Joint-venture of steel producers Thyssenkrupp & Tata Steel Europe

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1 NOVEMBER Joint-venture of steel producers Thyssenkrupp & Tata Steel Europe AUTHOR JULIA KLINKENBERG JULIA.KLINKENBERG@EDHEC.COM September 20, 2017, Thyssenkrupp and Tata Steel Europe announced the entry of a memorandum of understanding to join their European steel activities. The 50%/50% joint-venture Thyssenkrupp Tata Steel B.V., headquartered in Amsterdam (NL), will combine the European steel activities of both companies. The business focus will be the premium flat carbon steel which is mainly demanded in the automotive and industrial goods industries. The announcement was not a surprise given that both companies negotiated about a potential merger for more than 12 months. They had to deal with several difficulties such as Brexit votum and Tata s British pension scheme which led almost to break up the conversations several times. Although the general response to the merger talk were positive in Thyssenkrupp s share price increase by 5.2% after announcement today, both companies face heavy critics and concerns from customers, competitors, politicians and labour unions whereas investors support this strategy. Therefore, the questions arise as what are the real reasons for Thyssenkrupp and Tata Steel to keep on to this jointventure after the long period of time and why is the joint-venture still necessary. Spotlight 1: Thyssenkrupp and Tata Steel Europe One party of the JV, Thyssenkrupp AG, is a well-known German steel producer which is the result of the merger (1999) between the two steel companies established originally by Friedrich Krupp (1811) and August Thyssen (1902). Over the years, Thyssenkrupp has expanded its business areas and today the company is operating globally in components technology, elevators technology, industrial solutions, terials services and steel in Europe 1. Thyssenkrupp s 5 factories in Germany (Bochum, Dortmund, Siegerland, Gelsenkirchen and Anderdach) produce a broad steel mix including coated, ectical steel, tinplate, heavy plate, hot/ cold and medium-wide strip. The company employs more than 27,000 people in its European steel activity and achieved total sales of 8,915m and an adjusted EBIT of 547m (FY 2016/17), an increase of 218m and 55m respectively over the last 12 months. The other party, Tata Steel in Europe, was formerly known as Corus a merger of British Steel and Koninklijke Hoogovens (the Netherlands)- before it was acquired by the Indian Tata Group (founded in 1907) in The group wants to grow quickly by organic as well as external acrivities to increase its market share. In comparison to Thyssenkrupp, Tata Steel Europe focuses only on steel production. The company has several manufacturing plants in Europe as well as steelmaking plants in UK (Port Talbot in South of Wales) and in the Netherlands (Ijmuiden). 1 The company exited the steel market in U.S. as Thyssenkrupp s Brazilian mill was sold on September 9th, 2017 after making significant losses in this business area.

2 NOVEMBER Figure 1: World steel production by years Figure 2: World steel production by country 6% 6% 10% 5% 4% 11% 4% 2% China 50% Other countries EU Japan India USA Russia South Korea Brazil Ukraine Table 1: World steel production No. Company ISO Tonnage 1 ArcelorMittal LU China Baowu Group CN HBIS Group CN NSSMC Group JP POSCO KR Shagang Group CN Arsteel Group CN JFE Steel JP Shougang Group CN Tata Steel Group IN Shandong Steel Group CN Nucor Corporation US Hyuandai Steel KR Maanshan Steel CN Thyssenkrupp DE Tata Steel Europe achieved an EBIT of 103m (FY 2014/15) and the company employs currently more than 21,000 people in Europe. Spotlight 2: Steel market As we clearly see in figure 1, except of a small drop during the Great Financial Crisis, the world steel production has grown continuously over the last decade. A plausible reason for this development is the ongoing demand for steel not only in industries such as automotive or shipbuilding but also in building construction and infrastructure. The trends can be found in industrial markets as well as in emerging markets. OECD explains the slight fall in 2015 as a result of recent trade measures which reduced the global amount. Over the last two years this value has recovered and the amount of worldwide steel production is expected to reach a new peak of approx. 1,648 million tons in Although analysts estimate a decline of approx. 3% in 2018 due to the slowdown in the Chinese economy, a further steady increase in the global steel demand is expected, raising the steel production up to 1,708 million tons in Figure 2 illustrates that China, being the largest steel supplier, combined with Japan and other Asian countries provide almost 2/3 of the global steel tonnage. A closer look reveals that although ArcelorMittal (Luxembourg) is the largest steel producer in the world, Europe accounts for less than 10% of the global steel production. Additionally, from table 1 we clearly conclude that a majority of global steel producer are from Asian countries, whereby Tata Steel Group and Thyssenkrupp rank on position 10 and 15 respectively and therefore do not ranks as the major global steel producers. Spotlight 3: Reasons for joint-venture Tata Steel Europe and Thyssenkrupp strive for becoming a clear and strong No. 2 in Europe with technology leadership in European flat steel. Both companies believe that the new joint-venture will benefit from bundling the effort in their research and development (R&D) to leverage from existing technology as it will concentrate more on meeting future demands for innovation in the steel sector. Furthermore, the JV aims to gain significant economies of scale due to improved usage, a larger company size and a combined market share. Moreover, the management of both companies estimate cost synergies of approx m through this concentration as well as integration of new functions. In case of Thyssenkrupp, the joint-venture is a large step with the German producer evolving towards a diversified industrial company whose focus shifts more to its other business activities such as elevator technology. As already mentioned in spotlight 2, Asian countries, especially China, have achieved increasing importance as steel producers in the world. In order to remain a top steel provider in this competitive environment, it was and still is necessary for Tata Steel Europe and Thyssenkrupp to rethink their operating strategy. According to table 1, the new joint-venture can provide more than 41 million tons of steel and consequently become close to the existing top 5

3 NOVEMBER Figure 3: Estimated steel price U.S. Europe China producer, assuming ceteris paribus. As illustrated in Figure 3, in general, it is expected that the steel price will fall steadily over the next three years due to overcapacity worldwide and only recover in The most significant decline is estimated in Europe because especially the European steel price is quite volatile and cheap imports from China keep the steel price under pressure. Why does Thyssenkrupp join Tata Steel Europe and not find another German steel producer? A closer consideration of the German steel market shows two other large steel producers besides Thyssenkrupp: GMH Holding (Georgsmarienhütte) and Salzgitter. However, the financials reveal the main difference in their companies size. While Thyssenkrupp achieved revenue of approx. 7bn (FY 2015/16) in its steel operations, GMH Holding was only able to generate revenues of approx. 2.3bn (FY 2015). Consequently, also considering that the company faces some debt restrictions until the end of 2017, Georgsmarienhütte is too small to handle or even finance a potential merger with Thyssenkrupp. The second largest candidate, German steel producer Salzgitter, stated to have no interest in any merger with Thyssenkrupp. Furthermore, the plan of Deutsche Stahl AG, a merger of all three German steel producers (GMH, Salzgitter, and Thyssenkrupp) is supported by politicians and labour unions but this idea was declined by both GMH and Salzgitter. Finally, any other German steel producers do not provide a sufficient size of firm or the regional significance for a merger or joint-venture that strives to influence the European steel production and price such as the European leader ArcelorMittal. Therefore, Thyssenkrupp has not many other plausible alternatives besides Tata Steel. Spotlight 4: Critics and possible negative effects? On one hand, the French car manufacturer Peugeot, whose steel provider is Tata Steel Europe, does not believe that Thyssenkrupp Tata Steel B.V. will impact the European steel market negatively. On the another hand, BMW, which receives steel from ArcelorMittal, Thyssenkrupp and Tata Steel Europe has an opposite opinion. The German car manufacture is concerened that the market will not be efficient enough and fears the influence of this joint-venture on the future steel price. Furthermore, labour unions in both the Netherlands and Germany do not agree on the new development and have considerable doubts that the joint-venture will cut more than 4000 jobs. The labour representatives think that Thyssenkrupp will loose its core business because the company started with producing steel. They account for half of Thyssenkrupp s supervisory board and with the support of German s largest labour union IG Metal and German politicans, they want a guarantee for jobs, plants and investments, especially because the new headquarter will be in Amsterdam. At the moment, workers of Thyssenkrupp and Tata Steel Europe protest against this joint-venture. Conclusion In my opinion, despite all criticism and outlined negative aspects, the jointventure of Tata Steel Europe and Thyssenkrupp is a good strategy. Both

4 NOVEMBER companies have the possibilites to restructure their steel operations in order to remain competitive and strengthen their market share. The pressure from China and other Asian countries might increase and will impact both companies. Thyssenkrupp wants a new alignment on its other business activities and a closer look on the German steel market demonstrates that the company has not a realistic alternative to Tata Steel Europe. Furthermore, future technology innovation will become increasingly important, meaning that synergies in R&D has to be realised. From an ethical point of view, both companies have to deal with the labour representatives as job reduction will be unavoidable. However, given the current structure and strategy, it might happen as well under other circumstances. In the case that Tata Steel Europe and Thyssenkrupp would stay individual companies both have to reshift their business activity to operate more efficiently. This could mean that they would reduce staff anyway, and probably cut even a higher number of jobs. In conclusion, the joint-venture of the steel producers Tata Steel Europe and Thyssenkrupp s European operations is a good decision for both companies and the European market! Sources: Bloomberg, Deloitte, Handelsblatt, OECD, Reuters, PwC, Statista, Spiegel, Tata Steel, Thyssenkrupp, World Steel Association

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