India - Fourth Indian Iron and Steel Company Project

FILE COI~~~~Y RESTRICTED F I]LE C;0 Y Report No. P-493 This report was prepared for use within the Bank and its affiliated organizations. They do not accept responsibility for its accuracy or completeness. The report may not be published nor may it be quoted as representing their views. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE INDIAN IRON AND STEEL COMPANY, LIMITED June 29, 1966  REPORT AID REC10ENDATION OF THDE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE INDIAN IRON AND STEEL COIPAhNY LD4ITED 1. I submit the following report and recommendation on a proposed loan in an amount in various currencies equivalent to U.S. $30 million to The Indian Iron and Steel Company Idmited (IISCO). PART I - HISTORICAL 2. IISCO is one of the two privately owned steel companies in India, both of which have received loans from the Bank to help in expanding their operations. The first of the three Bank loans to IISCO was made in 1952 in an amount of $3l.5 million, and the second of $20 million in 1956, both for modernization and expansion works. As a result of these works, IISCO's rated capacity of saleable steel increased from about 300,000 tons in 1952 to the present level of 800,000 tons, which was attained in 1960. The third loan of $19.5 million was made in 1961 to help finance the development of the Company's coal mining properties which will make IISCO independent of purchased coal. 3. For about three years, the Bank has been considering another project of IISCO, the Balancing Scheme, which is designed to increase the Company's primary steel-making capacity in order to utilize fully the present surplus capacity in its rol'ling mills and finishing lines. Negotiations regarding the proposed fourth loan to IISCO were delayed pending the resolution of certain problems with the Government of India, arising from an amendment enacted to the Indian Companies Act in December 1963. These problems have now been satisfactorily resolved. Loan negotiations were held in Washington in the period June 9-28 , 1966. IISCO was represented by Sir Biren Mookerjee, the Company's Chairman, Mr. A. K. Gupta, Sales Nlanager, and Mr. H. A. Fowler, legal adviser; they were assisted by officers of the International Construction Company, IISCO's consultants. India, the prospective Guarantor, was represented by Mr. Rabi Ray, First Secretary of the Embassy of India in Washington. If the proposed loan is approved, Bank loans to IISCO would total about $98.6 million, net of cancellations; repayments under the earlier loans amounted on May 31, 1966, to nearly $39 million. 4. The Bank has made 34 loans for projects in India, including twenty-one which are fully disbursed. The Association has approved 19 credits to India, including the Beas Equipment and the Railway Credits which were approved by the Executive Directors on June 28, 1966. The status of Bank loans and IDA credits to India as at May 31, 1966, is summarized in the following table.  -2-- Amounts ($ million) Bank IDA Total (less calcellations) 971.9 584.5 Of which has been repaid 256.8 - Total now outstanding 715.1 584.5 Amount sold 100.3 Of which has been repaid 84.5 15.8 - 699.3 584.5 Of which still undisbursed 169.7 140.9 5. Paragraphs 4 to 8 of my reports IDA/R66-13 and IDAAR66-14, both dated June 20, 1966, reviewed the current position of loans znd credits to India, including those with delays in disbursements. The position has not changed materially since these reports were presented. PART II - DESCRIPTION OF THE PROPOSED LOA1M 6. The main features of the proposed loan are as followvs: Borrower: The Indian Iron and Steel Company, Limited. Guarantor: India, acting by its President. Amount: Various currencies equivalent to $30 million. Purpose: To help finance a program designed to increase IISCO's primary steel-making capacity, to improve the utilization of existing rolling mills and finishing lines, and to provide essential imported spare and replacement parts. Amortization: The term of the loan would be 18 years including a grace period of 5 years with semi-annual pay- ments beginning November 15, 1971, and ending May 15, 1984. Interest Rate: 6 percent per annum. Commitment charge: 3/8 of 1 percent per annum.  -3- PART III - TIiE PROJECT' 7. An appraisal report entitled "The Indian Iron and Steel Company Limited Balancing Scheme" (AA-2a) on the proposed project is attached (No.1). The financial data in the report take account of the new exchange rate effective since June 6, 1966. For information, I also attach (?To.2) a report entitled IlC0rtain Aspects of the Indian Steel Industry" (AS-llla) reviewing the frame- work within which the proposed project is expected to be carried out. 8. As a result of major expansion works since the mid-1950's, the Indian steel industry has about quadrupled its steel-making capacity to a present level of over 6 million ingot tons. The two private companies, whose plants have been operating for several decades, participated in this expansion but the bulk of the industry's increased capacity has come from the construction between 1952 and 1962 of three new plants operated by Hindustan Steel Limited, a Government- owned enterprise. Together, these three plants accounted for over half of India's production of saleable steel in 1965/66. They are being expanded further, and consequently the capacity of India's five integrated steelworks is expected to amount to-nearly 9 million ingot tons, or about 6.3 million tons of saleable steel by the second half of 1967. 9. IISCO owns and operates an integrated steelworks at Burnpur, about 1h0 miles northwest of Calcutta, a foundry at nearby Kulti, and iron ore and coal mines in eastern India. IISCO'e expansion in the fifties resulted in surplus capacity in Burnpur's finishing mills, a type of imbalance often encountered in expansions of steel plants. A major objective of the proposed project, the Balancing Scheme, is to permit the use of this capacity by increasing the Company's output of crude steel. The present and expected higher output of iron and steel is related, in respect of improved raw material supplies, to the successful development of IISCOts coal properties for which a loan of $19.5 million was made in 1961. This development was delayed by over three years by the change from open pit to deep mining and by difficulties experienced in shaft sinking. No further significant delay is expected. Production in the developed coal properties is expected to begin in 1968, rising to capacity levels in 1972/73. 10. Net sales of IISCO have risen from Rs. 276 million in 1958/59 to Rs. 505 million in 1964/65, largely as a result of the expansions carried out in the fifties. After-tax profits in 1964/65 amounted to Rs. 64 million, representing a 50 percent increase over those of 1958/59. IISCO is managed by Martin Burn Limited, an experienced managing agency in India. The construction of the project vill be supervised by IISCOts consultants, the International Construction Company, who have also been associated with the Company's earlier expansions. The Balancing Scheme is technically sound, of high economic priority, and expected to give a good return on the capital investment. Steel products made by IISCO are in substantial demand. Even taking account of other steel expansion works likely to go fonrard in India during the next decade, the Company should be able to market without difficulty the additional saleable steel output of nearly 250,000 tons, consisting mainly of structurals, merchant and certain special sections.  11. The proposed loan would meet the estimated maximum foreign exchange cost (U.S. $15.5 million equivalent) of the fixed investment in new steel plant facilities, which altogether are estimated to call for expenditures totaling the equivalent of about $37 million. The proposed loan would also include a provision of $9 million to finance essential imported spares and replacements. The balance of the proposed loan is accounted for by capitalized interest and commitment charges during the 5-year grace period. 12. The total financial requirements of the Company until the end of the construction period in 1970 are estimated at somewhat over Rs. 1 billion. Of this amount, nearly Rs. 500 million would come from internal cash generation, about Rs. 135 million from reduction in working capital, and about Rs. 350 million from long-term debt, including the proposed loan, the undisbursed balance of the third Bank loan to IISCO, and long-term borrowings in India of Rs. 50 million which have been agreed to in principle by the Industrial Development Bank of India (IDBI). The capital structure of IISC0 is such as to permit the pro- posed borrowing arrangements. 13. The goods to be financed by the proposed loan would be procured through international competition except for those of the imported replacement and spare parts which are normally procured by direct purchase because they are individually of small value or proprietary items. Qualified Indian enterprises will be invited to participate in international competition for the fixed investment in the Balancing Scheme. Awards of contracts, put out to inter- national competition, would be made to the enterprises submitting the lowest evaluated bids on the basis of the cost to the Company at the project site but also taking into account quality, delivery time, performance guarantees, and service facilities, The cost to IISC0 of equipment offered by foreign bidders would thus include import duties, which now amount to 27.5 percent on such equipment. Items procured through international competition for which Indian enterprises could submit successful bids are expected to total at most about $2 million. However, disbursement from the proposed loan for goods supplied by successful Indian bidders would only be made if the cost of such goods falls within the criteria of the Bank's policies regarding protection afforded to domestic suppliers. If the cost of goods supplied by successful Indian bidders should not meet these criteria, it is proposed to make the equivalent of such cost available for financing of additional spare and replacement parts which the Company plans to import. 14. The Indian Companies Act was amended in December 1963 and two problems arising from that amendment had to be resolved before this loan could be recommended. Under a provision of the amendment, the Government of India has the right to convert Government loans made to companies into shares in such companies if the Government considers this necessary in the public interest. The outstanding balances of loans which IISC0 had obtained from the Government would have given the Government majority control over IISC0, if converted at par. However, on May 31, 1966, the Government and IISC0 signed an agreement, providing for the repayment of a Government advance of Rs. 101.8 million, which until that time, had no fixed repayment schedule. (After agreement in principle had been reached in the summer of 1965 IISCO paid an initial installment of Rs. 51.8 million on the Government advance.) The agreement provides that, so long as no default shall have been made by the Company in the repayment of the Government loans, the Government will not exercise the power of conversion in respect of the outstanding balances of these loans. As required under Section 6.02 (i)  of the Loan Agreement with IISCO, dated December 22, 1961, the Company had to obtain the Bank's consent to these arrangements. This consent was granted in September l965. I consider it appropriate, however, that, if any conversion pursuant to the amendment to the Companies Act should occur at a time when IISCO was fulfilling all its obligations under its agreement with Government regarding repayment of Government loans, the Bank should have the power to suspend with- drawals and premature amounts withdrawn under the proposed loan and any of the previous Bank loans to IISCO. 15. The other problem arising from the amendment was the appointment of a statutory authority, the Public Trustee, who is authorized to exercise the voting rights of shares held in trust. This applies to about 13 percent of IISCO's ordinary shares. On this point, the Government of India has given a statement to the Bank, indicating that, while it has no authorization to issue any instructions or directions to the Public Trustee, the provisions governing the Public Trustee were not directed against companies managed with integrity and efficiency. I am satisfied that, in light of the statement received, the affairs of the Company would not be adversely affected by the activities of the Public Trustee. PART IV - THE ECONOMY 16. A report on "The EconolDic Position and Prospects of India" w'as dis- tributed to the Executive Directors on June 20, 1966 (R66-80). India's credit- Northiness for additional Bank lending at this time is limited considering the present debt service burden. However, as I indicated in my statement to the Executive Directors on June 28, the proposed loan to IISCO would leave the Bank's net investment well below $!?600 million after allowing for amortization payments due to the Bank from India during the projected disbursement period. PART V - LEGAL INSTR1ThIENTS AND AUTHORITY 17. The Draft Loan Agreement between the Bank and IISCO, the Draft Guarantee Agreement between India and the Bank, and the Report of the Committee provided for in Article III, Section h(iii) of the Articles of Agreement are being dis- tributed to the Executive Directors separately. 18. The provisions of the Draft Agreements follow substantially the pattern of the three previous loan and guarantee agreements between the Bank and IISCO, except for certain modifications reflecting the standard language presently used for industrial projects. Attention is drawn to the following provisions of the Draft Loan Agreement: (a) the amendment or cancellation of the agreement between the Government and IISCO (see paragraph 14 above) and the conversion of Government loans to IISCO into shares at a time when IISCO is duly performing its obligations under said agreement are made additional events for the purposes of suspension, cancellation and acceleration of the loan (Sections 6.01 and 6.02(b) and (d)); and  -6- (b) as an additional condition of effectiveness, IISCO would be required to contract a long-term loan of Rs. 50 million, on terms and conditions satisfactory to the Bank (Section 8.01(d)). PART VI - COMPLIA1,CE WITH ARTICLES OF AGREEMENT 19. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank. PART VII - RECOPIIENDATIOM 20. I recommend that the Executive Directors adopt the following resolution: RESOLUTION NO. Approval of Loan to The Indian Iron and Steel Company, Limited, in an amount equivalent to U.S. $30,000,000 to by guaranteed by India. RESOLVED: THAT the Bank shall grant a loan to The Indian Iron and Steel Company, Limited to be guaranteed by India, in an amount in various currencies equivalent to thirty million United States dollars (U.S. $30,000,000), to mature on and prior to N4ay 15, 1984, to bear interest at the rate of six per cent (6co) per annum, and to be upon such other terms and conditions as shall be substantially in accordance with the terms and conditions set forth in the form of Loan Agreement (Fourth Indian Iron and Steel Project) between the Bank and The Indian Iron and Steel Company, Limited, and the form of Guarantee Agreement (Fourth Indian Iron and Steel Project) between India and the Bank, which have been presented to this meeting. George D. Woods President Washington, D.C. June 29, 1966