The Hindu Business Line : Has Arcelor been softened?

Mittal's takeover bid has pushed Arcelor into the defensive. Arcelor has decided to raise the dividend, and make a share buyback, together costing € 5.4 billion. Arcelor has blinked; Mittal has won, and can go about consolidating the world's steel-makers into its operations, says G. RAMACHANDRAN.

Sun Tzu was a successful general who served the state of Ch'i in China around 400 B.C. His successes in winning battles for the warlord of Ch'i were built on solid principles. These principles of war are listed under six major heads.

These principles may also be applied to wars among businesses in the modern world.

The fifth head of the treatise on war deals with how to set up the battle. First, bring the opponent to battle.

Second, do not be brought to battle by the opponent. Third, bring the opponent to battle at a time of your choosing.

Fourth, bring the opponent to battle at a place of your choosing. Fifth, make the opponent conform to your rules and your game plan.

Mittal Steel (Mittal henceforth) has done all of these. It has brought Arcelor to battle at a time of its choosing. It made the tender offer for shares of Arcelor in January 2006 before Arcelor could present its spectacular financial results for 2005. It drew Arcelor into battle before Arcelor could show off its muscular structure and cash.

The takeover bid has pushed Arcelor into the defensive. It has decided to raise the ordinary dividend to € 1.85 from € 1.20 per share. Arcelor will pay out € 415 million more as dividend. It has also promised to pay out € 5 billion to its shareholders through a share buyback. Arcelor has been pushed into disgorging € 5.4 billion.

Arcelor has been softened. It may not be able to consolidate many steel-makers. Hence, it does not matter if Mittal fails in the takeover bid. It does not matter if the European Commission — the European Union's highest antitrust authority — halts the takeover. Arcelor has blinked; Mittal has won. Mittal can go about consolidating the world's steel-makers into its operations.

FOCUS ON CONSOLIDATION

The global steel industry is an oddity. It is more fragmented than the industrial sectors of its size and relevance. It is more fragmented than the sectors that supply its inputs. It is more fragmented than the sectors that buy steel.

As a result, both Mittal and Arcelor have plans that involve massive consolidation. What is more, Mittal and Arcelor are what they are because of inorganic growth.

They have grown through acquisitions. Both are very big. Mittal is the world's largest steel-maker by volume.

It is the second largest by revenues. Arcelor is the world's largest steel-maker by revenue. It is the world's second largest by volume.

MASTERS OF THE GAME

Mittal is the master of consolidation. It was formed when Ispat International N.V. acquired LNM Holdings N.V. and then merged with International Steel Group (ISG) Inc. in 2005. ISG comprises parts of Bethlehem Steel, Republic Steel and LTV Steel. Mr Lakshmi Mittal's family owns over 86 per cent of Mittal.

Its business model is based on creating profitable operations from dismal circumstances. It buys loss-making and under-performing steel companies. It then turns them around by cutting costs. It creates leaner and more competitive companies. It has production units in 17 countries.

Arcelor is the result of consolidation. A merger of Aceralia of Spain, Usinor of France and Arbed of Luxembourg created Arcelor in 2001. It is diffusely owned. It has no chunky shareholder similar to the Mittal family.

Since 2002, Arcelor has strengthened its position in high-value-added steels. It has become a leading supplier to the automotive, construction, general industry, household appliances and packaging sectors. Arcelor's steels are supplied to users in more than 60 countries.

SIMILAR GAME PLANS

Both Mittal and Arcelor depend on their market shares in countries with high economic growth rates for growing revenues and profits. Why? Steel industry analysts expect at least 75 per cent of the steel consumption growth by 2015 to take place in emerging markets. But proliferation into the emerging markets is more important to Arcelor than to Mittal since Europe accounts for over 75 per cent of Arcelor's revenues. Given that the global steel industry is an oddity, it is inevitable that both Mittal and Arcelor will have to fight for dominance in consolidating steel-makers and steel-making. It is inevitable that they will have to confront each other while consolidating steel-makers in the emerging markets.

Mittal has been a master in this game since 1989. But Arcelor struck two big blows at Mittal's mastery in the recent past. First, it took a controlling interest in CST, a big Brazilian company that makes high-quality flat carbon steel. Arcelor is now the largest steel producer in Brazil.

Second, it went into a joint venture in Shanghai with Nippon Steel, the world's third largest steel-maker, to produce cold-rolled and galvanised steel. The joint venture includes Bao Steel and is aimed at serving the Chinese market.

ON MITTAL'S TERMS

Arcelor was getting ready to strike further. Analysts' estimates through every quarter in 2005 pointed to a spectacular year for Arcelor. It would have been at its formidable best in the first quarter of 2006. By Christmas 2005 Arcelor was getting set to show off its muscles. It would have set in motion its plan to consolidate numerous smaller steel-makers around the world.

Arcelor announced its results some weeks after Mittal's tender offer. The results were indeed spectacular. Its earnings before interest, depreciation, taxes and amortisation had grown to € 5.6 billion from € 4.5 billion in 2004.

Net profit grew to € 3.8 billion from € 2.3 billion. Strong cash generation had enabled Arcelor to reduce its net debt by € 1.3 billion.

A romping Arcelor had to be halted by Mittal. It has done this with little fuss and very little cash. The tender offer's cash component is merely 25 per cent. Tendering shareholders will get shares in Mittal for the remaining 75 per cent.

This explains why Mittal's stock price rose smartly when the tender offer was made. This is an exception. The rule is stock prices of bidders fall when they announce takeover bids.

(The author is a financial analyst. Feedback may be sent to indiagrow@yahoo.com and pari@thehindu.co.in)

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