Friday, June 6, 2008

Chinese Steel Groups Eye Overseas Deals

Chinese steel companies are wooing foreign investors in a bid to gain technology and bulk up their balance sheets, seeking to fend off the threat of getting scooped up by the country's larger, state-run groups.

Yangzhou Chengde Steel Tube Co Ltd, 49 percent owned by U.S. private equity giant Carlyle Group, has hired Lehman Brothers to help it seek strategic options which might include an outside investor, sources told Reuters last week.

Singapore-listed FerroChina hired Merrill Lynch last month to find it a suitor. And Shanxi-based Haixin Iron and Steel Group is also looking for a strategic investor, the South China Morning Post Newspaper reported last week.

The search for outside capital by China's smaller steel groups comes amid government calls for steel makers to consolidate, a drive that could see smaller steel mills bulldozed into the arms of the top five national firms.

"China has a policy of already having picked the winners," said an investment banker in the sector, who declined to be named for commercial reasons. "Everyone who's not on that list is frantically trying to expand like mad, with the view that size matters."

These smaller steelmakers face several obstacles in their growth strategies. The government does not permit foreign control and is not keen on foreign investment in steel in general, fearing an already sprawling sector may grow out of control.

ArcelorMittal, which tried to take over China Oriental last year, has had to pull back to a 47 percent stake.

Russia's Evraz Group has bought into Delong Holdings, a Singapore-listed Chinese steelmaker, but cannot clinch the $1.5 billion acquisition without China's blessing.

Another problem for the minnows is the sky-high cost of iron ore and the problem of sourcing it from abroad.

"Iron ore prices are very, very high. Only the big players can buy from the top producers. All the small plants are under great pressure," said a China steel analyst who was not authorized to speak to the media.

China makes more steel than anywhere else in the world. Smaller companies sprinkled throughout the country fear that if they don't expand their business, the state-backed behemoths like Baosteel will buy them up as part of their own plan to grow.

The strategy has precedent elsewhere. Arcelor, the world's top steelmaker, has gone from 10 million to 110 million tonnes of production mainly through acquisitions.

"The Baosteels of this world are looking at that and asking: How do we become a 110 million ton producer?" one industry banker said. "And I think they're thinking it matters when it comes to making offshore acquisitions. And they're right."

After Baosteel, the top producers last year were Jiangsu Shagang Group, Tangshan Group, Wuhan Group and Anshan Group.

Under government plans Anshan will one day absorb Benxi Group, while Shandong province wants to merge Jinan Group and Laiwu Group into a new Shandong Iron & Steel Group.

The goal is for the top 10 firms to account for 50 percent of the nation's steel production by 2010. Currently the top 20 companies account for half of all China steel production.

Some analysts also say the Olympics could provide a catalyst for smaller firms to beef up, as China may force some mills in Hebei, a province encircling Beijing and home to about one-sixth of China's steel output, to suspend operations in order to curb pollution.

But restarting a blast furnace is a lengthy and costly job that might force a small firm to seek the support of a senior partner, opening the way for consolidation.

Aside from fending off state-owned predators, steel firms want foreign partners because they may improve their business.

"What they really need are investors who can provide something that allows them to stand out, to differentiate their products or markets or technology," said Daiwa Securities analyst Helen Lau.

Arcelor, for example, is helping China Oriental procure supplies of iron ore and coking coal and sharing know-how with its Chinese partner.

But one investment banker in the sector warned that foreign companies hoping for access to China's big market should look before they leap, since it might fail to materialize.

"They're being used. The Chinese partners are going to take the technology and kick them out. To the extent they're going out looking for partners they are doing it to gain access to markets and technology."

Source: Reuters

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