Consolidated Steel Industries Case Study

Issues:

• The major creditor was Investec who was exposed to the extent of some R160m making it the largest independent creditor.  Total creditors were circa R400m.
• The group’s assets consisted mostly of vehicles and mobile cranes; the market value of these assets was assessed to be substantial, in the region of R500m – R600m.  A major issue however was the allocation of assets as security to the group’s creditors – the BR team soon found out for instance that multiple individual assets (cranes) had been encumbered to more than one creditor as additional security for the group’s debts.  A major exercise was thus required by the BR team to unpack the asset register and identify which assets belonged to which creditor(s).  Extensive negotiations were undertaken with creditors to rearrange securities and payment waterfalls for the BR plan, in a way that would satisfy all affected persons.  

Solution:

The company entered business rescue on 14 July 2020 and the BRPs Ian Fleming and Sello Mkhondo were appointed on the same day.  What followed was a period of urgent and deep cost-cutting so as to contain the company’s cost base to within its reduced revenue and GP levels brought about by Covid-19.  The most urgent was to reduce the company’s staff cost which was substantially out of kilter with its levels of production and revenue.  This was achieved by introducing a short-time policy, as the S189 retrenchment process could only be finally concluded once the business rescue plan was approved and adopted.  The short-time policy was introduced at the start of August 2020 and contributed to the company’s cost base being reduced by circa 43% from July to August 2020.

 The business rescue plan envisaged an operational/”organic” turnaround of the 2 key divisions, Stalcor and GRS, combined with a parallel disposal process of the 2 divisions.  Deloitte Capital assisted with the structuring of the disposal process and published investor memoranda for the 2 key divisions to coincide with the publication of the business rescue plan.  The business rescue plan was published within the prescribed 25 days and was approved and adopted on 28 August 2020, just 6 weeks and 3 days after the company entered business rescue.  In approving the business rescue plan, 98% of creditors voted in favour of its adoption.

 The business rescue team soon realised that the Stalcor division was somewhat of a no-hoper.  The division had consistently realised gross margins of less than 10% and tied up vast amounts of cash in inventory.  In assessing the offers on the table, the BR team elected to accept an offer which inter alia saw the inventory of the division sold to a competitor at market-related prices.  This deal, which was effective 1 November 2020, freed up approximately R100m of much-needed cash for the settlement of creditors and the perpetuation of business of the remaining division, GRS. 

 Unbeknown to the BR team at the time of the Stalcor stock sale, the steel industry was about to enter a 2 – 3 month supply crisis when Arcelor Mittal lost substantial production capacity as a result of problems with its furnaces.  As a result hereof, the GRS division was unable to procure sufficient stock to satisfy its customers’ demands.  With already depleted stock levels, from November 2020 to January 2021 the GRS division incurred losses of circa R30 – R35m per month.  These losses were funded primarily by the cash realised in the sale of the Stalcor stock.  It is indicative of the trust that the key creditors had in the BR team, that the creditors allowed the proceeds of the Stalcor stock sale to fund the losses of the GRS division during the supply crisis, rather than insist on the use of such funds to repay debt.

 The sale process in respect of the GRS division continued, as the AMSA supply crisis showed signs of easing in January 2021.  In February 2021 a sale of the GRS division to a private equity fund was concluded.  The deal envisaged a minimal capital injection of circa R10m by the private equity fund, the continued support of the key creditor (CGIC) to finance operations and the repayment of the majority of the CGIC debt via an earn-out mechanism over several years.  There were no fixed repayment terms for the settlement of the CGIC debt, only that the debt would be settled from free cash flow generated by the new entity.

 The deal became effective on 1 July 2021, with the BR team handing the purchaser a business that had been consistently profitable for 4 months (March – June 2021), realising an EBITDA of circa R6m – R8m per month by the effective date.

Results:

The entire business rescue process was thus substantially concluded within less than 1 year.

In considering the bids for the sale of the GRS division, the BR team was concerned by the minimal level of risk that the bidders were assuming.  This is confirmed by the fact that the winning bidder effectively assumed only R10m of risk for a business that was generating R6m – R8m EBITDA by the effective date of handover.  The winning bidder and its offer however found favour with the major creditor, and thus the deal was concluded by the BRPs.

Had a bidder been prepared to assume immediate risk to the extent of say R40m, with a commitment to settle a total of R300m of CSI debt out of free cash flow over 3 years (including from the bidder’s initial R40m investment), then the BRPs and key creditors would most likely have accepted such a bid.

The investor’s financials would have played out as follows (see attached for both 3-year and 5-year workings):