Innovative Emirates Steel
Jean-Marc Mangiavellano, Ian Cogswell and Antoine Trieux of Natixis, financial adviser to both Emirates Steel Industries and its parent company General Holding Corporation, explain the financing of Emirates Steel’s US$2.5bn expansion project.
In August 2010, Emirates Steel closed the financing of its US$2.5bn expansion project, with US$1.6bn of senior debt facilities and US$600m of subordinated working capital facilities making this the single largest steel financing ever closed in the Middle East and one of the largest project financings closed in the region this year. The debt was raised through a three-stage funding programme, which re-financed US$1.2bn of bridge loan facilities that were raised in 2008 at both the Emirates Steel and GHC level. The financing comprised of:
* A US$733m conventional project financing raised at the Emirates Steel level;
* A US$367m Sharia-compliant Islamic project financing raised at the Emirates Steel level;
* A US$500m SACE-covered term loan raised at the GHC level; and
* US$600m of subordinated working capital facilities arranged on a bilateral basis.
The financing structure incorporates a combination of tried and tested precedents, together with innovative variations, which were necessary to achieve a successful financing.
Originally established in 2001 as Emirates Iron & Steel Factory (EISF), Emirates Steel is indirectly wholly-owned by the government of Abu Dhabi, through GHC, and is strategically located at the recently developed Industrial City of Abu Dhabi (ICAD). The company acts as the platform for the Government of Abu Dhabi’s initiative to establish a leading local and regional integrated steel producer.
Emirates Steel is a key element in the development strategy of the Emirate, which involves the industrialisation and diversification of its economy, with strong fundamentals underpinned by an access to abundant and low-cost energy resources.
The original factory was already the largest steel plant in the UAE, utilising the latest rolling mill technology to produce reinforcing bars (rebars) for the construction industry. It remains the only significant domestic supplier of rebars and the original rolling mill had a design capacity of 600,000 metric tons per annum (tpa).
In 2006, Emirates Steel announced a significant expansion of its activities, to be undertaken in two phases. The Phase 1 Expansion comprised a 1.6m tpa direction reduction plant (DRP), a 1.4m tpa steel melt plant (SMP), a 0.62m tpa rebar rolling mill (RM2) and a 0.48m tpa wire rod and coil rolling mill (RM3), together with associated infrastructure and facilities, which was completed in December 2009.
The Phase 2 expansion will comprise a 1.6m tpa DRP, a 1.4m tpa SMP, a 1m tpa heavy sections rolling mill (RM4) and associated infrastructure and facilities. The DRP and the SMP of the Phase 1 and Phase 2 expansions programmes are sister plants and are scheduled to be completed by December 2012. Construction of both Phase 1 and Phase 2 (jointly, the expansion project) is being undertaken by Italian firm Danieli & C Officine Spa.
While the expansion project is not yet fully completed, Emirates Steel is already now one of the leading steel producers in the Middle East. The output capacity currently stands at 2m tpa and should reach 3m tpa by 2011, moving the company closer to becoming the Middle East region’s largest steel manufacturer.
The financing needs of Emirates Steel (debt amount to be raised) were substantial, amounting to US$2.2bn including subordinated working capital facilities. This represents the largest ever steel industry financing in the Middle East region. In structuring the project financing there were a number of key considerations to be taken into account, which included:
* The financing structure needed to be developed immediately after the peak of the financial crisis, at a time when bank liquidity was extremely tight, especially for transactions in challenging sectors such as steel. Furthermore, the UAE was facing a economic downturn (especially the construction sector in Dubai);
* The nature of Emirates Steel’s output results in an appreciable level of merchant risk. In addition, steel prices, which are inherently cyclical, experienced increased volatility following the global economic crisis;
* The global steel sector was restructured at the beginning of 2010 (the leading iron ore producers unilaterally changed the raw material pricing mechanism); and
* The expansion project was provisionally financed with bridge loan facilities, the maturity of which established a firm deadline by which this complex and multi-sourced project financing needed to be completed.
Maximising the liquidity and minimising the financing cost of the transaction in such a context was clearly the key challenge for the Emirates Steel financing team.
As described by James Finucane, project finance manager at Emirates Steel, the deal required a pragmatic approach.
“Throughout the financing process it was necessary to react to changing market conditions within the local and the international financial markets,” said Finucane. “We had to work closely with our key relationship banks and also draw upon the support of our sponsor, GHC. By adopting a flexible approach married with the strength of our project, Emirates Steel was able to maximise liquidity and minimise the overall financing costs.”
Beyond these hurdles, the underlying business of Emirates Steel benefits from a number of favourable economic factors, on the basis of which Emirates Steel built the structure of the financing:
* Emirates Steel benefits from strong government support, as an indirectly wholly-owned subsidiary of GHC, which is itself wholly-owned owned by the Government of Abu Dhabi;
* The expansion project will transform Emirates Steel into a vertically integrated steel producer, whereby it will complete its evolution from a simple and relatively low value-added processing operation into a sophisticated, highly productive and high value-added manufacturing business. On a UAE-delivered basis (delivery costs being added) it has been calculated that Emirates Steel will fall within the first (ie, lowest) percentile of the global cost curve;
* The highly competitive nature of the plant is further enhanced by the use of proven technologies and the substantial economies of scale and synergies associated with the combination of the Phase 1 and Phase 2 expansion projects, which will transform Emirates Steel’s production facilities into a world-scale asset;
* The EPC contracts, comprising the Phase 1 and Phase 2 EPC contracts, have all been signed on a lump sum turnkey basis with Danieli, one of the largest and most reputable suppliers of equipment and plant to the global metals industry; and
* Emirates Steel has been successfully producing and selling steel for almost 10 years. It has gained considerable expertise through the use of state of the art technologies and the employment of highly qualified personnel. This mutually beneficial combination has resulted in the achievement of record production levels and the establishment of strong customer relationships with local and regional steel traders and end-users.
While capitalising on the plant’s robust intrinsic strengths, the Emirates Steel financing team, together with financial adviser Natixis and legal adviser Denton Wilde Sapte, has developed an innovative and ambitious financing structure combining highly diversified funding sources to ensure that the required debt amount was raised at the most competitive pricing achievable despite adverse economic conditions.
Total cost of the expansion project amounted to US$2.5bn. GHC and Emirates Steel sought financing on a 60:40 senior debt to equity ratio and successfully raised a total of US$1.6bn of senior facilities (and additional subordinated facilities).
Maximising bank market liquidity for the transaction was achieved through the development of an advanced financing strategy, with four distinct facilities targeting separate investor groups:
At the Emirates Steel level:
* A US$733m conventional limited recourse senior project finance facility targeted at the local and regional bank market;
* A US$367m senior Sharia-compliant Islamic limited recourse project financing (Ijara) targeted at local and regional Islamic institutions; and
* A total of US$600m of subordinated working capital facilities raised on a bilateral basis with core local relationship banks;
At the GHC level:
* A US$500m ECA-covered facility (SACE) targeted at the international bank market.
The senior debt facilities have a seven-year door-to-door tenor, which was established as the optimum term following a preliminary market sounding. Furthermore, the repayment profile was sculpted with a back-ended profile in order to accommodate the ramp-up period and, in common with similar capital-intensive regional projects, the sponsor, GHC, provided a completion guarantee to be released upon the satisfaction of comprehensive technical and financial tests.
The US$733m conventional project financing was entirely subscribed by local and regional banks. Restricting the conventional loan to local and regional lenders that had developed strong relationships with both Emirates Steel and GHC enabled Emirates Steel to take advantage of favourable terms and conditions offered by close relationship banks. The final group of six MLAs included National Bank of Abu Dhabi, as global co-ordinating bank, together with Union National Bank, First Gulf Bank, Bank of Baroda, Arab Banking Corporation and Al Khaliji Bank.
The Islamic facility was structured as a standard forward lease (Ijara). The Islamic institutions acquired the assets (already constructed in the case of the Emirates Steel financing) and leased them back to Emirates Steel.
Islamic finance is increasingly sought by borrowers in the UAE and the wider Middle East region. Emirates Steel and GHC were no exception and consequently chose to maximise the size of the Islamic tranche, which supported the national objective of promoting Sharia-compliant borrowing. The facility was fully subscribed by the local institutions and MLAs on the transaction, Abu Dhabi Islamic Bank and Al Hilal Bank.
The syndication of these two facilities proved to be extremely successful and the total project finance facilities of US$1.1bn were more than two times oversubscribed.
Supporting the project finance facilities was a US$500m SACE-covered facility at the GHC corporate level. This was offered to international lenders and was more than four times oversubscribed. Competition for this portion of debt was intense and bids were extremely competitive, with the result that GHC was able to obtain particularly attractive terms from HSBC, which was appointed sole MLA. The SACE facility pricing helped minimise the project’s all-in financing cost.
Finally, a further US$600m of bilateral subordinated working capital facilities, sized upon the combination of the current trends in the steel industry and the scale and integrated nature of the expanded plant, were negotiated directly between Emirates Steel and its core local banks, to ensure that, despite the significant working capital requirement, the most competitive terms could be achieved.
Commenting on the deal Stephen Pope, CFO of Emirates Steel, said: “This is a real vote of confidence by the local, regional and international banks in Emirates Steel and in Abu Dhabi’s wider ‘Vision 2030’ initiative. This successful financing represents a true coming of age for our company and it was achieved through strong support from GHC, excellent relationship with our banking group and a state of the art steel making facility based in Abu Dhabi.”
Financing for the Emirates Steel expansion project was first launched in 2006 and the final funding structure is unrecognisable from that originally envisaged. However, the project clearly demonstrates the values of perseverance and flexibility. The sound underlying business rationale of Emirates Steel and its expansion project – to turn a simple low value-added rolling mill into a world-scale high value-added integrated steel complex – was widely acknowledged.
However, the announcement of a second phase expansion, the global financial crisis and the restructuring of the global steel industry, all of which occurred during the financing process, resulted in a delay in closing the financing and a more innovative and multi-sourced financing than originally expected.
The willingness of GHC to support Emirates Steel with guarantees for the bridge financing confirmed to lenders the strategic nature of the project and persuaded them to stay with the transaction over the course of almost four years.
In negotiating the financing terms, Emirates Steel acknowledged the need for a traditional project finance structure that would appeal to lenders in a more capital-constrained world and lenders responded with competitive pricing that acknowledged the strength of both the underlying business and of the multi-sourced finance structure.
The funding mix – conventional and Islamic project finance, SACE-covered corporate financing and bilateral working capital facilities – ensured sufficient liquidity for a financing of US$2.2bn in a notoriously cyclical sector and was key to the success of the transaction.