This two-part series is the second installment from a young American guest blogger based in Mumbai, India. Over a period of time, we have exchanged a number of ideas and views related to the metals markets and macro-economic issues particularly associated with the fast-growing Indian market. Because of his strategic role in an Indian manufacturing company, our author prefers to contribute anonymously; but his approach and balance so closely mirrors our own that we have encouraged him to write the occasional piece for us as a guest author. (Read Part One here.)
Is it all about the synergies?
Whenever a major steel deal hits, the Indian press touts the “synergies that will surely benefit both parties and cause the end result of the deal to be more valuable than the sum of the participating companies’ parts. Tata Corus, for instance, has promised via spokesman Ratan Tata himself to create value by combining Tata’s access to plentiful iron and cheap labor with Corus’ ability to produce sophisticated finished products. These “synergies are used as justification for the share premiums paid by Indian acquirers, and the media portrays their realization as a key strategic milestone in the deals’ aftermath.
But not everyone agrees that the pursuit of synergies is enough to justify a deal. When the synergistic benefits of integration are offered as an explanation for Tata’s interest in Corus, a steel buyer in Mumbai’s suburb of Gurgaon retorts, “Alchemy all the advantages described have already been traded away by independent dealers or achieved internally through the steelmakers’ existing business structures. There will likely be savings on the sourcing side, but not enough to stake an acquisition of that size on.”Â In other words, strategic integration benefits may not be enough to justify an overseas purchase: this source’s argument is that in order to be worth it, an overseas investment by an Indian steelmaker that is not made for the purpose of coal extraction must make sense as a standalone investment. (Tata Steel claimed a $70 million savings in raw materials sourcing costs in 2007, less than a year after the deal was completed. The company expected a total integration savings of $450 million at time of deal.)
Nowhere to look but out
Indian steel companies are rich in cash, but despite finding themselves in the midst of an insatiable and growing market for their products, lack domestic opportunities for investment. The reason is government: because of shoddy infrastructure and a crowded, slow-moving, productivity-draining transportation network, steelmakers must localize their manufacturing facilities as close as possible to their sources of raw materials. In mineral-rich states like Orissa, however, the regulatory environment is such that political skirmishes and general legal trouble are bound to ensnare any steel project, particularly when it comes to land acquisition. As a result, it is risky to invest in large-scale domestic expansion, particularly with regard to green field investments, and any attempt to get a project off the ground requires a monumental and long-term effort on the part of the investor.
So, the companies look elsewhere for growth, and use their cash and industry expertise to buy foreign manufacturers acting simply as investors seeking a better return on their money than they can get at home. Moreover, Indian firms’ cash-rich and aggressively-minded position comes at a time when the western investing community is proceeding cautiously, so good buys can be found at prices that make sense as standalone acquisitions. Finally, the mood in Indian boardrooms is definitely one of optimism; no one believes that the West’s recession will have permanence, and all are anxiously awaiting the United States and Europe’s return as hungry consumers.
In all, Indian steelmakers’ general desire to gain access to global steel markets coincides with an era in which they have money to spend, opportunities for investments abroad, and frustratingly few ways of investing in production domestically. Like the Japanese and Koreans before them, Indian firms are eager to allocate their capital internationally, and the chance to flex some newly found economic muscle is not lost even on the Indian steel industry’s youngest participants. “We have the bucks, professes a young steel trader, not without a hint of bravado. “The rest of the world needs the cash, and we’re ready to do business globally. This recession marks our coming-out party.
MetalMiner and its sister site, Spend Matters, along with Nucor, will host a live simulcast, International Trade Breaking Point on March 1, 2011. If your company sources products from overseas, you will not want to miss this half-day event: