Tata-Thyssenkrupp deal to reduce exposure to structurally weaker biz: Fitch

Says increase in significance of its more-profitable Indian operations will reduce earnings volatility and improve Tata Steel's overall business profile

Tata Steel Ltd (TSL)'s memorandum of understanding (MoU) with Thyssenkrupp AG to create a 50:50 JV in Europe paves way for the former to reduce exposure to a structurally weaker business, Fitch Ratings said on Friday.

However, Tata Steel's long-term issuer default rating (IDR) of 'BB' remains on Rating Watch Evolving until further clarity on the proposed JV emerges with the signing of definitive agreements, which is expected by March 2018. In addition, Fitch will look out for details on TSL's plans to significantly expand capacity in India and evaluate its impact on TSL's financial metrics and credit profile.

TSL's operations in Europe face weak regional demand, high conversion costs and lack of captive raw-material sources. Fitch believes the reduction in direct exposure to this industry and the increase in the significance of its more-profitable Indian operations will not only reduce earnings volatility, but also improve TSL's overall business profile.

The proposed JV, which TSL announced on September 20 2017, will be called Thyssenkrupp Tata Steel. It will be formed on a non-cash basis, with both shareholders contributing assets and liabilities in order to achieve fair valuation. The JV will be the second-largest European flat steel producer with annual shipments of about 21 million tonnes. TSL intends to transfer its European flat steel assets and around 2.5 billion euros of term debt to the JV, while Thyssenkrupp would transfer pension liabilities of 3.6 billion euros and its European flat steel assets and steel mill services. The companies expect to sign definitive agreements after due diligence and shareholder approval by March 2018 and close the deal after anti-trust and other regulatory approvals in late 2018.

The proposed JV's intended capital structure has been designed by the two partners to be self-sustaining, with expected cost synergies of 400 million-600 million euros annually. 

TSL has stated that it intends to double its capacity in India from its existing level of 13 million tonnes over a period of five years to enhance its market position. Apart from organic growth at its Kalinganagar and Jamshedpur sites, the company may acquire distressed assets in India. Indian steelmakers Essar Steel, Bhushan Steel and Electrosteel Steels are in bankruptcy proceedings. Fitch believes further details on TSL's plans are likely to emerge over the next six to nine months. While the company has indicated a financially prudent approach to capacity growth, substantial investments over the next two to three years could hinder sustainable deleveraging.