further. Indeed there was very little shared territory in the markets the companies served. Tata Steel has a strong position in India, Singapore, Thailand and other parts of Asia whereas Corus has a strong presence in Europe. Exhibit 15 presents a summary of production and distribution facilities of the combined entity.
Synergy The merger of Tata Steel with Corus was expected to lead to a saving of $130 million savings in 2007 till March 2008 and $400 million to the company every year after three years. The Corus group has developed a breakthrough technology to reduce cost of steel production and Tata Steel was planning to adopt the technology in the near future. Demand Analysis Domestic Market To establish a base case analysts and investment bankers made use of base case forecasts of production and demand for steel in India and the rest of the world as well as the outlook for steel prices.
According to government estimates, domestic consumption of steel in India was expected to go up to 60 mt by 2010 from the prevailing 35 mt, and to 100 mt by 2020. The planned capacity expansions would lead to a capacity of 70 mt by 2020. Assuming a CAGR growth of 6 per cent in steel demand, the domestic demand should be around 90 million tonnes by 2020. Also most steel companies in India have strong balance-sheets, which will help them carry on with their expansion plans. For example, companies like Steel Authority of India Ltd are almost debt free.
India has a per capita consumption of steel of around 30 kgs against 180 kgs in China and an average of over 400 kgs in the developed countries. Analysts point out that India’s steel consumption has stagnated Post Acquisition Tata Tata Steel has formed a seven-member integration committee to spearhead its union with Corus group. While Ratan Tata, chairman of the Tata group, heads the committee, three of the members are from Tata Steel and the other three are from Corus group.
Members of the integration committee from Tata Steel include managing director B Muthuraman, deputy managing director (steel) T Mukherjee, and chief financial officer Kaushik Chatterjee. The Corus group is represented in the committee by CEO Phillipe Varin, executive director (finance) David Lloyd, and division director (strip products) Rauke Henstra. The acquisition by Tata amounted to a total of 608 pence per ordinary share or? 6. 2 billion (US $12 billion) which was paid in cash. First of all, the general assumption is that the acquisition was not cheap for Tata.
The price that they paid represents a very high 49% premium over the closing mid market share price of Corus on 4 October, 2006 and a premium of over 68% over the average closing market share price over the twelve month period. Moreover, since the deal was paid for in cash automatically makes it more expensive, implying a cash outflow from Tata Steel in the amount of ? 1. 84 billion. Tata has reportedly financed only $4 billion of the Corus purchase from internal company resources, meaning that more than two-thirds of the deal has had to be financed through loans from major banks.
The day after the acquisition was officially announced, Tata Steel’s share fell by 10. 7 percent on the Bombay stock market. Despite its four times smaller size and smaller capacity, Tata Steel’s operating profit for 2006, earning $840 million on sales of 5. 3 million tones, were very close in amount to those generated by Corus ($860 million in profits on sales of 18. 6 million tons). Tata’s new debt amounting to $8 billion due to the acquisition, financed with Corus’ cash flows, is expected to generate up to $640 million in annual interest charges (8% annual interest cost).
This amount combined with Corus’ existing interest debt charges of $400 million on an annual basis implies that the combined entity’s interest obligation will amount to approximately $725 million after the acquisition. The debate whether Tata Steel has overpaid for acquiring Corus is most likely to be certain, since just based on the numbers alone it turns out that at the end of the bidding conflict with CSN Tata ended up paying approximately 68% above the average price of Corus’shares.
Another pressing issue resulting for this deal that has created a dilemma between experts and analysts opinions is whether this acquisition for the right move for Tata Steel in the first place. The fact that Tata has managed to acquire a British steel maker that has been a symbol of Britain’s industrial power and at the same time its dominion over India has been perceived as quite ironic. Only time will show whether Tata will be able to truly benefit from the many expected synergies for the deal and not make the typical mistakes made in many large M&A deal during this beginning period. I believe this will be the first step in showing that Indian industry can in fact step outside the shoresof India in an international marketplace and acquit itself as a global player. ” Ratan Tata Case Study Analysis Tata-Corus Case Study analysis TATA-CORUS:- Q. 1. What are the benefits of the TATA-CORUS merger deal to the stakeholders of TATA Steel and the stakeholders of CORUS? Evaluate the post-merger security with the help of CAPM Model. A. 1. On January 31st, 2007 India’s Tata Steel acquired Corus, the erstwhile British Steel Major at a price of 608 pence per Corus share totaling $12. billion/ Rs 54,000 crore/ ? 6. 1 bn, which was five pence per share higher than the offer of Brazil’s CSN (Companhia Siderugica Nacional). The deal is the largest Indian takeover of a foreign company, and creates the world’s fifth-biggest steel company from the present 56th rank. Benefits of TATA-CORUS merger deal to the stakeholders of TATA Steel Short-Term Implications Investors with a one-to-two year perspective may find the Tata Steel stock unattractive at current price levels.
While the potential downside to the stock may be limited, it may consolidate in a narrow range, as there appears to be no short-term triggers to drive up the stock. The formalities for completing the acquisition may take three to four months, before the integration committees get down to work on the deal. In our view, three elements are stacked against this deal in the short run: Equity dilution: The financing of the acquisition is unlikely to pose a challenge for the Tata group, but the financial risks associated with high-cost debt may be quite high.
Though the financing pattern is yet to be spelt out fully, initial indications are that the $4. 1 billion of the total consideration will flow from Tata Steel/Tata Sons by way of debt and equity contribution by these two and the balance $8 billion, will be raised by a special investment vehicle created in the UK for this purpose. Preliminary indications from the senior management of Tata Steel suggest that the debt-equity ratio will be maintained in the same proportion of 78:22, in which the first offer was made last October.
