***REVISITED — Mission: Control

2010 was not a big year for steel mergers and acquisitions. Many company valuations sank to all-time lows, so most businesses battened down the hatches and concentrated on the fight to survive in a volatile market. But the Ukrainian steelmaking sector was one glaring exception.

2010 wasn’t a big year for mergers and acquisitions: many company valutaions sank to all-time lows this year, so most businesses battened down the hatches and concentrated on the fight to survive.

But the Ukrainian steelmaking sector was one glaring exception.

As the year passed, a struggle for control of the country’s key steel mills played out, spilling out of the Kiev boardrooms to Lugano, a seemingly sleepy town in the Swiss Alps.

It all started in January, when Alexander Katunin led a consortium of investors to take a majority stake in Industrial Union of Donbass (ISD).

Katunin, formerly a top manager at Russian steelmaker Evraz, owns Carbofer, a trading company with a significant presence in Lugano.

Soon afterwards, on January 26, ISD Trade was entered into the commercial registry of Ticino in southern Switzerland. The company shared its Lugano address with Carbofer and was established as the exclusive sales agent for ISD, sources with knowledge of the situation told MB.

For Duferco, which is headquartered in Lugano, this was a problem.

Following a joint-venture agreement signed in 2003, which also saw ISD take an equity stake in Duferco International Trade Holdings (DITH), Duferco had already secured exclusive rights to export sales from ISD.

Duferco and ISD enjoyed a well-established friendship. The two companies launched a bid for Dunaferr in December 2003, and ISD later asked Duferco to join a consortium bid for Huta Czestochowa at the end of 2004.

Since agreeing the jv in 2003, Duferco had gone on to allow ISD to sell directly to the merchant market. The steelmaker had been forced to ask for prepayments, and Duferco received a percentage of these sales, according to a source close to the situation.

Industrial Union of Donbass

But the incorporation of ISD Trade threatened Duferco’s arrangements, sources at both companies told MB at the time.

“ISD is abandoning [its agreement] with Duferco and will go to Carbofer – it’s already happening. There is a new owner [Alexander Katunin] and he decides what to do,” a source with in-depth knowledge of the situation said.

“The political landscape is really changing in the CIS. It was well known that [ISD] wanted to sell a stake to someone who could market the material – they wanted to get someone else in who could market the material [instead of Duferco],” a trader with experience in the region said.

“The reality is that [ISD] is going to give some allocation to Carbofer and the rest will be sold to mills and traders. They’ve been trying to do this since August last year,” another trader agreed.

The coup had been well-planned.

Speaking to MB hard on the heels of the consortium’s successful bid for ISD in January, a high-level source at ISD was at pains to point out that no member of the consortium would hold more than 25% of the company.

But it has since emerged that the deal, which was financed by Russia’s state-controlled Vnesheconombank, effectively left Katunin at the helm. All of the rights to the majority share are held by either Katunin or Carbofer “from a legal perspective”, a source close to the deal said.

“This is all about control. It’s no accident that Carbofer has had its eyes on Duferco assets,” another source close to the situation said.

Luxembourg-headquartered Carbofer’s management staff and traders include a fair few who have transferred from Duferco. Carbofer commercial director Darko Bozinovski is one – he left Duferco to head the new Russian-backed Carbofer with Marco Galimberti in April 2005.

Duferco was never going to let the situation lie: ISD’s new deal with ISD Trade had wider-ranging implications.

The 2003 joint-venture agreement saw ISD take a stake in DITH, which included Duferco’s global trading operations and the company’s steelmaking assets in Denmark and Macedonia. In February 2006, ISD boosted this share to 50%.

Duferco had the option to buy the stake back. But in the short term, at least, Duferco was in the excruciating position of having a competitor control a 50% stake in DITH.

Behind the scenes, the situation quickly changed.

As the sun shone down on Ticino at the end of June, ISD Trade and ISD sent letters to the mills’ customers, directing them to contact DITH to place new orders for material from ISD.

After only a few months in control, ISD Trade would no longer handle export sales from ISD. Once again, Duferco was the exclusive sales agent for the plant.

“The ISD Trade model is dead,” one source told MB. “Letters are going out to customers.”

How had this happened?

Reduced demand and poor prices had weakened ISD’s foundations. The mill struggled to keep up with payments for raw materials and energy suppliers, and was forced into debt restructuring talks with its financiers.

“ISD is successfully holding talks with international banks and financial institutions, which are creditors to the group itself and other companies within the group, about restructuring its debt,” the company said at the time. “[This is a] completely normal thing for practically every industrial company in this difficult time.”

Be that as it may, ISD was in a difficult position.

Ukraine’s Justice Ministry seized two steelmaking assets belonging to ISD over outstanding debts owed to Rinat Akhmetov’s Metinvest Holding. Bailiffs seized ISD’s Alchevsk Metallurgical Plant (AMK) and Dneprovskiy Dzerzhinsky Metallurgical Plant (DMKD) on July 22.

They also seized the Kramatorsk Metallurgical Works, which belonged to ISD board chairman Sergei Taruta and former ISD shareholder Vitaly Gaiduk.

Along with general director Oleg Mkrtchan, Taruta controls a 49.99% share in ISD. Gaiduk sold his ISD shares to Katunin’s consortium earlier this year.
Duferco spied an opportunity.

In June, ISD received $300 million in relief financing from Russian state-controlled Vnesheconombank. But this time Katunin wasn’t involved – the money was channelled through Duferco, sources involved in the deal told MB.

Akhmetov, a billionaire industrialist and one of Ukraine’s most powerful business figures, was busy pursuing other plans.

Also in June, Metinvest said it would take a majority stake in Ilyich Iron & Steel Works to form one of the world’s largest producers. The partnership will eventually create a 20 million tpy steelmaker, Metinvest said at the time.

But this wasn’t a simple investment deal. By agreeing to purchase the stake, Metinvest had prevented Ilyich from being taken over by another group of previously unknown companies.

Rinat Akhmetov

Ilyich’s difficulties dated back to April 30 2009, when four companies were confirmed as having bought a majority share in ZAO Ilyich Stal, the holding company that owns a 90.41% share in the Mariupol-based steelmaking operation.

According to Ukraine’s Securities and Stock Market State Commission (SSMSC), Formigos Holding bought a 25% share in the company, while Emorsa, Liberani Co and Rewein all took stakes of 24.999%. All three companies shared the same address in the Cypriot capital of Nicosia.

How the companies managed to acquire almost all the shares in Ilyich Stal so quietly, for the moment, remains a mystery. But they didn’t hold onto them for long.

On June 30, three different companies were listed as the predominant shareholders in Ilyich Stal. Alkom and Depositary Bureau both claimed a 24% share in the holding company, while Kastodian took control of a 48% share.

Each of these companies is registered at a different address in Ukraine, according to SSMSC’s website. Analysts believe they are proxy holding companies for the four Cypriot shareholders.

Chairman of the board Vladimir Boyko challenged the move, dubbing the takeover a “corporate raid”, and pursued merger talks with Metinvest.
“When the raider attack started, [the negotiations] were speeded up,” he told MB.

Vladimir Boyko

The merger was made possible when the Ilyich board voted to increase the number of Ilyich shares in circulation by a factor of four, diluting the stake controlled by the companies Boyko had dubbed “raiders”.

It’s still unclear who was behind these companies. But now that Metinvest’s deal with Ilyich was completed, it’s no longer as important.

The combination is massive. Had the partnership existed in 2009 and produced 20 million tonnes it would have been the world’s 12th largest steelmaker, ahead of names like Severstal, US Steel and Gerdau.

The merger will give Ilyich access to Metinvest’s strong raw materials base – the company comprises 24 industrial companies in the mining and steelmaking industry in Ukraine, the USA, Italy and the UK.

Metinvest’s steelmaking assets produce welded pipe, carbon steel plate, flat products and long products. Overall they produced 7.03 million tonnes of crude steel in 2009, down from 8.24 million tonnes the year before. But the company was still Ukraine’s second-largest steelmaker.

Its raw material assets are even more significant. The company’s mines are able to produce 46.5 million tpy of iron ore concentrate and pellets, as well as a significant tonnage of metallurgical coking coal.

It also owns Prometey, a company it says is dealing with 160 firms collecting, processing and shipping ferrous scrap in Ukraine.

Ilyich’s Mariupol steelworks

Metinvest will also invest $2 billion in Ilyich’s facilities, which include twelve sintering machines, five blast furnaces, three oxygen converters and an open hearth furnace.

The share in Ilyich also gives Metinvest a greater share of the Ukrainian flat products and tube and pipe markets.

“In the long run, this is a good investment for Metinvest,” a source with in-depth knowledge of the two companies told MB. “Ilyich is an old Russian Combinat with tens of thousands of workers and interests in various sectors, including the agricultural industry.”

“Akhmetov will transform it into a capitalistic company,” he said.

Now that the deal has been completed, Metinvest isn’t just Ukraine’s largest steelmaker, but a pretty serious global player as well.

It nearly became even larger.

It was well known that Metinvest conducted due diligence on 3.5 million tpy Ukrainian flats producer Zaporizhstal. But in reality, Akhmetov went further than that.

On May 4 Guernsey-based Midland Group agreed to sell Zaporizhstal to Akhmetov’s Luxe Holdings for $690 million. But, on May 19, Midland pulled out of the deal, telling Akhmetov it had found another buyer for the mill.

On the same day it agreed to sell Zaporizhstal to Russian investment bank Troika Dialog, which says it was acting on behalf of an unnamed Ukrainian group, for $580 million.

Luxe was not happy, and believed the company had broken the terms of the agreement. Akhmetov’s holding company petitioned the UK High Court to freeze $110 million of Midland’s assets until Midland could be brought to trial.

The case never made it that far. In early November, Luxe reached a settlement with Midland. Few details of the deal were disclosed, and the identity of Zap’s buyer remains a mystery.