Environment Investments as an Alternative Way of Heavy Industry Financing
Stanislav S. Lobko
Metallurgy is an important branch of heavy industry, one of the main parts of the foundation of the national economy and a strategic source of revenue for Ukraine. The value of metallurgy for the Ukrainian economy is difficult to over-estimate. This is explained by the fact that the iron and steel industry is not the only influence on the development of all sectors of the economy of Ukraine and is the basis of their formation. This is due to the fact that the machine building and metal-working industries depend on the production of ferrous and non-ferrous metals, and that metal is the main source of engineering materials and an important export item.
The metallurgic sector in Ukraine consists of several hundred enterprises, including 14 steelworks, 7 pipe factories, metal plants, iron ore production and enrichment plants, 3 ferroalloy establishments, 16 coke processing plants, 20 non-ferrous metallurgy plants and 35 plants dealing with secondary metallurgy of iron and non-ferrous metals. These industrial establishments, especially the non-ferrous metallurgy plants, are scattered all over the country.
The ferrous metallurgy potential, including the largest establishments, is concentrated in the four South-east regions of Ukraine. Dnepropetrovsk Region produces over 80% of the country’s iron ore, the basic raw material for steelmaking.
The other necessary raw material, coke, is produced mainly in Donetsk Region, and in the country‘s largest mining and metallurgic complex in Kryvoy Rog. Almost 100% of Ukraine‘s steel is produced in the following districts: Donetsk Region (14 million tons, i.e. over 44% of total domestic production), Dnepropetrovsk Region (10.2 million tons, i.e. 32.2%), Zaporozhye Region (4.4 million tons, i.e. 14%) and Lugansk Region (2.9 million tons, i.e. 9%). Most steel (about 70%) is produced in the Donetsk, Zaporozhye and Lugansk Regions. The production of cast iron and rolled steel products is also concentrated in these districts, as well as in the so-called great five steelworks. The production of pipes is concentrated in Dnepropetrovsk Region, where four of Ukraine‘s seven factories are located.
History of development
The development of the metallurgic industry in Ukraine dates back to the 19th century, when numerous deposits of iron ore and coal were discovered. This was associated with the accelerated economic development taking place in Tsarist Russia at the turn of the 20th century.
The main factors of development of metallurgy in Ukraine are the proximity of iron and manganese ore deposits, coking coal, and non-metallic materials — limestone, molding sand, and refractory clay. In the USSR heavy industry was developed rapidly, and this led to the further industrialisation of Ukraine, which became the USSR‘s leading industrial centre, as well as its granary, and developed a ferrous metallurgy potential that was comparable to that of Russia. The break-up of the USSR gave rise to deep recession, and brought about changes in the structure of the former Soviet republics industry, the output of steel products began to decrease, and this process continued in Ukraine until the mid-1990s.
The revival of Ukraine’s metallurgy sector resulted from the relatively favorable overseas economic situation in the late 1990s and the dynamic growth of exports. An important role was also played by the authorities’ policy of granting the metallurgic industry a series of tax rebates in 1999 as part of the so-called economic experiment in the sector. As this sector of industry was rather attractive it quickly found itself in the hands of new owners, who have usually been affiliated to the enterprises original managers.
Key market players
Today the main entities around which the sector is consolidating are the Ukrainian interest groups frequently referred to as industrial financial groups (IFG) The first Ukrainian IFGs began to form back in the early 1990s.
For many of them, the basic capital necessary for development turned out to be not finance per se but rather assets, such as the power to influence the authorities, from the managers of particular state-owned enterprises to the regional authorities (who shape the economic and political lives of the Ukrainian provinces), and to the political elites in Kiev. As a result of this symbiosis between political power in the state and economic power in the economy (especially in metallurgy), many leading industrial-financial groups (IFGs) have risen and fallen in recent years as their political patrons gained and lost power.
Over recent years, IFGs have been playing an increasingly important role. Today Ukrainian IFGs are the main investors in the market. Each major IFG has its own political backup in the authorities at regional or national level, depending on the scale of its investments. Today the most influential IFG on the Ukrainian metallurgy market are: The Industrial Union of Donbass, The Privat Group, The Interpipe Group and System Capital Management.
Industrialnyi Soyuz Donbassa (ISD) is a leading transnational steel company, headquartered in Donetsk. ISD is ranked among the 30 largest international steel producing companies with an annual production capacity amounting to 10 million tons of steel.
The Corporation is a world-known producer of steel in Central and Eastern Europe, whose production and rolling facilities are strategically situated in CIS and EU countries. Customers on the world’s major sales markets are well-acquainted with ISD products.
Being a leader of steel plants technological modernization, the Corporation is implementing a number of ambitious programs in the steel industry aimed at reconstructing and expand production capacities at all of its steel assets. Nowadays the Corporation owns a diversified product portfolio, including semi-finished, final flat and long products.
Being a pioneer of industry, ISD actively supports corporate social responsibility programs. It allocates millions of UAH to support charity programs, educational, medical, sports and territorial development projects.
ISD owns and operates the following steel assets:
— Alchevsk Metallurgical Plant (Alchevsk, Ukraine);
— Alchevsk Coking Plant (Alchevsk, Ukraine);
— Dneprovskiy Dzerzhinskiy Metallurgical Plant (Dneprodzerzhinsk, Ukraine);
— ISD–Dunaferr (Dunaujvaros, Hungary);
— ISD–Huta Czestochowa (Czestochowa, Poland).
The Corporation conducts trade operations in Ukraine and CIS countries due to strategic partnership with LLC Ukrainian Metallurgical and Mining Company and LLC Russian Metallurgical and Mining Company.
The Privat Group, or Privatbank Group, is an influential business group in Ukraine grouped around Privatbank. The group is controlled by the Ukrainian businessmen Henadiy Boholyubov, Oleksiy Martynov, and Ihor Kolomoyskyy (the latter being the leading partner, best known to the public). Privat Group controls steel, oil, chemical, energy and food industry companies in Ukraine, Russia, Romania and the United States. Most businesses of the group (including Privatbank itself) are based in Dnepropetrovsk Region, which is regarded as its “homeland”. Being a business oligarch entity, Privat Group controls several Ukrainian media, maintains close relations with politicians and sponsors professional sports.
The businesses of Privat Group are not formally included in a corporation, and its top managers sometimes say that there is no such group at all. However, either PrivatBank or Privat-Intertrading company indirectly own all companies regarded as parts of the group. Typically, industrial companies are controlled through a complicated chain of offshore companies. Various steel companies form the core of Privat Group, presenting a full manufacturing chain of metallurgy. This oldest and most important part of the group is mostly located in and around Dnepropetrovsk .
Apart from its ferroalloy-ore assets, Privat Group has stakes in all three of Ukraine’s ferroalloy mills and controls two of them:
— formerly Nikopol Ferroalloys Plant, the world’s second ferroalloy manufacturer (co-owned and fiercely fought over with the Interpipe Group) (Nikopol),
the privatisation was declared illegal in 2006;
— Stakhhanov Ferroalloys Plant (Stakhanov, Lugansk Region of Ukraine);
— Zaporizhzhia Ferroalloys Plant (Zaporozhye);
— Alapayevsk Metallurgy Plant (Alapayevsk, Russia);
— Ferroalloys company in Romania (mentioned by the group co-owner but undisclosed as yet);
— Highlanders Alloys LLC (New Haven, USA).
The Interpipe Group, or simply Interpipe, is the influential Ukrainian business group founded and mostly owned by local business oligarch Victor Pinchuk. The group focuses on steel industry (particularly rolling), although indirectly controlling assets in various fields of industry, services and media. Interpipe is a globally-important player on the metal pipes (hence the name), steel wheels and ferroalloys markets.
The Corporation Headquarters is in Dnepropetrovsk (Ukraine), representations and agency services — in Russia, Belarus, Azerbaijan, Kazakhstan, Uzbekistan, Switzerland, the USA and other countries.
The Interpipe product portfolio is focused on creating value-added and technological advantages for companies extracting and transporting oil and gas. Interpipe’s long experience and understanding of the oil and gas business gives it the opportunity to find tailored solutions for clients and to create long-term partnerships with them. Working in tandem with its clients Interpipe Group achieves efficiency increases in exploration work and cost reductions for oil extraction. Above all, Interpipe provides reliability ensuring secure strategic oil and gas pipelines. By opening trade offices in strategic regions around the world Interpipe Group meets its clients’ needs by directly reducing communication distances and optimizing order processing and implementation.
Production is delivered to more than 70 countries around the world, the export share in the structure of sales comes to about 70%. Following the results of all-Ukrainian rating ÒOP–100 Interpipe occupied 7th place in the basic rating of the best companies of Ukraine and 5th place in rating of the best companies on export volumes. Pipe enterprises — participants of the Corporation — won first places in the branch rating of the pipe industry.
The group structure includes a number of industrial, trading and service private companies. Currently over 30,000 people work at the group`s enterprises. The following are part of the Interpipe group: joint-stock bank Credit-Dnepr, TV channels: STB, ICTV, Noviy Kanal; Fakty i Kommentarii newspaper. The following belong to Interpipe: open joint-stock company Nizhnedneprovskiy pipe factory, open joint-stock company Novomoskovskiy pipe factory, Joint-Stock Company Nikopol factory of seamless pipes NIÑO TUBE, Nikopol ferroalloys plant, 6 sugar factories (Sumsko-Stepanovsky, Voronezhskiy, Nizovskiy, Burinskiy, Chupahovskiy, Pivnenkovskiy). The principal shareholders and clients of the Credit-Dnepr bank are an Ukrainian-American society with foreign investments Logoimpeks, Nizhnedneprovskiy pipe-rolling factory, JSC Yuzhformatika, OJSC Nikopol South trumpet factory, JSC Nikopol corrosion-proof pipes factory, OJSC Dnepropetrovsk factory for repairing and building passenger cars, OJSC Alchevskcoke, JSC Promarmatura, Setab Ukraine, OJSC Factory Dnepropress, OJSC Komintern Dneprovsky metallurgy factory. Interpipe operates the assets of the Dnepropetrovsk OJSC Vtormet and Nikopol Joint-Stock Company Repair factory.
System Capital Management, or SCM, is a big Ukrainian financial and industrial holding company with headquarter based in Donetsk, in the east of the country. The business is controlled by a Ukrainian businessman Rinat Akhmetov who owns 90% of the company shares. According to recently published figures the group has revenues of over USD 17 billion and has assets worth over USD 26 billion.
Since its inception in 2000 System Capital Management has evolved from a regional business into the leading national financial and industrial group, building up its operations in Ukraine and internationally. We distinguish the following stages in development of SCM Group. During the first stage SCM focused on expanding its investment portfolio and bought most of its businesses. The company also began to modernize enterprises and introduce common management standards.
In 2004-2006 SCM launched a restructuring program to improve the efficiency of the corporate structure and governance in the Group. The first step was to establish industrial holdings, Metinvest and DTEK, which took over management of all assets within SCM Group in mining and metals and energy respectively. Banking and insurance businesses also joined the list of key areas SCM was expanding into. The Company set out to develop new areas: media, real estate and fixed-line and mobile telecommunications. In addition, SCM started producing consolidated accounts audited to International Financial Reporting Standards (IFRS).
In 2008 SCM Group established a clear development strategy. The Group expanded their business through internal growth and new acquisitions in strategically important areas of industry and the economy (mining and metals, power industry, finance, telecommunications, real estate, media, retail, etc). SCM remains committed to its business approach: reasonable diversification, and long-term investment in assets promising a high potential for growth in profits and value. The goal of being a successful company of world-class also remains unchanged.
The biggest company in the SCM Group is Metinvest, which is a mining and steel business and is generally agreed to be Ukraine’s largest private business and one of the bigger steel businesses in Europe. It is also the largest Ukrainian producer of iron ore. Metinvest also has assets in Italy, UK, Bulgaria and Switzerland. The second company of the Group is DTEK, which mines coal and owns and operates a number of power stations in Eastern Ukraine. SCM also owns two large banks and an insurance company. In telecommunications, SCM has a fixed line business, Farlep-Optima, and a big share in mobile operator, Life:). The Group’s media interests include the newspaper Segodnya and the TV station TRK Ukrayina. The group is also in the real estate business and owns two five star hotels — one in Kiev and one in Donetsk.
Actual situation on the market and its future prospects
The metal products market is divided into the domestic one and the foreign one. Ukraine’s metallurgical enterprises supplies only 20% of metal products to the domestic market and exports 80%. In Russia, Ukraine’s both closest neighbor and competitor in the metals sector, the shares are roughly 50:50. You can count on Russia not giving away its domestic rolled steel market to foreign manufacturers, while at the same time increasing its own exports, to Ukraine as well. This is supported by the fact that the export volumes of Ukrainian metal products to CIS countries are constantly decreasing.
It was due to developed domestic market of metal products that Russian metal works had lower losses under the world economic crisis than Ukrainian ones. Ukrainian metallurgists can only hope that the plate, which traditionally accounts for the first roles (25%) in Ukrainian rolled metal exports, stays on the same high level, since the country utilizes 3 up-to-date plate-rolling mills.
The major consumers of metal products are the base industries: machine-building, automotive, construction, etc.
For the time being ferrous metals products have no competitors or substitutes. The requirements of metal products (in terms of mechanical characteristics, corrosion-resistance, flawlessness, etc.) would only increase and expand. The purchasing power of metal product consumers depends completely on conditions in the world economy.
Even with its powerful metal industry Ukraine has lately imported over 1 million tons of metal per year. On one hand this shows that the Ukrainian market of metal products is unprotected. On the other, the reason is Ukraine has decreased the output of high-technology metal products, i.e. of alloyed, stainless and special steel.
The main competitors of Ukrainian rolling plants in Europe are the metal works of Germany, France, Italy, the Netherlands, and Slovakia, and in the East those of Japan, China, India and South Korea. It should be expected that in the near future the metallurgists of China and India, due to quick development, would drive foreign metal products from their markets and would increase their shares in Middle East countries and Indochina. There would be no place on those markets to sell Ukrainian metal at world prices. And dumping is out of question for Ukrainian metallurgists because of outdated methods and equipment of companies, the product cost of which is much higher than that of modern companies. The main reason is that in recent years the mining-metallurgical companies of Ukraine, while keeping extremely high prices for metal products, have increased the output volumes, not paying attention and not investing in reequipment, modernization and reconstruction of their capacities. The financial-industrial groups that owned metal works in Ukraine didn’t see the need to reequip their companies and develop up-to-date techniques and machinery.
During all 20 years of independence the biggest problem in reforming the Ukrainian mining-metallurgical companies was excess capacities. The country still uses some uncompetitive outdated metal works that can only exist because of extremely high prices for metal products or large preferences, i. e. cheap (because of state subsidies) gas, coal, electric energy, privileges for railroad carriage, etc.
In previous years some Ukrainian metal holdings invested a lot into buying metal capacities abroad. Taking into account that Ukraine exported some 8-12 million tons of semi-products, it seemed advantageous to buy capacities abroad to process them into finished products. But the purchased metal works in USA and Europe were not up-to-date, that is why the profitable semi-products processing on them is economically advantageous only provided that prices are low, or Ukrainian slabs and billets are cheap, and under the crisis, as well as in the future it should not be relied upon. Some owners of metal companies have already started selling their assets.
We should not talk about a major development of the domestic metal products market as a prerequisite of a constant functioning of the Ukrainian metallurgy market and the weakening of its dependence on fluctuations on the world market. There are no prerequisites in the country for a good increase in the domestic metal market for the next 10-15 years. What should be done immediately is to stop the import of metal products which Ukrainian metal works can produce themselves.
Because of the low technological level of manufacture, Ukraine uses 52.8 man-hours to produce one ton of steel, while Russia uses 38.1 and Germany — 16.8 man-hours. At full loading of metal works in Ukraine with a full metallurgical cycle, the productivity of labor is around 200-250 tons of steel per 1 worker per year, while the modern electric-metallurgical mini-mills with a capacity of 1.5-2 million tons of steel per year yield 3,000-4,000 tons.
Putting outdated capacities out of operation and decreasing the number of employed, switching them to other industries would require considerable financial expenses. France, over the course of 10 years, has decreased its metal capacities from 30 million to 16 million tons per year, and the number of employees from 200,000 to 50,000. The cost of this was USD 3 billion per year. To carry this out Ukraine needs deep economic calculations, evaluation of possible outcomes and political will on the part of the government. As well as an understanding that sooner or later industry priorities will be reformatted and not in the favor of outdated metal companies.
