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UNIVERSITY OF MUMBAI

A
PROJECT REPORT ON
“FINANCING OF STEEL PROJECTS
IN PRIVATE SECTOR”

IN PARTIAL FULFILLMENT OF
MASTER OF MANANGEMENT STUDIES (MMS)
FINANCE SPECIALISATION

SUBMITTED BY
MILIND ANAND APTE

NCRD’S
STERLING INSTITUTE OF MANAGEMENT STUDIES
Sector - 19, Near Seawoods Darave Petr ol Pump, Nerul (E), Navi Mumbai -
400 706

ACKNOWLEDGMENT

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 1


I am grateful to my guide Mr. K M Oza for the valuable guidance and encouragement given to
me throughout this project work.

I would also like to thank my friends who have helped me in my project work and the library
staff of my college for all their patience and helping me find the required materials and books.

All this would not have been possible without the active support of my family members whose
constant encouragement motivated me to complete the ‘Master of Management Studies course.

Milind A. Apte
Roll No. 03
MMS 4th Semester
Batch: 2008-10

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EXECUTIVE SUMMARY
Steel is crucial to the development of any modern economy and is considered to be the
backbone of the human civilization. The level of per capita consumption of steel is
treated as one of the important indicators of socio-economic development and living
standard of the people in any country. It is a product of large and technologically
complex industry having strong forward and backward linkages in terms of material flow
and income generation. All major industrial economies are characterized by the existence
of a strong steel industry and the growth of many of these economies has been largely
shaped by the strength of their steel industries in their initial stages of development.

This report covers Indian steel scenario & it talks about the background of the steel industry, the
demand scenario, the supply scenario, the price scenario & the market potential of the Indian
steel industry. It presents a broad overview of the government reforms affecting the Indian steel
industry, the import duty structure, the policy on raw materials & the excise duty structure.

The report will also give an overview of processes for making steel, the various means of finance
available, the norms & policies of financial institutions, term loan procedure, kinds of financial
assistance & the risks prevalent in the steel industry. And a brief idea of the appraisal
methodology adopted by the financial institutions to appraise steel projects.

Table of Contents

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Sr. No Topic Page No.

1 INTRODUCTION 5

2 INDIAN STEEL SCENARIO 7

3 PRODUCTS AND PROCESSES 22

4 GOVERNMENT POLICY ON PRIVATE SECTOR 27


PRODUCERS

5 FINANCING IN STEEL SECTOR 29

6 APPRAISAL OF STEEL PROJECTS 50

7 BIBLIOGRAPHY 56

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1 INTRODUCTION

1.1 OBJECTIVES OF THE STUDY

• To understand the financial norms & Appraisal methodology adopted by the Financial
institutions with respect to steel projects in private sector.
• To analyze the Indian Steel scenario & the Government policies towards private sector steel
producers.

1.2 IMPORTANCE OF THE STUDY

• This study focuses on the Financing & Appraisal of steel projects in private sector & the
issues emerging therefrom.
• The study may help the policy makers in the central & state government in formulating new
policies towards new technologies that are more environments friendly & can provide an
impetus to the Indian iron & steel industry.

1.3 SCOPE OF THE STUDY

This study covers the following:


• The steel sector overview with the current & future demand & supply scenarios,
• An overview of the Government policies on the steel producers,
• An overview about iron & steel making processes, the financial institutions involved, their
norms & policies and the term loan procedure,
• An overview about the appraisal methodology adopted by the FI’s,
• The study also focuses on the risks prevalent in the steel sector.

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1.4 DATA

• Secondary data has been collected from various publications & brochures.

1.5 METHODOLOGY USED

• Research of secondary information available on Steel sector for current & future scenario,
growth, price & market potential.
• Research of secondary information available on financial institutions for their norms, policies
& risks they perceive in steel plants.

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2 INDIAN STEEL SCENARIO

2.1 PROFILE OF THE INDIAN IRON AND STEEL INDUSTRY:

At the dawn of India’s Independence 60 years back, Indian Steel Industry was practically
insignificant compared to other industries of the country as well as the world steel industry. In
1947, TISCO and IISCO in the Eastern Region of the country were the only steel producers
through Blast Furnace route and their production together was not even one million ton.

Today, Indian Steel Industry is producing about 36 million tones of finished steel and there are
about 200 big, medium and small steel plants, based on blast furnace and electric arc furnace
routes (scattered almost in every State of India), for production of mild, alloy and special steels.
Not only the steel production in India has gone up significantly, the Indian Steel Industry has also
turned into a large and important industrial sector of the country. It has also become a major
player amongst the steel producing countries of the world. India has already started exporting a
large volume of steel products all over the world.

Indian Steel Industry is playing a very vital role in the growth and advancement of Indian
economy. A large number of other industrial units like mining, refractories, ferro-alloys etc.
have come up in India as offshoots of the steel industry. It has also helped to mitigate our
unemployment problem significantly by generating large-scale employment opportunities,
particularly for skilled and technical manpower.

The growth of steel industry in a number of other countries, like Japan, China, Brazil, South
Korea and former Soviet Union has been considerably faster than what happened in India. Our
steel industry is yet to achieve much higher targets to be comparable with China and others.
However, inspite of the significant growth of production in the recent years, steel market in India
has not grown sufficiently to absorb its whole production.

The growth of steel industry in any country is primarily dependent on the infrastructural activities
of the country. The construction industry is the largest consuming sector of steel, even in the
case of industrially developed countries. For the countries like India, which are still on the path
of development, very fast growth of infrastructural facilities is extremely essential. But inspite of
official announcements, plans and programmes, the infrastructural development in India even

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now is very slow and highly inadequate. Perhaps one of the reasons for comparatively slow
growth of Indian economy lies in its poor infrastructure.

In the urgent interest of the growth of economy, it should be the immediate concern of our
Government as well as the entrepreneurs to invest and accelerate the growth of infrastructure in
the country. The economic future of the Indian Republic depends on the steps which we are going
to take to accelerate the infrastructural development of this vast country. The growth of Indian
steel industry in the coming years also depends largely on the growth tempo of infrastructural
activities and vice-versa.

2.2 BACKGROUND

India’s first steel company TISCO was set up in 1907 & began commercial production in 1912.
IISCO was established in 1919. The installed capacity was 2.5 million tons at the time of India’s
independence.

In 1951, the Government imposed licensing restrictions on the creation of new capacities. This
restricted the growth of private players & resulted in Government owning a major portion of the
steel capacity. The second five year plan (1956-61) outlined large capacities to be set up in public
sector. Accordingly, the Rourkela, Bhilai & Durgapur Steel plants were setup in the late 50’s
with German, Russian & British aides respectively. SAIL, operating as Hindustan steel Ltd, was
setup in 1973 as a holding company for the earlier established plants. Steel production grew from
1.6 million tons in 1955 to 6 million tons in 1965 at a CAGR of 14%. Per capita consumption
increased from 5 kgs to 12 kgs during this period.

The Government encouraged investments in steel through EAF route on account of lower capital
costs. Further these plants could have smaller capacities and were located close to end user
markets. As a result 1970s saw mushrooming of small EAFs units throughout the country. During
the same period the plan to set up the Rashtriya Ispat Nigam Ltd (RINL), mainly as a shore based
plant, was formalized. Construction of this 3 million tones plant commenced in 1982 in
collaboration with the erstwhile Soviet Union. However due to resource crunch the plant was
fully commissioned only in 1992-93.
The Government setup a Joint Plant Committee (JPC) to control the distribution and price of steel
produced by Integrated Steel Plants (ISPs). The intention was to ensure the availability of steel to
priority sectors at uniform prices across the country. Under the freight equalization scheme of the

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JPC, all the ISPs were required to contribute Rs 1000 per ton of steel to the fund which was then
used to equalize all the freight costs. Under this scheme, customers located close to ISPs
subsidized the far off customers. In this controlled era, the consumption of steel increased from
3.5 million tons in 60-61 to 14.8 million tons in 91-92 at a CAGR of 4.7%.
Finished Steel Consumption

50
45
40
35
30
M 25
T 20
P 15
A 10
5
0
78- 84- 93- 95- 97- 99- 20 20 20 20
79 85 94 96 98 00 01- 03- 05- 08-
02 04 06 09
Year

In 1991, the Government introduced the process of liberalization & the industrial policy was
delicensed. In line with this policy, the steel industry was delicensed in July 1991 & in Jan 1992,
the price & distribution of steel were decontrolled & the freight equalization levy was
discontinued. Production immediately started picking up & increased to 18 million tons in 1994-
95.Then the industry went into a bit of depression till in the beginning of 2002 it again picked up
on account of pick up in economy and demand from china. Today it stands at over 36 million
tones.

2.3 DEMAND SCENARIO

Following liberalization of the economy in 1991-92, the steel industry faced two years of
stagnant demand. Finished products demand was stuck at about 15 million tones from 1990-91
through 1993-94. Then, the economy entered a higher growth period. Apparent consumption of
finished steel products grew nearly 19% during fiscal 1994-95 to about 18 million tones and
about 16% in 1995-96 to about 21.3 million tones. However, there was a slowdown in the 1996-
97 fiscal year with preliminary demand figures as reported by the Steel Ministry increasing just
4.6% to 22.3 million tones.
The potential for the growth of steel demand is substantial, especially if one considers the
possibilities on a per capita basis. If the per capita consumption level were to rise to about 60 kg
from about 30 kg currently, this implies a steel demand of about 60 million tones per year. In
comparison, per capital steel consumption is about 200 kg in China, an average of 80 kg for all of

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Asia, and 58 kg in Latin America. Steel consumption in the developed countries is over 450 kg
per capita.

There is strong correlation between the GDP & the apparent steel consumption. GDP is estimated
to grow at an average rate of 6- 8% till the end of the decade. World Steel Dynamics Projects
finished steel product demand in India to grow at a 6.75% per annum rate to 2010, from an
estimated 19.5 million tones in fiscal 1995-96 to about 28 million tones in 2000/01, to 38 million
tones in 2005/06 and to 52 million tones in 2010/11. The Government estimates the domestic
demand to be about 31 to 34 million tones in the fiscal year 2001-02 & at 67 million tones in
2011. These figures are somewhat more optimistic than the World Steel Dynamics estimates.

The determinants of demand in India are as follows:

1. Elasticity of steel consumption to GDP


The elasticity of steel consumption to GDP is a ratio which is inversely related to the stage of
development in the country. In the growth phase this ratio is high due to the fact that the
industrial & infrastructure sector is growing and a bulk of investment is going into these sectors.
But as the economy approaches a mature phase there is an infrastructural saturation & the
absorptive capacity of steel in the economy declines. India is still in the initial phases of growth
& as per the estimates of Economic Research Unit (ERU), Ministry of steel, this ratio is 1.33,
which is high enough to attract investments in this sector.

2. Per Capita consumption


In 1995 India’s per capita consumption of steel was one of the lowest in the world at 30kgs. It
was low compared to China, Thailand & Mexico which are in the similar stage of development as
India, thus, indicating a tremendous potential of steel in the country.

Per capita steel consumption

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700

600

500

400

300

200

100

3. Contribution of industry to GDP

The share of industry in India’s GDP has increased from 17.5% in the 1950’s to 27.8% in the
1980’s, whereas that of agriculture has decreased from 50.6% to 33.8% over the same period.
The delicensing of industries is expected to result in higher levels of fixed capital formation. This
in turn would imply intensification of general construction activities & additions to the stock of
general machinery. As the economy develops, the contribution of industry and the service sector
to the GDP is expected to increase. Hence the demand for steel is expected to grow in tandem.

4. Development of the transportation sector


Demand for transport by rail or road is dependent on the level of economic & agricultural activity
which is reflected by the tonnage of goods being transported. Increasing urbanization further
promotes the need for public & private transport systems. as the transport sector gains
importance, the demand for steel which is the main raw material is expected to increase.

5. Growth in automobile sector


The uptrend in automobile sector began in 1993 following easing of recession. In 94-95 the
industry grew by 26% followed by 28% in 95-96.further in recent past its more exciting for
example the sector grew by 24% and 37% in 2007 2008 respectively. In long term, the demand
for flat products is going to increase as this sector grows.

6. Infrastructure growth

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Investment in infrastructure has only been by the public sector & the Government which were
constrained in the past on account of paucity of funds. The Government has already introduced
several structural reforms in the infrastructural sectors such as Power, Petroleum, Roads, Ports
etc. Investments in these sectors are expected to boost the demand for the long products.

7. Ability to replace wood


Increasing environmental concern has led to a restriction on the felling of trees. As steel is a
stronger material for construction than wood, therefore in the long term the steel will replace
wood in housing even in the rural sector.

8. Growing middle class


As per the Government estimates there are around 50 million families in the middle class with
increasing disposable incomes. This class is estimated to be growing by 20% each year. The
opening up of economy, entry of multinationals and availability of consumer finance has further
increased the demand for the consumer goods. This increase in demand for consumer goods is
estimated to grow at a high rate till the end of this century, thus translating into a demand for flat
products.

Import / export

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The annual import of steel has increased rapidly over 1994/95 in response to general economic
recovery, and is expected to remain at this level or more in the coming years. Exports declined
during 1994-95 in response to rapid increase in domestic demand and a sluggish world market to
recover again in 1995-96. There was a brief recession in years followed but in recent years there
has been sudden increase primarily on account of demand from china.

Steel import / export / production (in thousand tpa)

Year Import Export Production


1995-96 1485 1320 21227
1996-97 1651 1922 22720
1997-98 1815 2383 23370
1998-99 1637 1984 23820
1999-00 2200 2998 26710
2000-01 1632 3000 29100
2001-02 1375 3000 30630
2002-03 1510 4966 33637
2003-04 1650 5922 36190
2004-05 1744 6062 38438
2005-06 1859 6157 40656
2006-07 1965 5972 43104
2007-08 2062 6189 45679
2008-09 2120 6276 48231

Demand summarized: Steel demand was 21.3 million tons in the year 1996/97 & the growth
rate 4.6%. The average growth is 6.75% per annum till the year 2010. But with increase in per
capita consumption of steel the demand in 2011 can touch up to 67 million tons.

2.4 SUPPLY SCENARIO

In the fiscal year ended March 1996, the Indian steel industry produced about 21.8 million tons of
crude steel and 21.0 million tons of finished steel products. Preliminary figures reported in Steel
scenario for fiscal 2008-09 indicate that finished steel production increased to about 36.19 million
tons, a rise of about 10.74% from the previous year. On the basis of steel production, India ranks
as the 8th highest in the world.
Status of new projects as on Jan 1996:

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Projects under implementation 13 million tons Rs 30835 crores
Projects indicated to MOS 4.5 million tons N.A
By the end of ninth plan (2001-02), the Ministry of Steel has targeted steel consumption to reach
37 million tones, including exports of 6 million tons. Based on the current production levels from
the existing units, the ministry expects a shortfall of around 13 million tons which is to be met by
private investments.
Supply summarized:
Steel production was 36.19 million tons in the year 2008-09 & the growth rate 10.74 %.

2.5 PRICE SCENARIO

Price regulation was abolished by the government in 1992, even in distribution of steel by
government is decided on priority basis only in five sectors namely defense, railways, northeast,
SSIs & exporters of engineering goods. Prices in general have been on the rise simultaneously
government has been reducing duties as well as taxes for last few years. Today the price is
basically being dictated by export demand

2.6 MARKET POTENTIAL

By the end of year 2010, the demand is expected to be 53 million tons, if calculated as per
expected growth rate in demand. The World Steel Dynamics (WSD) also makes a projection of
about 52 million tons in the fiscal year 2010-11. But if one keeps in consideration the per capita
steel consumption of 30 Kgs as in India currently & compare it with per capita consumption of
Asia, which is about 80 Kgs, there is a huge potential for steel industry in India. Using this
criteria, the Govt. estimates the demand to rise at a rate of 8.5% and at 67 million tons in the year
2010-11.

The supply is expected to be around 60 million tons, if calculated at the expected growth rate.

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70.0

60.0

50.0

40.0 DEMAND (WSD)


MTPA

DEMAND (GOVT)
30.0 SUPPLY

20.0

10.0

0.0
1996 - 97

1997 - 98

1998 - 99

1999 - 00

2000 - 01

2001 - 02

2002 - 03

2003 - 04

2004 - 05

2005 - 06

2006 - 07

2007 - 08

2008 - 09

2009 - 10

2010 - 11
Fiscal year

The gap between demand & supply present a grim negative value of 7 million tons, if only
growth rates are considered. But if the Govt. estimates based on the factors affecting the steel
demand are considered then there exists a positive gap of 7 million tons. This gap can be even
more than the projected figure as the Indian economy grows and this represents the tremendous
potential of the Indian steel industry in terms of investment opportunities.

2.7 MAJOR INDIAN IRON AND STEEL INDUSTRIES

Steel Authority of India Ltd. (Sail):


Steel Authority of India Limited (SAIL) is the leading steel-making company in India. It
is a fully integrated iron and steel maker, producing both basic and special steels for
domestic construction, engineering, power, railway, automotive and defence industries and
for sale in export markets.

Ranked amongst the top ten public sector companies in India in terms of turnover, SAIL
manufactures and sells a broad range of steel products, including hot and cold rolled
sheets and coils, galvanised sheets, electrical sheets, structurals, railway products, plates,
bars and rods, stainless steel and other alloy steels. SAIL produces iron and steel at four
integrated plants and three special steel plants, located principally in the eastern and

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central regions of India and situated close to domestic sources of raw materials, including
the Company's iron ore, limestone and dolomite mines.

SAIL's wide range of long and flat steel products are much in demand in the domestic
as well as the international market. This vital responsibility is carried out by SAIL's own
Central Marketing Organization (CMO) and the International Trade Division. CMO
encompasses a wide network of 38 branch offices and 47 stockyards located in major
cities and towns throughout India. With technical and managerial expertise and know-how
in steel making gained over four decades, SAIL's Consultancy Division (SAILCON) at
New Delhi offers services and consultancy to clients world-wide.

SAIL has a well-equipped Research and Development Centre for Iron and Steel (RDCIS)
at Ranchi which helps to produce quality steel and develop new technologies for the
steel industry. Besides, SAIL has its own in-house Centre for Engineering and
Technology (CET), Management Training Institute (MTI) and Safety Organization at
Ranchi. Our captive mines are under the control of the Raw Materials Division in
Calcutta. The Environment Management Division and Growth Division of SAIL operate
from their headquarters in Calcutta. Almost all our plants and major units are ISO Certified.
The Government of India owns about 86% of SAIL's equity and retains voting control
of the Company. However, SAIL, by virtue of its "Navratna" status, enjoys significant
operational and financial autonomy.

As part of the plan, SAIL will increase hot metal production from its plants to a level
of about 20 million tonnes per annum (MTPA) by 2012.
In view of emerging market requirements, SAIL has also planned to raise its output of
finished steel to 16.6 MTPA by 2011-12 from the current level of 8.6 MT, and reduce
generation of semi-finished steel from 20% of saleable steel to 4%. This will enable
inclusion of more value-added products in the company’s product basket.

Products:
Semis: Blooms, Billets & Slabs
Long product: Structurals Crane Rails Bars, Rods & Rebars Wire Rods
Flat product: Sheets & Skelp Plates, CR Coils & Sheets, GC Sheets\ GP Sheets and
Coils Tinplates Electrical Steel

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Tabular product: Pipes
Railway product: Rails Wheels, Axles, Wheel Sets

PRIVATE SECTOR COMPANIES


1.Tata Iron and Steel Company Limited (TISCO)
TISCO has an integrated Steel Plant, with an annual crude steel making capacity of 4.0
Million Tonnes, located at Jamshedpur, Jharkhand. The Steel Works is situated at
Jamshedpur in the State of Jharkhand, India. The factory covers 800 hectares of land. West
Bokaro Division in Hazaribagh District covers 2000 hectares land in which mining and
coal beneficiation activities are performed. Jharia Division occupies 2500 hectares of land
for its industrial, mining and domestic activities in the District of Dhanbad both in the
State of Jharkhand. The Iron Ore and Dolomite Mines are located at Noamundi in the
State of Jharkhand and at Joda, Katamati, Khodbond and Gomardih in the State of
Orissa. Over the years, Tata Steel has emerged as a thriving, nimble, steel enterprise,
due to its ability to transform itself rapidly to meet the challenges of a highly
competitive global economy and commitment to become a supplier of choice. Constant
modernization and introduction of state-of-the-art technology at Tata Steel has enabled it
to stay ahead in the industry.

Tata Steel's four-phase Modernization Programme in the steel works has enabled it to
acquire the most modern steel making facilities in the world. Recently, Tata Steel
commissioned its 1.2 million tonne capacity Cold Rolling Mill complex at 'Global Speed
and Cost'. Its fifth phase of the Modernization Programme leveraged the intellectual
capabilities of its employees to generate sustainable value for the stakeholders. Most
recently, it has embarked on a programme for expansion of its existing steelmaking
capacity by 1million tonne to reach a rated capacity of 5 million tonnes per annum.
Tata Steel has continuously been on the growth path and is constantly striving to improve
the EVA of the company by seizing the opportunities of tomorrow and by exploring
newer avenues of operations such as a ferro-chrome and titanium. Tata Steel, after
completion of their four phases of modernization has achieved a production of 3.54
million tonnes of finished steel and 4.22 million tones of crude steel in 2006 – 2007,
surpassing all previous records. The performance of TISCO was marked by higher
volumes, richer product – mix and considerable achievement in the areas of cost
reduction and improvement.

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2.Jindal Organization:
$ 2 billion Jindal Organization has expanded and diversified into core business areas
ensuring synergy amongst its various business ventures, spreading over 13 plants at 10
pivotal locations in India and two plants in USA.
Group Companies:
Jindal stainless limited
Jindal iron and steel company limited
Jindal vijayanagar steel limited Jindal steel and power limited
Jindal united Steel Corporation

Jindal stainless limited: India's largest integrated manufacturer of Stainless Steel catering
to about 40% of Indian demand.
Plant Location - Hisar, Harayana
Capacity - 500,000 tpa
High Carbon Ferro Chrome plant at Vishakhapatnam, Andhra Pradesh

Jindal iron and steel company limited: India's largest integrated galvanising facilities in
private sector accounting for 25% of total galvanising production in the country. It is
engaged in Hot Rolling, Cold Rolling and Galvanising business. Export of 75% of production to
over 45 countries.
Plant Locations - Vasind and Tarapur, Maharashtra
Capacity - HR 280,000 tpa, CR 900,000 tpa, GP/GC 850,000 tpa

Jindal vijayanagar steel limited: An environment friendly integrated steel plant


manufacturing HR coils using the revolutionary Corex technology for iron making.
Supplies HR coils to group company JISCO for value addition and to South India. Only
HR coil manufacturer in South India. Tie up with world steel leaders gives unique
advantage in manufacturing and technology.
Plant Location - Toranagallu, Karnataka
Capacity - 2.0 million TPA
Products: Mild steel hot rolled coils, Mild steel hot rolled plates & sheets,

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Jindal Steel & Power Limited: Asia's largest and world's second largest coal based
sponge iron plant. Also manufacturing Rails, Blooms and Power
Plant Location - Raigarh, Madhya Pradesh

JSPL is one of the lowest-cost producers of sponge iron in India. Backward integration
has given JSPL the distinction of being the only sponge iron manufacturer with its own
captive raw material resources and power generation. This has enabled JSPL to monitor
both price and quality of its products. At Raigarh, JSPL has the world's largest coal-
based sponge iron manufacturing facility, with an installed capacity of 6,50,000 TPA,
using six rotary kilns. Growth and expansion plans include an additional 1.3 million TPA
capacity of sponge iron with the commissioning of 4 rotary kilns and a 250,000 MT
capacity for metallics charge using the state-of-the-art rotary hearth furnace.

JSPL has entered into a technical collaboration with NKK Corporation, Japan for
technology transfer to produce superior quality, world's longest rails of 120m-finished
length, along with Parallel Flange Beams, Columns and Sheet Piles for the first time in
the country. The agreement covers 'know-how' transfer encompassing steel-making,
secondary refining and continuous casting up to rolling and finishing of long rails and
universal beams; deputation of NKK multi-disciplinary specialists at the JSPL plant; and
training of JSPL personnel at NKK steelworks in Japan. This technical collaboration shall
enable production of long rails requiring far less joints in tracks, ushering a new era in
safer rail-travel and making introduction of fast trains in India a reality.
Product Range: Carbon & Alloy Steels confirming to National & International Standards
like SAE, AISI, DIN,IS and ASTM
Jindal united steel corporation: Manufactures steel plates for use in large diameter pipes,
construction and fabrication industries.
Plant Location - Bay Town, Texas, USA
Capacity - 1.2 million TPA

3.Essar Steel:
Essar is an integrated steel producer, with operations all along the value chain. Essar
Steel produces some of the world's best steel at its state-of-the-art steel complex in
Hazira, Gujarat. It is also India's largest exporter of flat products, sending half of its

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production abroad, mainly to the highly demanding markets of the West, and the growth
markets of South East Asia and the Middle East. Essar ensures excellent customer service
through a modern distribution network.

Essar Steel's core manufacturing facilities are located at its steel complex in Hazira,
Gujarat. The Hazira complex includes a 2 MTPA hot briquetted iron (HBI) plant, a 2.4
MTPA hot rolled coils (HRC) plant and a downstream complex. These facilities are
complemented by its joint ventures: a 3.3 MTPA pellet plant in Vishakapatnam and a
200,000 TPA cold-rolled coils plant in Indonesia.

Essar Steel operates the world's largest gas-based hot briquetted iron (HBI) plant with a
production capacity of 3.4 MTPA. The plant uses state-of-the-art technology, which
ensures high quality raw material for the steel plant. Essar Steel is one of the world's
lowest cost producers of HBI on a per tonne basis. The plant is supported by a captive
power plant of 32MW, which operates at 100% capacity.

All Essar Steel's products are world-class, meeting the highest international standards,
supported by excellent marketing and service:
Iron Ore pellets, Hot briquetted (sponge) iron (HBI), Hot rolled coils (HRC), Cold rolled
coils (CRC), Plates, Sheet

Essar Steel defines value as value to customers because when its customers prosper, the
company prospers. Delighting its customers drives its unique approach to marketing. First, to
help its customers choose the best steel every time, it became the first Indian company
to brand flat products, under the name "24-carat steel". When customers ask for 24 carat
steel, they are assured of the world's best steel, backed by the strength and promise of
Essar Steel's technology, quality and distribution.

4.Ispat Industries Limited (IIL):


Ispat Industries Ltd. (IIL) has set up a 3 million tones per annum of hot rolled steel coil
plant at Dolvi in Raigad District, Maharashtra. The Dolvi complex also has a modern
blast furnace (setup by a group company Ispat Metallics India Limited) capable of
producing 2.0 million tones per annum of Hot Metal / Pig Iron and a DRI plant with a
capacity of 1.2 million tones per annum. It is ISO 9002 and ISO 14001 certified. Further,

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the complex envisages adding 110 MW captive power plant (which will use the BF gas)
by the year 2005.

The steel plant is using the electric arc furnace route (CONARC process) for producing
steel. In this project, IIL have uniquely combined the usage of hot metal and DRI
(sponge iron) in the electric arc furnace for production of liquid steel. For casting and
rolling of liquid steel, IIL have the state-of-the art technology called compact strip
production (CSP) process, which is installed for the first time in India and produces high
quality and specifically very thin gauges of HRC. IIL’s products are well accepted in
international markets.

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 21


3 PRODUCTS AND PROCESSES

3.1 TYPES OF STEEL PRODUCTS

Steel making is a complex process and different types of products are obtained at each stage. The

various products obtained in the process of production are given below:

Hot metal (Molten iron)

Crude (Liquid) steel

Billets Blooms Slabs

Wire rods Bars Structurals Sheets/Plates

(Long products) Light Medium Heavy Hot rolled Cold rolled

coils coils

(Long products) (Flat products)

Hot Metal: Iron ore is mixed with coke, dolomite and limestone to form a homogenous mixture
called “charge”. This charge is fed into the blast furnace at a high temperature where iron ore is
reduced and molten iron or hot metal is formed. Hot metal, when otherwise not used for making
steel is cast by pig casting machines into moulds. The product from these moulds is called pig
iron and is sold to foundries for making cast iron.

Crude steel: The output obtained from the LD furnace or Open hearth furnace or the EAF
furnace is called crude steel. Crude steel is further cast into ingots, billets or slabs.
Semis or Semi finished steel: Molten steel is required to be cast into solids before it is usable.
Molten steel is either cast into ingots or directly into billets/ blooms or slabs by the continuous

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casting process. When heated ingots are rolled into slabs, blooms or billets the process is called
primary rolling. These can be either sold to rerollers for further conversion or can be processed
further in-house. Semi finished steel is the first stage at which steel is saleable. Hence it is also
called saleable steel.

Ingots: Crude steel is poured into a mould where it solidifies into a rectangular block of
dimension (4 mtr, 2 mtr, 1 mtr). Ingots are produced when the manufacturer does not have
continuous casting facilities. Ingots are further rolled into semi finished products.

Blooms: Ingots can be rolled into smaller rectangular blocks of 6” - 12” square cross section and
8 feet to 18 feet in length. Blooms are further rolled into billets or slabs.

Billets: Blooms can be further rolled into smaller rectangular blocks with square cross section of
6-12 cms square and length 6-10 mts called billets. Most rerollers buying semis prefer billets due
to their smaller size. Billets are further converted into long products like rounds, bars and wire
rods.

Slabs: A bloom can be rolled into slabs which have a rectangular cross section (15-50 cms * 10-
15 cms) and 6-10 meters in length. Slabs are used to further manufacture flat products like
plates, holt rolled (HR) and cold rolled (CR) products.

Finished steel: Finished steel is obtained through further processing of semis. They can be
either flat product (e.g. hot rolled coils, cold rolled coils, CR strips etc.) or long products (bars,
structural, wires etc.). Finished steel is further classified as follows
Longs: includes bars, structurals, wire rods, wires, wire ropes, steel pipes and tubes.
These find application mainly in the construction and engineering industries.
Flats: includes Hot Rolled (HR) plates/ coils/ sheets, Cold Rolled (CR) coils/ strips/
sheets, galvanized plain (GP) sheets, coils, galvanized corrugated (GC) sheets. These
products find application in the automobile, consumer durables and engineering
industries.

3.2 PROCESSES

There are five basic processes for steel making.


• The Blast Furnace route (BF) route

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• The Electric Arc Furnace (EAF) route
• Induction furnace route
• Mini blast furnace route
• Corex route
Of these the Blast Furnace route and the Electric Arc Furnace route account for 95% of the steel
production in the world. These two processes mainly differ in the terms of the raw material and
the process used to manufacture crude steel.

1. BLAST FURNACE ROUTE


The Integrated Steel Plants (ISPs) employ the Blast Furnace (BF) route to produce crude steel.
Steel production comprises two stages: reduction of iron ore to iron in the blast furnace and
conversion of iron to steel in the Open Hearth Furnace or the Linz and Donawitz (LD) furnace.
Blast Furnace

The main raw materials in this process are iron ore, coke, limestone, dolomite and manganese
ore. Coke is used as a reducing agent, to remove oxygen from the iron ore. Coking coal is
converted into coke in the coking ovens, wherein impurities like sulphur and phosphorous, which
are detrimental to the quality of steel, are removed. The concentrated iron ore along with
limestone, coke, etc. Is fed into the blast furnace and hot metal is obtained. This hot metal is an
impure form of steel and is called pig iron when cooled and solidified.

Open Hearth Furnace (OHF) / Basic Oxygen Furnace (BOF) or (LD) process
The hot metal obtained from the blast furnace route is further refined or purified in an open
hearth furnace (OHF) or LD furnace to obtain crude steel. The OHF is increasingly being
replaced by the LD process in the manufacture of steel worldwide. The LD process is
economical both in terms of capital and operational costs. The “heat time” or tap-to-tap time of
steelmaking in a LD process is very low at approximately 1 hour as against 8-10 hours in the
OHF process. Further heat consumption in the LD process is low at 0.1 gcal compared to 1.2
gcal of heat consumption by the OHF (Under Indian conditions).
2. ELECTRIC ARC FURNACE ROUTE
The mini steel plants employ the Electric Arc Furnaces (EAF) to manufacture steel. In this
process a mixture of scrap and sponge iron is melted in an electric furnace and then refined to
produce molten steel.

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The EAFs are designed as single phase or three phase units. In a single phase unit, a single
carbon electrode is suspended in the centre of the furnace and the carbon bottom of the furnace
serves as the second electrode. In a three phased furnace, the three electrodes are spaced into the
arc furnace and arc buried in the charge. This unit has an open top and the charge consisting of
steel scrap and sponge iron is either shoveled in or introduced by chutes. After charging, the
electrodes are lowered and the arc is struck. The heat from the arc around 5000 0C melts the
charge and a pool of liquid steel called “bath” is formed which contains impurities. Flux
(limestone) is then added which forms the slag over the surface of the liquid metal. This
oxidizing slag is removed from the surface and the molten liquid is tapped at the bottom. The
molten steel is then cast to produce semis which are then processed in different rolling mills to
produce steel products (longs and flats). The choice of the EAF depends on the type of steel to be
manufactured, economic considerations and required quality of the finished product.

3. INDUCTION FURNACE
The induction furnace is based on the principle of heating by induced currents. The primary coil
fo the furnace is constructed of water cooled copper tubing, positioned towards the inside of the
furnace shell, covered with a layer of refractory material. It normally operates on alternating
current at a frequency of approximately 1000 cycles produced by a motor generator set of special
design. The power is transmitted over the co-axial cables to the primary coil of the furnace. The
high frequency power applied to the primary coil creates a magnetic flux which passes through
the charge which in turn acts as the secondary winding of a transformer having a single turn.
This induced current melts the charge by the heat developed due to the electrical resistance.

4. MINI BLAST FURNACE (MBF)


The MBF is basically a scaled down version of the blast furnace and is largely used for the
production of foundry grade pig iron. The process is similar to the blast furnace route where the
iron ore is reduced in the blast furnace with coke acting both as reductant and fuel. Hot air at a
temperature of around 10000C is blown from the turbo blowers. The molten iron is tapped into
ladles and cast into pig casting machines and the slag is remvoed. This process has the advantage
of lower capital costs and shorter gestation period and lesser complications in stabilising as
compared to the blast furnace. Further it overcomes the draw back of requirement of scrap and
power used in the EAF process.

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The widely used technologies fro manufacture of pig iron in India are those developed by Tata
Korf, India (Sesa Goa, Tata Metaliks), Mannesman Demag, Germany (Usha Ispat) and China
Metallurgical Import and Export Corporation (CMIEC) of China (Mideast Integrated Steels Ltd).

5. COREX R ROUTE
The COREX R process uses low grade non coking coal which is abundantly available all over the
world as a reductant and energy source. On an average the price of non coking coal is lower by
about $ 20 per ton than that of coking coal. The Corex process eliminates the need for coke oven
battery and sinter plant required by the blast furnace.

The COREX process was developed by Voest Alpine Industrieanlagenbau (VAI) GmbH, Austria,
around 1975. It was subsequently, extensively tested and modified from 1981-87 in Germany.
The Corex-BOF route has been commercially proven at ISCOR Limited, Pretoria (South Africa).
Jindal Vijaynagar Steel Limited having two C-2000 units is being set up in Karnataka, South
India. COREX-MIDREX combination comprising two C-2000 units of COREX & a module 800
of MIDREX is being set up in HANBO, South Korea & the same combination is also being set
up at Saldhana, South Africa. Voest Alpine has also received orders from Pohang Iron & Steel
Company Limited (POSCO), South Korea for a C-2000 unit.

The COREX process releases large amount of top gas with high calorific value which can be used
for power generation.
Compared to the blast furnace route the corex process has the following advantages:
- Use of non coking coal, the reserves of which are abundant in India
- Lower operating costs
- Lower emissions as compared to the blast furnace route
- Further, the top gas released is used for generation of power.

4 GOVERNMENT POLICY ON PRIVATE SECTOR PRODUCERS

4.1 BACKGROUND

The Steel Development Fund (SDF) was created in 1978 to provide low cost funds to the ISPs, to
be used mainly for modernization and expansion programmes. The funds corpus was built by

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 26


charging a levy of Rs. 350-500 per tones of steel sold by the primary producers. However, the
SDF levy was discontinued in April 1994.

Engineering goods export assistance fund (EGEAF) was created to make steel based engineering
exports from India internationally competitive. The government was utilising this fund to
reimburse engineering exporters the difference between the domestic and international steel
prices under the International Price Reimbursement Scheme (IPRS) introduced in 1981. ISPs
were required to pay an EGEAF levy of Rs. 300 per tones of steel sold. Although IPRS was
discontinued from 1995, the EGEAF levy was still being charged in order to meet the IPRS
arrears. However, the same has been discontinued in February 1996.

4.2 ECONOMIC REFORMS AFFECTING THE STEEL INDUSTRY

The New Economic Policy initiated in 1991-92 marked revolution in the Indian economy. The
Indian iron and steel industry, previously under numerous state controls, has been deregulated in
tune with the emerging economic philosophy. For this sector, some of the important changes are,
• Large-scale capacities have been removed from the list of industries reserved for the public
sector.
• Licensing requirement for additional capacity creation has been abolished.
• The system of price and distribution control dismantled.
• Inclusion in the high priority list for foreign investment which implied automatic approval for
foreign equity participation up to 74% on condition that the permissible equity covers the cost
of imported capital goods and foreign technology agreements up to specified limits.
• Replacement of freight equalization system by a system of freight ceiling.
• The peak import tariff rates have been lowered from a level exceeding 100% to15% in 2003-
04.
• Physical control on imports by way of licensing was relaxed.

Apart from the sector-specific reforms, the steel industry benefited from the general
economic reforms. These are:
• Convertibility of the rupee on trade account has helped in removing the bias against exports.
• Exporters are allowed to import capital goods at concessional rates linked to their export
earnings.
• Opening up of foreign trade meant easier access to input materials at competitive rates from
overseas sources.

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 27


• Import of technology and foreign know-how made less restrictive.
• Rationalization of indirect taxes.

4.3 RAW MATERIALS

Raw material in India is not of very good quality namely coke as it has high ash component plus
also large quantity of water; however government has reduced the duties on coal both on
domestic as well as imported coal progressively over the years

4.4 EXCISE (PRODUCTION DUTY)

Excise duty on all steel products is at 12% ad valorem. No change is expected in the excise duty
structure.

4.5 OUTLOOK

In view of the large infrastructure and industrial growth potential in India, the Government is
encouraging steel capacities by the private sector in the country. Further the government is also
opening up mining activities, ports and roads to foreign and private sector participation.
The role of the government as a major buyer of long products is expected to reduce in the long
term with the participation of the private sector in infrastructural projects.
Although reducing tariff barriers may increase the threat from imported steel, the decrease in
import duties is expected to be offset by the likely depreciation of the rupee. However, products
like HR coils continue to face competition from imports. Hence manufacturers would have to
control costs, improve quality and establish a base in the export market.

5 FINANCING IN STEEL SECTOR

5.1 MEANS OF FINANCE

To meet the cost of the project following are the means of finance available:
• Equity capital
• Preference capital
• Debenture capital
• Rupee term loan
• Foreign currency term loan

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 28


• Euro issues
• Deferred credit
• Bills rediscounting scheme
• Suppliers line of credit
• Seed capital assistance
• Government subsidies
• Sales tax deferment & exemption
• Unsecured loans & deposits
• Lease & hire purchase finance

Equity capital
This represents the owner’s contribution towards business. The equity shareholders enjoy the
rewards & the risks equally. However their liability is limited to the capital contributed in limited
companies. This type of capital has two distinct advantages i.e. firstly it represents a permanent
capital to the business without the liability to payback & secondly it does not involve any fixed
obligation for payment of dividends. The disadvantages of this type of capital is that its cost is
high, being a non tax deductible expense & the flotation cost is also very high.

Preference capital
This represents a mix of equity & debt capital. It is similar to equity because preference dividend
being a non tax deductible expense and it is similar to debt since it carries a fixed rate of
dividend. This kind of financing is attractive only when the promoters without reducing their EPS
try to increase their net worth in order to meet the requirements of financial institutions.

Debenture capital
There are 3 kinds of debentures that are commonly used : non convertible debentures (NCD),
partially convertible debentures (PCD), fully convertible debentures (FCD). The debentures carry
a fixed rate of interest & the interest paid is a tax deductible expense. It is this property which
makes it’s cost less when compared to costs of equity and preference capitals.

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 29


Rupee term loan
This kind of assistance is provided by the financial institutions & commercial banks against some
security. RTL, which are basically secured borrowings, represents a very important source of
finance for the projects. These loans carry generally a fixed rate of interest on capital & are
charged on a reducing basis. Repayment period is generally 8 to 10 years on half yearly or
quarterly installments. A moratorium period of up to 5 years is permitted for large projects.

Foreign currency term loan


Financial institutions provide foreign currency term loans for meeting the foreign currency
expenditures towards import of plant & machinery, equipment & payments to foreign technical
knowhow fees. There are two types of schemes ie general scheme & the exchange rate
administration scheme. The financial institutions act only as a intermediaries between foreign
agencies & the Indian borrower. The companies can also directly approach the international
money lenders for such type of loans.

Euro issues
There are two types of securities under this scheme i.e. Global depository receipts (GDR) & Euro
convertible bonds (ECB). A GDR is a negotiable certificate that represents the equity shares of a
non-US company traded in local currency. GDRs are issued by a depository bank against the
local currency shares. ECB is an equity linked debt security. The holder of this security has the
option to convert it into equity shares at a pre-specified ratio during a specified period.
Deferred credit
This type of capital is basically a facility provided by supplier of machinery under which
payment for the purchase is made over a period of time. The interest rate & the period of
payment depend on the supplier. Normally, the supplier before giving a deferred credit facility
insists on a bank guarantee by the buyer.

Bills rediscounting scheme


This scheme, promoted by IDBI, is meant to promote the sale of indigenous machinery on
deferred payment basis. The seller realizes the sale proceeds by discounting the promissory notes
of the buyer with any commercial bank which rediscounts it with IDBI. This scheme is meant
only for expansion, modernization or replacement projects.

Supplier’s line of credit

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This scheme, administered by ICICI, is similar to the previous one by IDBI. ICICI pays directly
to the seller against the bank guarantee of the buyer.

Seed capital assistance


Financial institutions provide this type of assistance to promoters of small & medium scale
industrial units. Three schemes have been formulated ie Special seed capital assistance (Rs 0.2mn
or 20%), Seed capital assistance (Rs 1.5mn) & Risk capital foundation (Rs 1.5mn to Rs 4.0mn).

Government subsidies
The state Govt. provides subsidies to the certain projects set up in that state. This subsidy varies
from 5 % to 25% of the fixed capital investment, subject to a ceiling depending on the location.

Sales tax deferments & exemptions


This is an incentive given to certain industry by the state Govt. in order to attract the investors to
set up projects in that state. In sales tax deferment, the sales tax to be paid in the initial years is
deferred for a period ranging 5 to 12 years. In the sales tax exemptions the tax payable is
exempted for a certain period.

Unsecured loans & deposit


These loans are normally taken by promoters to bridge the gap between the promoters
contribution required and the equity capital subscribed by the promoters. These loans are
subsidiary of the institutional loans. Public deposits also represent unsecured borrowings, from
the public, of two to three years duration. However for a new company it is difficult to raise
public deposits as it may not be in a position to pay it back in two to three years.

Leasing & hire purchase finance


Under this scheme some of the fixed assets could be financed by lease or hire purchase
agreement. A number of finance companies are engaged in the business of leasing & hire
purchase agreements.

5.2 INSTITUTIONS FOR FINANCE

The structure of financial institutions in India is as follows:

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 31


I. All India institutions
• Industrial Finance Corporation of India
• Industrial Credit and Investment Corporation of India
• Industrial Development Bank of India
• Other all-India Institutions
II. State-level institutions
• State Financial Corporations
• State Industrial Development Corporations

I) ALL INDIA INSTITUTIONS

Industrial Finance Corporation of India


The Industrial Finance Corporation of India (IFCI), the first all-India term-lending institution,
was set up in 1948 with the primary objective of providing medium and long-term credit to
industry. It is headquartered in New Delhi. The source of funds for IFCI are paid-up capital,
reserves, repayment of loans, market borrowing, loans from the Government of India, advances
from the Industrial Development Bank of India, and foreign lines of credit from KfW (West
Germany), FFCE (France), ODA (UK), and others.

Industrial Credit and Investment Corporation of India


The Industrial Credit and Investment of India (ICICI) was founded in 1955. It is owned and
financed mainly by the private sector. It is headquartered in Mumbai. It provides assistance to
units in the private sector, particularly to meet their foreign exchange requirements. The
resources of ICICI consist of paid-up capital, reserves, repayment of loans, borrowing from the
Government of India, advances from the Industrial Bank of India, market borrowings and foreign
lines of credit from the World Bank, USAID, KfW, UK Government and others.

Industrial Development Bank of India


The Industrial Development Bank of India (IDBI) was established in 1964 as a subsidiary of the
Reserve Bank of India. It is headquartered in Bombay. It is the apex term-lending financial
institution in India. It has been designated as the principal financial institution of the country for
coordinating, in conformity with national priorities, the working of institutions engaged in
financing, promoting, and developing industry. IDBI finances the industry directly and also
provides principal support to State Financial Corporations and State Industrial Development

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 32


Corporations and commercial banks in their financing of industries, through refinancing and bill
discounting facilities. The resources of IDBI consist of paid-up capital, reserves, repayment of
loans, market borrowings both within and outside the country, temporary credit from the Reserve
Bank of India, and foreign lines of credit from the World Bank, Asian Development Bank and
others.

Life Insurance Corporation of India


The Life Insurance Corporation of India (LIC) came into being in 1956 after the nationalization
and merger of about 250 independent life insurance societies. It is headquartered in Bombay.
The primary activity of LIC is to conduct the life insurance business, but it has gradually
developed into an important all-India financial institution which provides substantial support to
industry. It works in close liaison with the other all-India financial institutions in providing
finance directly and in helping industrial concerns by its underwriting support. Due to its massive
resources, LIC is one of the two largest institutional investors in the country. By law it is
required to invest 25 per cent of its funds in government securities and a further 25 per cent in
‘approved securities’.

General Insurance Corporation


The General Insurance Corporation (GIC) was founded when the management of general
insurance business in India was taken over by the government in 1971 a subsequently
nationalized in 1973. It is headquartered in Bombay. In addition to investing in ‘socially-
oriented’ sectors, where the bulk of its investable resources are required to be invested, GIC
provides substantial assistance to industrial projects by way of term loans, subscription to equity
capital and debentures, and underwriting of securities.

Unit Trust of India


The Unit Trust of India (UTI) was set up in 1964 with the principal objective of mobilizing
public savings and channeling them into productive corporate investments. UTI raises its
resources primarily through the sale of small denomination units. UTI subscribes to industrial
securities and also purchases outstanding securities in the secondary market. In its investment
activity, UTI is naturally governed by considerations of yield and security as it has an obligation
to earn a reasonable rate of return for its unit holders in its various schemes, without exposing
them to undue risks. UTI has emerged as one of the two largest institutional investors in India.

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 33


Industrial Reconstruction Bank of India
The Industrial Reconstruction Bank of India (IRBI), headquartered in Calcutta, was set up when
its precursor, the Industrial Reconstruction Corporation of India, was reconstituted in 1984. IRBI
is primarily an agency to help the reconstruction and rehabilitation of industrial units which have
closed down or which face the risk of closure. IRBI offers assistance in various forms:
(I) financial assistance which is not available from normal channels of finance and banking,
(ii) technical assistance and guidance to sick units to revive them,
(iii) managerial assistance in the fields of administration, finance, marketing, industrial relations,
etc. and
(iv) suggestions for reconstruction and rationalization.
IRBI’s resources consist of its paid up capital, interest-free loan from the Government of India,
and debt capital raised by issuing bonds. In addition, IRBI has recourse to accommodation from
the Reserve Bank of India and IDBI.

II) STATE LEVEL INSTITUTIONS

State Financial Corporations


The State Financial Corporations (SFCs), set up under the State Financial Corporations Act,
1951, render assistance to medium and small scale industries in their respective states. Their
shareholders are the respective state governments, IDBI, and borrowings from the Reserve Bank
of India and the Government of India.

State Industrial and Development Corporations


The State Industrial Development Corporations, (SIDCs) were set up by the state governments
during the 1960s to serve as catalytic agents in the industrialization process of their respective
states. Presently almost every state has an SIDC which is fully owned by the respective state
government. In addition to providing term finance to industry, SIDCs perform a variety of other
functions. In particular, the role in sponsoring joint sector projects with the participation of
private entrepreneur needs to be emphasized. The major resources of the SIDCs are paid-up
capital, reserves, market borrowings and loans from the government. In addition, SIDCs get
funds from IDBI under its refinancing scheme.

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 34


5.3 NORMS AND POLICIES OF FINANCIAL INSTITUTIONS

Eligibility
Till recently, long term loans were provided by financial institutions to concerns in certain
industries and denied to concerns in industries placed in the negative list. Now, however, a shift
is taking place in their policy. They are inclined to finance almost every kind of industry.
Further, till recently financial institutions followed a consortium approach as per the advice of the
Ministry of Finance. Now they are permitted to lend individually as well as participate in
consortium financing.

Debt-equity Ratio
Presently, the general debt-equity norm for medium and large scale projects is 1.5:1. This is a
broad guideline against which variations are permitted on a case to case basis, especially under
the following circumstances:

(a) High degree of capital intensity,


(b) Location in a backward area, and
(c) Background of the promoter.
Other things being equal : (i) a capital intensive project is eligible for a higher debt equity ratio,
(ii) a project in a backward area qualifies for a higher debt-equity ratio, and (iii) a project
promoted by a technocrat - promoter is entitled to a higher debt-equity ratio.
Debt consists of the following:
(I) Loans and deposits that are repayable after one year (this includes interest bearing unsecured
loans from government agencies, promoters, etc.),
(ii) Non-convertible debentures and convertible debentures until they are converted, irrespective
of the maturity period,
(iii) Deferred payments, and
(iv) Preference shares due for redemption within three years.
Equity consists of the following:

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 35


(i) Paid-up ordinary share capital,
(ii) Irredeemable preference shares, cumulative convertible preference shares where the
redemption period is due after three years,
(iii) Premium on share issues,
(iv) Central/State cash subsidy,
(v) long term interest-free unsecured loans from state governments or government agencies or
promoters subordinate to loan from financial institutions, and
(vi) free reserves

Promoters’ Contribution
Financial institutions require promoters to contribute 25 to 30 per cent of the project cost. This is
in certain cases like capital-intensive projects, high priority projects, and technocrat-promoted
projects. Contributions made by the following or of the following kinds represent promoters’
contribution :
(I) Equity investment by promoters, their friends, relatives and associates (including NRIs),
(ii) Equity investment by other companies controlled by promoters,
(iii) Equity participation by shareholders of other promoter companies,
(iv) Foreign collaborators,
(v) Investment from oil exporting developing countries,
(vi) State government, in the case of joint sector or assisted sector projects,
(vii) Seed capital assistance,
(viii) Unsecured loan from promoters,
(ix) Venture capital participation,
(x) Mutual fund participation,
(xi) Internal accruals in the case of an existing company,
(xii) Rights issue to existing shareholders, and
(xiii) Any other contribution approved as promoter’s contribution.

Foreign Currency loans


Apart from rupee term loans, financial institutions provide foreign currency loans. This
assistance is provided only for the import of capital equipment (as per the liberalized exchange
risk management system, foreign currency required for other purposes has to be purchased from
authorized dealers at market rates). There are two kinds of schemes of FI’s for foreign currency
loans i.e. the general scheme & the Exchange Risk Administration Scheme.

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 36


On foreign currency loans sanctioned under the general scheme, the interest rate charged is a
floating rate as determined by the lenders (the foreign agency that has given a line of credit to the
financial institution for onward lending) and the risk of exchange rate fluctuation is borne by the
borrower. On foreign currency loans sanctioned under the Exchange Risk Administration
Scheme, the principal repayment obligations of the borrower are rupee tied at the rate of
exchange prevailing on the dates of disbursement. On such rupee-tied loan liability, the borrower
pays by way of servicing his loan a composite cost every quarter.

The composite cost consists of three elements:


(i) The interest portion which is arrived at on the basis of the weighted average interest cost of the
various components of the currency pool,
(ii) The spread of the financial institutions, and
(iii) The exchange risk premium.
The ‘composite cost’ is a variable rate determined at six-monthly the intervals. It has a floor and
a cap. The floor and the cap as well as the rate of interest applicable for the period is reviewed
and announced from time to time.

5.4 SEBI GUIDELINES

The Capital Issues Act, 1947 was the primary legislation regulating the issue of securities by the
corporate sector till recently. This Act was repealed in May 1992 and capital issues were brought
under the guidelines of the Securities Exchange Board of India (SEBI) which was empowered
with statutory powers by passing of the SEBI Act, 1992.

A comparison of SEBI guidelines with the guidelines that were followed under the Capital Issues
Control Act, 1947 suggests that the thrust of regulation is no longer on product and price control.
In the earlier regime, there were restrictions on the kinds of securities that could be issued, the
pricing of these securities, and the interest rates or dividend rates payable on them. Under the
new regime there is virtually no restriction on the types of securities that can be issued, there is
substantial freedom in pricing these securities, and there is no ceiling on interest / dividend rate
payable on these securities. While new regime more or less does away with product and price
controls, it lays stress on adequate disclosures & seeks to safeguard the interest of investors.
The key SEBI guidelines are:

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 37


New Instruments
There is no restriction on the kinds of financial instruments used, but the issuer of capital shall
make adequate disclosures regarding the terms and conditions, redemption, security conversion,
and any other features of the instrument so that an investor can make a reasonable determination
of risks, returns, safety, and liquidity of the instruments.

Pricing of Public Issues of Equity Capital


• A new company set up by entrepreneurs without a track record will be permitted to issue
capital to public only at par.
• A new company set up by existing companies with a five year track record of consistent
profitability will be free to price its issue provided the participation of the promoting
companies is not less than 50 per cent of the equity of the new company and the issue
price is made applicable to all new investors uniformly.
• An existing private / closely held company with a three year track record of consistent
profitability shall be permitted to freely price the issue.
• An existing listed company can raise fresh capital by freely pricing further issue.

FCDs / PCDs / NCDs


The guidelines relevant to these instruments are as follows:
• Credit rating is compulsory in the case of FCDs if the conversion is effected after 18 months
and in the case of NCDs/ PCDs if the maturity exceeds 18 months.
• In the case of FCDs/ PCDs the terms of conversion (time of conversion and conversion price)
shall be predetermined and stated in the prospectus.
• Any conversion in part or whole of the debenture will be optional at the hands of the
debenture holder, if the conversion takes place at or after 18 months from the date of
allotment, but before 36 months. FCDs having a conversion period exceeding 36 months
must have ‘put’ and ‘call’ option.
• A Debenture Redemption Reserve (DRR) shall be created by all companies raising
debentures.

Promoters’ Contribution and Lock-in Period


The key provisions in the regard are as follows:

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 38


(a) Equity capital to be subscribed in any issue to the public by promoters, i.e., those
described in the prospectus as promoters, directors, friends, relatives and associates should
not be less than 25 per cent of the total issue of equity capital up to Rs 1000 million and
20 per cent of the issue above Rs 1000 million. In the case of FCDs, one third of issue
amount should be contributed by promoters, directors, friends, relatives and associates by
way of equity before the issue is made. In the case of PCDs, one third of the convertible
portion should be brought in as contribution of promoters, directors, friends, relatives and
associates before the issue is made. The minimum subscription by each of the friends/
relatives and associates under the promoters’ quota should not be less than Rs 0.1 million.
(b) The promoters’ contribution shall not be diluted for a lock-in period of five years from
the date of commencement of the production or date of allotment whichever is later.
Promoters must bring in their full subscription to issues in advance before public issues.
(c) All firm allotments, preferential allotments to collaborators, shareholders of promoter
companies, whether corporate or individual, shall not be transferable for three years from
the date of the commencement of production or date of allotment whichever is later.

5.5 FINANCIAL ASSISTANCE

I. DIRECT FINANCIAL ASSISTANCE


Financial institutions provide direct financial assistance in the following ways :
• Rupee term loans
• Foreign currency terms loans
• Subscription to equity shares
• Seed capital

Rupee Term loans


The most significant form of assistance provided by financial institutions, rupee term loans are
given directly to industrial concerns for setting up new projects as well as for expansion,
modernization, and renovation projects. These funds are provided for incurring expenditure
toward land, building, plant and machinery, technical know-how, miscellaneous fixed assets,
preliminary expenses, preoperative expenses, and margin money for working capital.

Foreign Currency Term Loans

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 39


Financial institutions provide foreign currency term loans for meeting the foreign currency
expenditures towards import of plant, machinery and equipment, and also towards payment of
foreign technical know-how fees. The periodical liability for interest and principal remains in the
currency / currencies of the loans and is translated into rupees at the then prevailing rate of
exchange for making payments to the financial institutions. The borrower has the option of the
Exchange Risk Administration Scheme also.

Direct Subscription to Equity


In addition to providing term loans (in rupees as well as foreign currencies), financial institutions
also subscribe to equity capital.

Seed Capital
Financial institutions supplement the resources of the promoters of the small and medium scale
industrial units which are eligible for assistance from all-India financial institutions and / or state-
level financial institutions. Broadly, three schemes have been formulated:
• Special Seed Capital Assistance Scheme: The quantum of assistance under this scheme is
Rs 0.2 million or 20 per cent of the project cost, whichever is lower. This scheme is
administered by the State Financial Corporations
• Seed Capital Assistance Scheme: The assistance under this scheme is restricted to Rs 1.5
million. This scheme is applicable to project costing not more than Rs. 20 million. The
assistance per project is restricted to Rs. 1.5 million. The assistance is provided by IDBI
through state level financial institutions. In special cases, IDBI may provide the
assistance directly.
• Risk Capital Foundation Scheme: Under this scheme, the Risk Capital Foundation, an
autonomous foundation set up and funded by IFCI, offers assistance to promoters of
projects costing between Rs 20 million and Rs 150 million. The ceiling on the assistance
provided varies between Rs 1.5 million and Rs 4 million depending on the number of
applicant promoters.

II. INDIRECT FINANCIAL ASSISTANCE


Besides providing direct financial assistance, financial institutions extend help to industrial units
in obtaining finance/ credit through the following ways:

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 40


• Deferred payment guarantee
• Guarantee for foreign currency loans
• Underwriting

Deferred Payment Guarantee


Financial institutions issue guarantee on behalf of the buyer of industrial machinery to the
supplier offering the facility of deferred payments. Should there be a default by the buyer in the
payment of deferred installments, financial institutions make the payment and subsequently
recover the amount from the assisted unit. A nominal commission is charged for providing such
guarantee.

Guarantee for Foreign Currency Loans


Financial institutions provide guarantee for foreign currency loans obtained by industrial
concerns from institutions and banks abroad. A nominal commission is charged to the assisted
unit for such guarantee.

Underwriting
As part of the overall financial package, financial institutions generally participate in
underwriting equity issues of assisted units. This helps the assisted units in raising funds from the
capital market.

III. SPECIAL SCHEMES


Several special schemes have been designed to serve the varied needs of industry. The important
ones are:
• Bill rediscounting scheme
• Suppliers’ line of credit
• Soft loan scheme
• Equipment finance scheme

5.6 TERM LOAN PROCEDURE

The procedure associated with a term loan involves the following steps:
Submission of Loan Application

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 41


The borrower may submit the application to any of the three term lending institutions, viz., IDBI,
ICICI, and IFCI. The borrower is required to fill out a common application form which seeks
comprehensive information about the project. Specifically, the common application form covers
the following aspects:
• Promoters’ background
• Particulars of the industrial concern
• Particulars of the project (capacity, process, technical arrangements, management,
location, land and buildings, plant and machinery, raw materials, effluents, labour,
housing, and schedule of implementation)
• Cost of the project
• Means of financing
• Marketing and selling arrangements
• Profitability and cash flow
• Economic considerations
• Government consents

Initial Processing of Loan Application


When the application is received, an officer of the recipient institution reviews it to ascertain
whether it is complete for processing. If it is incomplete the borrower is asked to provide the
required additional information. When the application is considered complete, the recipient
institution prepares a ‘flash report’ which is essentially a summarization of the loan application,
to be evaluated at the Senior Executive Meeting (SEM). Once the SEM, on the basis of its
evaluation of the ‘flash report’, decides that the project justifies a detailed appraisal, it nominates
the lead financial institution. The factors taken into account for designating the lead institution.
The factors taken into account for designating the lead institution are : location of the project,
prior experience of institutions in handling similar projects, representation of institutions in the
state and promoter group, and existing workload of the institutions.
For the convenience of borrowers, financial institutions operate a scheme of participation for
rupee term loans and underwriting assistance. Under this scheme, the borrower interacts with
only the lead financial institution which administers the entire loan and underwriting facility.
The lead institution exercises the rights of other participating institutions as their constituent
authority.

Appraisal of the Proposed Project

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 42


The detailed appraisal of the project is done by the lead institution. The appraisal covers the
marketing, technical, financial, managerial, and economic aspects. The appraisal memorandum is
normally perpared within two months after site inspection and placed before the Senior
Executives Meeting / Inter-Institutional Meeting (SEM / IIM) for a decision about approval of the
project and determining the sharing arrangement among the institutions. Once a favorable
decision is taken at the SEM / IIM forum and the sharing arrangement worked out, the case is
referred to the Board of Directors of the lead financial institution.

Issue of the Letter of Sanction


After the Board of Directors of the lead financial institution approves the proposal, a financial
letter of sanction is issued to the borrower. This communicates to the borrower the assistance
sanctioned by the lead institution and the assistance sanctioned / to be sanctioned by other
participants in the consortium arrangement. Each of the participating institutions would, after
approval by its Board of Directors or other appropriate authority, convey sanction of its share of
assistance to the lead institution under advice to the borrower. If a participating institution is not
able to make available its share of assistance, the same will be shared on a pro rata basis amongst
the lead and other participating institutions.

Acceptance of the Terms and Conditions by the Borrowing Unit


On receiving the letter of sanction from the lead financial institution, the borrowing unit convenes
its board meeting at which the terms and conditions associated with the letter of sanctioned are
accepted and an appropriate resolution is passed to that effect. The acceptance of the terms and
conditions has to be conveyed to the lead financial institution within thirty days.

Execution of loan agreement


The lead financial institution, after receiving the letter of acceptance from the borrower, sends the
drafts of the agreement to the borrower to be executed by authorized persons and properly
stamped as per the Indian Stamp Act, 1899. The agreements, properly executed and stamped,
along with other documents as required by the lead financial institution must be returned to it.
Once the lead financial institution also signs the agreement, it becomes effective.

Disbursement of Loans
Periodically, the borrower is required to submit information on the physical progress of the
project, financial status of the project, arrangements made for financing the project, contribution

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 43


made by the promoters, projected funds flow statement, compliance with various statutory
requirements, and fulfillment of pre-disbursement conditions. Based on the information provided
by the borrower, the lead financial institution will determine the amount of term loan to be
disbursed from time to time. Before the entire term loan is disbursed the borrower must fully
comply with all the terms and conditions of the loan agreement.

Creation of Security
The term loans (both rupee and foreign currency) and the deferred payment guarantee assistance
provided by the All-India financial institutions are secured through the first mortgage, by way of
deposit of title deeds of immovable properties and hypothecation of movable properties. As the
creation of mortgage, particularly in the case of land, tends to be a time consuming process, the
institutions permit interim disbursements against alternate security (in the form of guarantees by
the promoters). The mortgage, however, has to be created within a year from the date of the first
disbursement. Otherwise the borrower has to pay an additional charge of 1 per cent interest.

Monitoring
Monitoring of the project is done at the implementation stage as well as at the operational stage.
During the implementation stage, the project is monitored through:
(i) Regular reports, furnished by the promoters, which provide information about placement of
orders, construction of buildings, procurement of plant, installation of plant and machinery, trial
production, etc.,
(ii) Periodic site visits,
(iii) Discussion with promoters, bankers, suppliers, creditors, and others connected with the
project,
(iv) Progress reports submitted by the nominee directors, and
(v) Audited accounts fo the company.

During the operational stage, the project is monitored with the help of
(I) quarterly progress report on the project,
(ii) Site inspection,
(iii) Reports of nominee directors, and
(iv) Comparison of performance with promise.
The most important aspect of monitoring, of course, is the recovery of dues represented by
interest and principal repayment.

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 44


5.7 RISKS ASSOCIATED WITH STEEL PLANTS

1. Decline in Government Spending


Long products find usage mainly in construction and infrastructure projects. In the past, the
Government has been a major buyer accounting for about 30% of the output. The reduction in
government spending to control the deficit has resulted in a slow growth in this sector.
Thought the Government has opened the infrastructure sector to private and foreign investments,
the lack of clear policies has limited investments in this sector. It is expected that only in the
medium term, these policies would be clarified and the clearances required for the projects would
be obtained. This slow down in implementation of policies could limit growth of long products
in the medium term.

2. Threat from Imports


Landed costs of HR coils are almost equivalent to the domestic prices, with the decline in import
duties on HR coils from 30% to 25% as recommended in the 1996-97 budget. Further as per
recommendations of the Chelliah committee, import duty is expected to decline to 20% by 1997-
98. However, the impact of the reduction in the import duty is likely to be partially offset by the
depreciation of the rupee. The domestic manufacturers continue to face a threat from imports.
Domestic prices of HR coils are expected to remain close to the landed costs, thus maintaining a
pressure to keep domestic prices low.

Further, the quality of the domestic HR manufacturers (with the exception of a few plants) is
lower than the international standards on account of the outdated technologies and process in
efficiencies in use. Hence, the Indian steel manufacturers also face a threat from imports on the
quality issue.

3. Capital Intensive Nature of The Industry


The project cost of an economic sized 1 million tonnes, integrated steel plant is estimated at Rs.
380 - 400 bn. Further, the gestation period for a steel plant is around 4-5 years. India is a capital
scarce country and the cost of capital is high. This limits the ability of new entrants to setup steel
plants using the ISP route. As a result, many companies would need to tap foreign markets or
seek joint ventures with foreign equity stake. However, the ability to borrow would be limited by

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 45


the brand equity enjoyed by the group abroad. Consequently, although many steel projects have
been announced, there is likely to be a delay in setting up steel capacities. Thus the capital
intensive nature of the industry poses a constraint to small and medium sized players.

Further, over the past few years the budgetary support from the government for the
modernization and expansion programmes of the ISPs has been curtailed in a gradual manner on
account of the funds constraints.

4. Usage of Outdated Technology


Most ISPs in India were set up nearly four decades ago and are using outdated technology. In
India, only about 45% of steel output is manufactured through the energy efficient BOF route,
26% by the inefficient open hearth process (one of the highest in the world) and 29% by the
power intensive EAF route (figures are for the year 1992). Over dependence on the open hearth
process and the EAF route affects the cost structure and competitiveness of Indian companies.

In 1992, the continuous casting route accounted fro only about 16% of India’s steel production
(compared to almost 95% in Japan), adversely affecting the cost competitiveness of Indian
manufacturers. Today RINL is the only ISP in India which has a 100% continuous casting
facilities. As a result the Indian process efficiencies are much lower than the global average.
Large capital outlays are required by the ISPs to modernize and upgrade their production
facilities. However, the Indian steel manufacturers are modernizing their plants and therefore, in
the medium term, process efficiencies are expected to improve.

5. Location
As steel is freight sensitive item, the location of the plant assumes a significant importance in
determining its competitiveness. Most ISPs (SAIL and TISCO) are located in the eastern region
close to the raw material sources whereas most secondary producers are located close to the
major consuming centers (Western and Northern region). Hence, freight costs incurred by the
ISPs are comparatively higher than those of the secondary producers (located in the western
region) and are expected to remain high.

6. Inadequate Infrastructure Facilities

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 46


The inability of the railways to meet the demand for transportation of coal as well finished steel is
a limiting factor. Since most ISPs are located near iron ore mines, the problem is accentuated for
coal. Due to the large investment required and the long gestation period for the its development,
it is unlikely that the railways will improve significantly in the medium term.
The lack of port facilities, limits the ability of RINL and SAIL to import coal as well as export
their products. Although the former plans to develop a jetty at Visakhapatnam, due to a funds
constraint it is unlikely to be setup until the end of the century.
The large capacities and the focus on exports in the medium term in relation to the shortage of
rail wagons and port facilities will result in severe infrastructure bottlenecks and hence, would
impact the cost competitiveness of Indian manufacturers.

7. Unavailability of Good Quality Coal


Although India has abundant reserves of non coking coal, coking coal reserves account for only
14% of the total reserves. Further, the ash content in Indian coal is high at above 20% as
compared to imported coal which has an ash content of 10%. Washing of coal leads to a tonnage
loss of 45%. The unavailability of good quality coal coupled with the outdated technology has
resulted in Indian ISPs having a high coke rate of 650-850 kgs per tonne as compared to a global
average of 400-450 kgs. This in turn has led to high energy costs.
To mitigate the above problem, Indian companies especially SAIL & RINL blend imported coal
with the domestically available cost. Thus, the advantage of locally available coal is negated to
some extent.

8. Rising Input Costs for The EAF Sector


In India, the per capita consumption of steel is very low. The tendency to repair and reuse
machines results in a very low scrap generation as compared to western economies. As a result
Indian MSPs are dependent on imports of steel scrap. The expected decline in availability of
scrap internationally coupled with the depreciating rupee will affect the raw material costs of the
EAF sector. The problems for the EAF sector are further compounded by the unavailability of
sufficient power and high tariffs in India.

9. Labour

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 47


The labour productivity of Indian ISPs is very low at around 40-50 man hours per tonnes as
compared to 8-12 man hours in developing countries and 4-5 man hours in the developed
countries. However, due to the low cost of labour, the cost is cheaper. In such a scenario, the
ability to control cost through process efficiencies will assume importance.
The two ISPs namely SAIL and TISCO are highly overmanned. Labour costs account for around
14-16% of their operating income. Although the companies are trying to reduce labour by
offering VRS (Voluntary retirement schemes) the lack of an exit policy will continue to hinder
the productivity of these plants.

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 48


6 APPRAISAL OF STEEL PROJETCS

Financial institutions appraise a steel project from the marketing, technical, financial, economic,
and managerial angles. The principal issues considered and the criteria employed in such
appraisal are discussed below

6.1 MARKET APPRAISAL

The market appraisal is done basically to


• Examine the reasonableness of the demand projections by utilizing the findings of available
surveys, industry association projections, Planning Commission projections, and independent
market surveys.
• Assess the adequacy of the marketing infrastructure in terms of promotional effort, distribution
network, transport facilities, stock levels, etc.
• Judge the knowledge, experience, and competence of the key marketing personnel.

6.2 TECHNICAL APPRAISAL

The technical review done by the financial institutions focuses mainly on the following aspects:
• Product mix
• Capacity
• Process of manufacture
• Engineering know-how and technical collaboration
• Raw materials and consumables
• Location and site
• Building
• Plant and equipments
• Manpower requirements

6.3 FINANCIAL APPRAISAL

The financial appraisal seeks to assess the following

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 49


Reasonableness of the estimate of capital cost
While assessing the capital cost estimates, efforts are made to ensure that
• Underestimation of costs is avoided,
• Specification of plant & machinery is proper,
• Proper quotations are obtained from potential suppliers,
• Contingency margin is provided,
• Inflation factor is considered.

Reasonableness of the estimate of working results


The estimate of working results is sought to be based on
• A realistic market demand forecast,
• Price computations for inputs as well as outputs that are based on current prices & inflation
adjusted in the future,
• An appropriate time schedule for capacity utilization,
• Cost projections that distinguish between fixed & variable costs.

Adequacy of rate of return


The general norms for financial desirability are
• Internal rate of return : 18 per cent
• Debt Service Coverage Ratio : 1.5 (minimum)

Appropriateness of the financing pattern


The Institutions consider the following in assessing the financing pattern of the project
• Debt to equity ratio norm of 1.5 : 1,
• Promoters contribution of atleast 20% of the cost of project,
• Requirement for stock exchange listing & SEBI clearance,
• The means of promoter & his capacity to contribute his share of funds.

6.4 SOCIO ECONOMIC APPRAISAL

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 50


The socio economic evaluation done by financial institutions can be termed as a ‘Partial L-M
approach’. In the economic appraisal the FI’s calculate the Economic Rate of Return (ERR), the
Effective rate of protection (ERP) & the Domestic Resource Cost (DRC).
In the social appraisal the FIs look at the employment opportunities generated by the means of the
project.
However, the socio economic appraisal done by the financial institutions is not so rigorous. Also
the emphasis placed on this review is rather limited.

6.5 MANAGERIAL APPRAISAL

In order to judge the managerial capabilities of the promoters, the following points are considered

Resourcefulness
This is judged in terms of prior experience of the promoters, the progress achieved in organizing
various aspects of the project & the skill with which the project is presented.

Understanding
This is assessed in terms of the credibility of the planning, including the organization structure,
the estimated costs, the financing pattern, the assessment of various inputs & the marketing
programme.

Commitment
This is guaged by the resources (financial, managerial & others) applied to the project and the
zeal with which objectives of the project are pursued. Managerial review also involves the
assessment of the key technical & managerial personnel working on the project, the schedule for
training them & the remuneration structure for rewarding & motivating them.

6.6 KEY FINANCIAL INDICATORS

The key financial indicators used by the financial institutions are the Internal Rate of Return,
Debt Service Coverage Ratio & the Break even analysis. In addition to these primary indicators
some secondary indicators are also considered.

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 51


Internal Rate of Return
The IRR is calculated by discounting the cash flows out of the project, after repayment of the
interest as well as the installments of the debt instruments, at such a rate that the discounted value
equals the equity capital employed. This rate is known as IRR.
In other words, the rate at which the Net Present Value (NPV) equals zero is the Internal Rate of
Return (IRR).
In Indian steel sector, where the cost of capital is in the range of 13-14%, an IRR of atleast 18%
is desirable.

Debt Service Coverage Ratio


The debt service coverage ratio is calculated as follows:
Profit after tax + Depreciation + Interest on term loans
Interest on term loans + Installments of term loans
Financial Institutions calculate the average DSCR for the period of the loan. Normally a DSCR of
over 1.5 is termed as satisfactory. If this ratio is less than 1.5 then the project is deemed otherwise
desirable. In case of DSCR exceeding 2 significantly, the period of loan is shortened to bring
down this ratio to about 2.

Break Even Analysis

The break even analysis is done to know whether the project will be able to sustain the repayment

of the term loans as well as the interest burden. The break even point for the project is calculated

when the project reaches its target level of capacity utilization.

Break Even Point is calculated as follows

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 52


BEP (in terms of volume) = Fixed costs x Target volume

Contribution

BEP (in terms of sales) = Fixed costs x Sales realization

Contribution

BEP (in terms of capacity utilization) = Fixed costs x Target capacity utilization

Contribution

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 53


Other indicators

Some of the secondary indicators are

Profit margin on sales = Net profit after tax

Sales

Return on owners equity = Net profit after tax

Promoter’s contribution + Soft loans

Fixed Asset Coverage Ratio = Net fixed assets + WIP

Deferred credits + Term loans + Debentures + Other loans

Debt to Equity Ratio = Long term debt

Equity

Current Ratio = Current assets

Current liabilities

ROI (before tax) = Profit before tax + Depreciation + Interest on term loan

Cost of project

ROI (after tax) = Profit after tax + Depreciation + Interest on term loan (1-T)

Cost of project

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 54


7 BIBLIOGRAPHY

1. “Projects - Planning, Analysis, Selection, Implementation & Review” by Prasanna

Chandra.

2. “Management of Financial Institutions” by R M Srivastava.

3. “Student’s guide to Income Tax” by Taxmann publications.

4. “Steel Scenario” volume 7, July-Sept 1997, for all the data on the market prices &

the raw material costs.

5. “Central Excise Manual” for import duty rates.

6. “Alternatives Routes to Iron & Steel making”, a conference organized by Indian Institute

of Metals at Jamshedpur in Jan’96 (Volume A, B & C).

7. Articles from “World Steel Dynamics”, on the future market scenario.

8. Articles from various newspapers & magazines.

CONCLUSION

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This project has provided me with good exposure to actual working environment of an
organization. Project finance is a new & emerging concept for financing the projects. This project
has helped me to understand the nitty- gritties & application of project finance which cannot be
understood by reading books. Through this project, I have learned the various aspects of
evaluating the project, financial tools for assessing the viability of project, cost estimation and
how depreciation, taxes etc impact the evaluation of the projects. At the end it may be concluded
that project financing is a good method for financing and evaluating the projects. It covers all the
aspects of the project and help in mitigating the risks.

FINANCING OF STEEL PROJECTS IN PRIVATE SECTOR 56

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