India - Third Indian Iron and Steel Company Project

R E S T R I C T E D FILE COPY Report No. P-273 This report was prepared for use within the Bank. It may not be published nor may it be quoted as representing the Bank's views. The Bank accepts no responsibility for the accuracy or completeness of the contents of the report. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATIONS OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE INDIAN IRON AND STEEL COMPANY, LIMITED December 14, 1961  INTERiATIONAL BANK FOR RECONSTRUCTION AND DEVELOP}IENT REPORT AND RECC14NENDATIONS OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE INDIAN IRON AND STEEL CC]IPANY, LIITTED 1. I submit herewith the following report and recommendations on a proposed loan to The Indian Iron and Steel Company, Limited (IISCO) in an amount in various currencies equivalent to U.S. $19.5 million, to assist in financing the expansion and opening up of coal mines and the construc- tion of coal transportation facilities. PART I - HISTORICAL 2. Until the Indian Government decided about five years ago to construct three steel mills in the public sector, two privately-owned companies were the only important producers of steel in India - Tata Iron and Steel Company Limited, and IISCO. Both have received loans from the Bank to help them expand their operations. In the case of IISCO one loan of $31.5 million was made in 1952 to modernize its existing equipment and to increase production of its ore mines, and a second loan of $20 million was made in 1956 for a further program of modernization and expansion. !,With the completion of these two programs IISCO now has an annual rated capacity of 800,000 tons of finished steel products. Although IISCO obtains nearly all its iron ore from its own mines, it has been mining only 15% of the coal required for its operations, and has had to rely upon outside sources of coal of inadequate quality. The present project would make IISCO a fully integrated operation indepen- dent of purchased coal. 3. The project was examined by a Bank mission early this year and negotiations with representatives of the Government of India and IISCO were completed on December 8, 1961. 4. The proposed loan would be the Bankts twenty-ninth to India and would increase the total of Bank loans to India to $798.8 million, net of cancellations. The status of the previous loans is as follows:  2- As of November 30, 1961 7$ million) Total loans, net of cancellations 779.3 of which has been repaid 77.5 Total now outstanding 701.8 Amount sold 63.5 of which has been repaid 40.8 22.7 679.1 1/ Including $50 million not yet effective and $192.5 million not yet disbursed. PART II - DESCRIPTION OF THE PROPOSED LOAN The main features of the proposed loan are as follows: Purpose: To finance the foreign exchange cost of opening up new and expanding old coal mines and of constructing aerial ropeways to convey the coal from the mines to the IISCO steel-works. Borrower: The Indian Iron and Steel Company, Limited. Guarantor: India, acting by its President Amount: The eauivalent in various currencies of $19.5 million Interest Rate: 5-3/4 per cent per annum, including 1 per cent commission Commitment charge: 3/4 of 1 per cent per annum Term: 12 years, including 5 years of grace Amortization: 15 semi-annual payments commencing February 1, 1967 and ending February 1, 1974.  -3 - PART III - LEGAL INSTRU1ENTS AND LEGAL AUTHORITY 6. A draft Loan Agreement between IISCO and the bank (No.1) and a draft Guarantee Agreement between India and the Bank (No. 2) are attached. Their provisions are substantially the same as those con- tained in the previous two Loan and Guarantee Agreements, 71 IN of December 18, 1952 and 159 IN of December 19, 1956. 7. Attention is drawn to two provisions in the draft Loan Agreement concerning the liquidity position of IEOW during the construction period. In Section 5.11, IISCO agrees that during this period it will not invest more than Rs. 10 million ($2.1 million) in new ventures or in expansion of i existing facilities except in accordance with a financial plan approved by the Bank. TTSCO already has in mind two new ventures, a spun pipe mill and a plant for manufacturing steel rolls, and the Bank has agreed to exempt them from this provision, since IISCO's total investment therein will be financed by means of new long term financing. Under an agreement entered into between the Indian Government and TTSCO in connection with the Bank's first loan, the Government agreed, inter alia, to advance loans to the company for working capital on reasonable terms in certain circum- stances. In Section 6.02(i) the anendment or cancellation of this agree- ment without the consent of the Bank is made an additional event of default. 8. The report of the Committee provided for under Article III, Section (iii) of the Articles of Agreement of the Bank, is attached (No.3). PART IV - APPRAISAL OF THE PROPGSED LOAN 9. An Appraisal Report on the Indian Iron and Steel Company Limited Coal Miining Project (T.O,-304b) is attached (No. 4). 10. India possesses plentiful and comparatively cheap labor, together with abundant resources of high-grade ore in close proximity to large coal deposits. These are advantages for the manufacture of iron and steel which make Indials private steel mills among the cheapest producers of steel in the world. Therefore a continued expansion of this basic industry is to be expected in the future. During the period of the Second Plan the Government has carried out an expansion program at forced draught, construct- ing three publicly-owned steel mills with a total finished steel capacity of 2e3 million tons. The program has encountered serious difficulties arising particularly from problems of organization and management, but when the new plants are eventually able to produce at their rated capacities, India's production of finished steel products should reach 4h5 million tons.  11. Since the war IISCO h-as also done much to modernize and expand its facilities. Because of its long experience it has not had the same difficulties in bringing its new facilities into procluction. However, one particular difficulty remains which has prevented a continuous out- put of steel at high levels, namely the quality of the coal which IISCO is compelled to use in its coke ovens. At present the company obtains 85% of its coal from collieries outside its own organization. Because of the fast growing demands of industry, a severe shortage of high quality coal has developed in recent years. The Government has given priority to the movement of coal to the steel mills, but has not been able to ensure its good quality or its uniformity and, as a result, IISCO's ability to pro- duce steel at capacity has been affected. In these circumstances IISCO has decided to develop its existing collieries and open up new ones so that it can supply all its own needs for good quality coal. 12. An additional advantage of this project will be that IISCO will no longer depend on the railways, since all the coal produced in future from these collieries wrill be transported to the steel works by aerial ropeways or, in the case of one of the existing collieries, by IISCO's own railway line. At the same time this will relieve congestion on the railways in a heavily industrialized area and thus benefit the economy as a whole. 13. The project also includes the construction of a coal washing plant which will ensure that the coke ovens are fed wSrith coal of a constant quality. This will eliminate the present production difficulties, reduce the amount of coke required, and enable the production of steel to be maintained at a high level. Thus, except for some snall part of its iron ore requirements, IISCO wjill become a fully integrated steel operation and one which can be expected to retain its position as one of the cheapest steel producers in the world. 1h. Practically all of the local currency requirements of the project will come from retained earnings. Even under the system of price controls now enforced by the Indian Government the company should be able to generate these funds over the five-year period of construction. Under this system the ultimate price received by IISCO for its products is below the price of imported products of the same kind. The whole system of control is to be reviewed after I"iarch 1962 and if prices were decontrolled the profits of TTSCO could rise appreciably. As a further protection, however, an agreement exists between the Government and the Company and will last for the period of construction of the project, wdhereby the Government is obli- gated to lend the company funds on reasonable terns for working capital if it cannot raise such funds on reasonable terms in the market. 15. Cost estimates of the project are reasonable and the contingencies allowed are likely to cover any foreseeable cost increases that may occur  " 5 - during the execution of the project. 16. All major items of equipment needed for the project will be procured on the basis of international competitive bidding. Economic Situation 17. Expanding industrial production and a fair measure of price stability continue to characterize the situation during the present year. The past three months have shown the customary seasonal pattern of foreign trade, with imports declining and exports on the rise. This has been reflected in a modest increase in the gold and foreign exchange reserves of the Reserve Bank of India since the end of August. At that time, the Reserve Bank's holdings amounted to $534 million - $247 million of gold and $287 million of foreign exchange -hile on November 24, they stood at $553 million. This seasonal period of higher exports should continue for another two or three months. 18. At the Consortium meeting in June, members indicated assistance of $2,225 million, including $40O million from.the Bank anid IDA, towarfs the foreign exchange requirements of the first two years of the Third Five-Year Plan. A fifth meeting of the Consortium will be convened on January 29, 1962. It will review the conclusions reached at the fourth Consortium meeting for the year starting April 1, 1962, and consider what further resources might be made available during that period. 19. As I indicated previously, I expect to propose $200 million in loans from the Bank during the first two years of the Plan. So far, the Bank has made three loans for projects in the Third Plan, $35 million for the private coal industry, $21 million for the Port of Calcutta and $50 million for the railways. If this loan is approved, Bank loans for projects in the Third Plan will amount to $125.5 million. PART V - COMPLIANCE WITH ARTICLES OF AGREEMNT 20. I am satisfied that the proposed loan complies with the requirements of the Articles of Agreement of the Bank. PART VI - RECaMMENDATICNS 21. I recommend that the Bank make a loan to the Indian Iron and Steel Company, Limited in an amount in various currencies equivalent to $19.5 million for a term of 12 years with an interest rate of 5-3/4 per cent per  - 6 - annum, arid on such other terms as are specified in the attached draft Loan and Guarar,ee Ah,:.eements, and that the Executive Directors adopt a resoilu- tion to that effect in the form attached (No. 5). Washington, D.C,. Eugene R. B lack December -14, i4 6 Pres,daert