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By John Helmer, Moscow

The co-founder of the Mechel steelmaking and coal-mining group, Vladimir Iorikh, always said the over-confidence of partner Igor Zyuzin (parachutist) would get the company into trouble as big as this. So, rather than go down in flames himself when the crash he expected would come, Iorikh sold out to Zyuzin in January 2007, taking $1.5 billion to Switzerland and setting up on his own.

Zyuzin congratulated himself on out-smarting Iorikh when Mechel’s value in the market grew to a peak of $21 billion in May 2008. Zyuzin’s stake of about 67% was then worth $14 billion. Today, with Mechel worth just about one-tenth of that at $2.9 billion, Zyuzin’s stake is worth $1.9 billion; maybe less, because in July Zyuzin started selling shares – a 1.93% bloc was let go to an unidentified buyer at an unreported price. If things continue to get worse for Mechel, Zyuzin’s net worth will be less than his old partner’s. If Iorikh was as prudent as he accused Zyuzin of not being, it’s probable that he vaulted over Zyuzin in the wealth brackets some time ago.

With net debt of $9.2 billion, Zyuzin’s Mechel holds the Russian record for the biggest debtor in the steel business. As oligarchs go, he may be running second to the all-round biggest debtor in Russia, Oleg Deripaska. Delaying Mechel’s second-quarter financial report into next month, Zyuzin has had to acknowledge that the steel division was in the red by $15.6 million in the first quarter; this is expected to grow larger. His ferro-alloys division is even deeper in the red — at minus $56.1 million for the March quarter. In bottom-line terms, Mechel is now a coal-mining company: 78% of its earnings come from the mining division, and 111% of its net income, though only 32% of $3 billion in its consolidated revenues for the first quarter are generated by coking-coal sales.

Mechel is listed on the New York Stock Exchange (NYSE). But because of the US regulator’s special exemption for “foreign private issuers”, Zyuzin actually reports less to the market than US-domiciled companies listed on the NYSE, and less than Russian companies listed on the London Stock Exchange and regulated by the UK Financial Services Authority (FSA). He ignores a great deal of risk to shareholders and stock value that would amount to material change of circumstance, as the New York and London regulators understand the term. Just how impenetrably he reports his holdings and transactions can be found in filings by Mechel to the US Securities and Exchange Commission (SEC), like these.

Zyuzin’s leveraging strategy to create two separately listed companies making steel and mining raw materials for steelmaking, and to double his money with a market valuation premium isn’t news. Nor is the number of times Zyuzin has led the company into violation of bank loan covenants and fiscal commonsense since he paid $1.5 billion to take over the ferro-alloy miner and refiner, Oriel Resources, in March of 2008. Just how dumb that was – and how Alexander Nesis, owner of Oriel, doubled his money at Zyuzin’s expense – was explained at the time here and here.

This week Zyuzin has had to admit publicly that the Oriel purchase was an expensive mistake; he is now offering to resell it at a fraction of what he paid. Worse, Zyuzin has had to post on the company website the announcement that he has decided “to divest several assets in order to improve the company’s liquidity and financial position.” That is the sound of a distress sale; it’s bound to depress the asset price even more.

The list of assets for sale includes all of Mechel’s Romanian steel plants; the Donetsk Electrometallurgical Plant in Ukraine, Nemunas in Lithuania; Mechel Service Global (excluding the Russian part); almost all the Oriel Resources assets in the ferroalloys segment; the Southern Urals Nickel Plant; Invicta Merchant Bar Ltd. (UK), Kuzbass Power Sales Company OAO (Russia), and Toplofikatsia Rousse EAD (Bulgaria).

The single most valuable asset on the block is a 25% shareholding in Mechel’s mining division, which produces coking coal. But for years now Zyuzin has been unable to get his price for that one, either by offering it to strategic buyers in Asia, or by attempting to list the mining division separately in London or Frankfurt. The collapse of steelmill output and demand for coking coal, pushing prices downward, will deepen the discount for Mechel Mining; that is, if anyone can be found who wants to pay for the privilege of watching from the sidelines while Zyuzin makes more of the management decisions that he has demonstrated his knack for. Moscow reporters think there may be a South Korean or Chinese steelmill owner willing to pay $1 billion for such a treat. A year ago, the asking price for 25% of Mechel Mining was between $1.5 billion and $2 billion.

For sale in this context means that Zyuzin has been told by his banks that he must sell all but a handful of his assets for cash to cover their margin calls. The Mechel posting on Tuesday is the nearest thing a Russian oligarch has ever come to admitting what a hash he’s made of his business for the past five years. It isn’t, however, an admission from Zyuzin of personal fault, liability, or even regret.

According to Alfa Bank steel analyst Barry Ehrlich, in a report to clients yesterday, Mechel is expected soon to consolidate the Estar group of steelmills on its balance-sheet; that will mean the addition of another $1 billion in debt carried over from Estar’s former owner, Vadim Varshavsky. The story of how Mechel has taken over the Estar steelmills without having to put Varshavsky’s mistakes and debts on the Mechel balance sheet – ignoring the usual SEC reporting requirements thereby – has been told here. This in turn, according to Ehrlich, has triggered the latest round of bank margin calls and liquidation orders.

Mechel’s first-quarter financial report says the net debt is $9.2 billion. It is going to be difficult to cut that significantly with the sale of assets on the list which are already loss-making. Evraz is reported as telling a Moscow newspaper that it has not been offered any of the assets on the list but “is ready to consider any interesting assets in the market.” The Donetsk mill may be a target of interest for Evraz.

The problem for Mechel in Romania is that it may owe the Romanian government more than the assets are worth, if the government’s investigation of privatization and investment terms finds fault. What makes the Romanian situation especially sensitive right now towards Russians is that at the same time Mechel wants to exit, Gazprom has been trying to enter the country’s petrochemical sector with a takeover bid for the Oltchim plant. This month, however, it was bested by a local mogul, Dan Diaconescu, who bid €45 million (plus assumption of €700 million in debt) for the state’s 55% control stake in Oltchim. Diaconescu has since refused to sign the sale and purchase contract on the ground the terms are different from the ones his tender had accepted. Government officials are counter-charging he doesn’t have the cash.

The entire tender process may be reopened, according to the Romanian prime minister Victor Ponta.

Russian Ambassador to Bucharest Oleg Malginov has been reported by Romanian sources as having been to see the Economy Minister, Daniel Chitoiu, this week. The sources believe their agenda included Mechel’s steelmill sale, and the steelworkers’ protests which have accompanied recent layoffs at the Campia Turzii plant and others. They aren’t sure whether Malginov also put in a plug for Gazprom’s interest in a new tender for Oltchim.

Mechel’s spokesman was unavailable to clarify what is happening in Bucharest. However, a spokesman for Ambassador Malginov said from Bucharest that he had met with the Economy Minister this week. They did not discuss Mechel or Gazprom, Campia Turzii or Oltchim, the source said. “There wasn’t even a mention about these companies. The ambassador doesn’t discuss these problems; they are businessmen’s deals.”

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