When the Asian crisis took place in 1997 and steel prices plummeted it was the interest burden that was threatening to kill all the new steel projects as they were getting started and some even before commencement of production.Fortunately in 1999, steel prices started recovering and for six consecutive quarters there was good demand and rising prices.

This brief revival has offered a second chance to companies such as Essar Steel to restructure their debt-equity ratios to manageable levels so that they are in a position not only to absorb price shocks in the future but also to be a competitive and profitable steel producer.

Essar Steel has just announced its results for the fiscal ended March 2000. Total income has increased to Rs 2,470 crore from Rs 2,363 crore in the previous year and operating profit has increased to Rs 327.50 crore from Rs 285.17 crore. However, the cash loss has increased to Rs 218 crore from Rs 128.34 crore in the previous fiscal. This was because of the increase in interest payout at Rs 545.52 crore as against a payout of Rs 413.51 crore in the earlier year.

In an interview to The Financial Express, Essar Steel's (ESL) director Prashant Ruia says ESL is in the midst of restructuring its debt which aims to reduce the interest burden. He also enumerated other steps that will increase production and lower operating costs so that the company is in a position to make profits in the not so distant future. Excerpts

On repaying high cost loans
Ruia says that the company is proposing a two pronged strategy to address its debt burden-reduction in debt and lengthening of maturity. He adds they have already taken effective steps to reduce ESL's debt by aprroximately Rs 1,200 crore. As a first step towards this direction, ESL hived off the pellet business into a joint venture with Stemcor of UK viz., HyGrade Pellets Limited (HGPL). As a result of this exercise, the reduction in debt was to the tune of Rs 633 crores as Essar was paid Rs 520 crore as cash consideration and Rs 113 crore of debt was transferred from ESL's books to HGPL's books. The present long term debt in the books of Essar Steel is approximately Rs 4,400 crore. Around half of this is financed by Indian institutions and the rest is financed by international lenders. Ruia notes that ESL is continuing in its efforts to reduce its debt burden further. It current holds redeemable preference shares of Rs 312 crores in HGPL and has an equity investment of Rs 217 crores in Essar Power which hesays, is currently valued at approximately Rs 330 - 350 crore.

Thus the additional reduction in debt contemplated is approximately Rs 700 crore from the proceeds of the redemption of preference shares in HGPL and sale of equity in Essar Power.

While the deal with Marathon of US to hive off Essar Power has fallen through, Ruia says that ESL is committed to offloading its stake.

Moreover, Ruia adds that the company's working capital management has improved dramatically. The inventory levels have gone down from a level of 40 days to 20 days, and the maturity of receivables has gone down dramatically from a lead time of 90 days and is aiming to reach a level of 30 days. As a result of this, the working capital requirements have gone down from a level of Rs 727 crores to around Rs 497 crores.

On lengthening maturity of loans
Ruia also adds that ESL has also approached all the lenders across the board with a proposal to lengthen the maturity of its debt. This, according to him, will help correct the mismatch in financing the project.

The director explains that this mismatch arose because of essentially two factors. When the project was envisaged and finance tied up, interest rates were at their peak and the company thought once operations stabilise it would substitute its high interest debt with an equity issue at a premium. However, what ESL never expected was the downturn in the market in 1998 which threatened its very existence. Prices of steel products plummeted across markets and almost all companies around the world suffered losses with a few exceptions like Posco of South Korea. Then the stock market dried up as investors shunned equity issues and today the flavour of the market are the information technology, communication and entertainment (ICE) stocks. So with an equity issue being ruled out, the company is now looking to extend the maturity period of its debt to eight years.

As a part of this exercise, Ruia states ESL has also approached the floating rate note (FRN) holders and international lenders Bank of America (BA) and Union Bank of Switzerlamd (UBS) with a request to opt for a rollover. He says that BA and UBS have agreed for a rollover and he expects that the FRN holders will accept a rollover for another period of five years. Sources in the financial institutions (FIs) confirm that ESL has put forward a proposal to extend the maturity of the debt. However, they suggest that ESL should put forward a more comprehensive proposal which would further restructure their debt-equity ratio.

This, the FIs suggest would involve either offering an equity stake to a foreign partner, thus infusing funds or converting a part of the high interest bearing debt into equity.

FI sources say that they more inclined to look at a more comprehensive proposal of debt restructuring which also involves raising equity capital rather than a simple request to extend maturity and lower interest rates.

On raising equity via rights issue
Ruia, however, says that the company is planning a 1:1 rights issue of equity which will bring in approximately Rs 330 crore. Of this, he says that Rs 230 crore has already come in as promoters' contribution and is lying in the ESL balance sheet. In addition he says, if the existing debt restructuring proposal is accepted by the various lenders, the reduction of interest burden as a result of reduced debt coupled with the longer maturity, ESL will be in a position to meet its financial commitments on time without encountering any further problems. Ruia adds that the FIs are waiting to see the outcome of the negotiations with FRN holders before they make a decision themselves. In any case, he says, FI debt to others in the steel sector are for a maturity of 13 years and that Essar is asking for a maturity period on its debt only upto 10 years. The present maturity period is five years, of which two years have elapsed. The current proposal is stretch the balance repayments over eight years rather than threeyears.

Ruia says that the reduction of debt alongwith lengthening of maturity of loans will lower the interest burden by around Rs 250 crore per annum.

On increase in production capacity
ESL also has plans to improve its performance by increasing its output by operating at higher levels. ESL has plans to increase its production capacity without incurring any substantial capital expenditure.In March 2000, it operated at a level of 2.2 million tonnes per annum (mtpa) and expects to touch a level of 2.4 mtpa by the end of current fiscal. This will be further enhanced to a level of 2.75 mtpa by the end of fiscal 2001-02.

Effectively the capacity of the plant will be increased from 2 mtpa to 2.4 mtpa. Ruia observes that this expansion is possible due to the new technologies now available mainly through debottlenecking the process and technological improvements in the steel complex. He adds that the entire activity of debottlenecking and technological improvements were done by the company's engineers through expertise developed in-house without incurring any major capital expenditure. This, he points out, will reduce the capital cost of the ESL's steel capacity from Rs 28,000 per tonne to Rs 22,000 per tonne.

On reduction in power cost
In the production process the two main costs involved are the cost of inputs such as iron ore pellets and the cost of power. The director says that the measures initiated for reduction in power cost are-reduction in consumption of power, usage of waste heat in electric arc furnace to generate power and change of fuel from naphtha to gas in the existing plant to generate power.

The technological improvement in the steel making process has led to reduction in power consumption from a level of 740 units per tonne to 580 units per tonne presently and efforts are on to reduce usage power in steel making to a level of 500 units per tonne of steel produced. Ruia adds that ESL has also identified ways to tap waste heat generated from the electric arc furances (EAFs) and proposes to utilise the waste heat to generate 75MW of power. Once these measures are implemented it is expected that the power cost will come down to level of Rs 1.8-2.0 per unit which is reasonable, says Ruia. The steps taken to cut back costs have already started yielding results, says Ruia, adding that the benefits of which will be fully harnessed during the year 2000-01, when the cost per tonne of steel produced is expected to be Rs 1,500 lower as compared to production costs in 1999-2000.

On whether the market will continue to remain buoyant
Ruia expects ESL to come out of the problems and start making profits very soon. He points out the fact that in the fourth quarter of the last fiscal the company managed to make a cash profit, almost entirely because of better prices in the market. The market, the director says, will continue to remain firm. Even though currently there is slight blip in the prices because of clearance of inventory by the buyers and stockists, Ruia says it is expected that the global market will firm up again from August 2000.

The current price level of US$ 280-320 per tonne price range is sustainable, he adds. The net effect of a better market as compared to the previous year is better sales realisation of about Rs 1,500 per tonne which Ruia points out will be on higher sales of 2.2 million tonnes.

Ruia believes that with prices at these levels, coupled with increased production levels, lower production costs and importantly a manageable debt level, ESL will be in position to make net profits, declare dividends and enhance shareholder value in the not so distant future.