Riding the Rollercoaster

Six firms in cyclical industries battle excess debt.

The good news is that all but one of these firms took a careful approach to structuring their debts. The exception, Cemex, has $8 billion of its $16 billion of net debt maturing in the next 18 months, according to Standard & Poor’s, a rating agency, and only $560m of cash (excluding cash held as collateral). The Mexican firm is now trying to arrange a new debt package with a syndicate of banks.

Economist Roller 2

The other five firms look more secure. None is in immediate danger of breaking its debt covenants. ArcelorMittal, Rio and Lafarge have sufficient liquidity to cover maturing debt for the next year or so. Xstrata and Tata Steel have two years’ worth of cover. The latter also has a “get out of jail free” card: $6 billion of its $10.7 billion of net debt sits in Corus and is not guaranteed by the Indian parent company. In extremis, Tata could walk away from its costly acquisition. (This month Corus asked for aid from the British government.)

These firms also still expect to generate cashflow, just much less of it. With their liquidity buying them some time, next year will be about squeezing the business until the pips squeak. The acquisitions all made industrial sense, so synergies should boost profits: Rio, for example, has so far made only about a third of the savings expected from the Alcan deal, and Tata Steel is about halfway through its programme. Beyond such synergies, both Lafarge and ArcelorMittal have recently launched new cost-cutting plans. The slump means inflated costs for equipment and raw materials are falling, while inventories can be run down. ArcelorMittal hopes to release $5 billion of working capital over the next six months, which would cut its net debt by 15 percent.

But in the fight to survive the biggest weapons are cuts in production and capital spending. ArcelorMittal has led the way on the former, with a reduction of output by one-third that even its chairman, Lakshmi Mittal, calls “very aggressive”. The cuts to investment plans are as dramatic: ArcelorMittal, Lafarge and Cemex have sliced their budgets for next year by between one-third and one-half, and on December 10th Rio cut its planned capital expenditure in 2009 from $9 billion to $4 billion. Xstrata has yet to announce its plans but a 50% reduction is possible. For the six firms combined, this would mean a $15 billion boost in annual cashflow—equivalent to about 18 months’ worth of interest costs.

That, along with adequate liquidity for at least five of the six, makes survival likely. It also raises an intriguing question. The deals of recent years mean these industries are more concentrated and indebted than ever before. That in turn has forced huge, rapid cuts in actual and planned capacity, which could stabilise prices faster than in past downturns. It is a glimmer of hope during these bleakest of times.

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