Konstantin Zhevago is seeking opportunities to continue operations at his iron ore company, Ferrexpo.
An extraordinary board meeting of the British company Ferrexpo plc, whose main assets are located in Ukraine – the Poltava and Yeristovo Mining and Processing Plants (MPPs), is scheduled for this week. This was reported by the British tabloid Sunday Times.
Konstantin Zhevago
The emergency meeting was prompted by the National Bank of Ukraine's decision on September 17 of this year to declare Finance and Credit Bank, the company's primary settlement bank, insolvent. Ferrexpo had $174 million of its $280 million in available funds, which were used to fund the day-to-day operations of its production units, stuck in Finance and Credit Bank.
"The $174 million held at Finance and Credit Bank were Ferrexpo's entire cash holdings in Ukraine. This means they were used to finance its working capital, including paying salaries, paying off suppliers, and servicing internal debt. These funds are now frozen, if not lost. The company may attempt to transfer some funds from offshore accounts, but the fundamental consequences for the business will be significant," says Vladimir Sklyar, head of the Renaissance Capital analytical group.
By midday on September 18, Ferrexpo plc shares, listed on the London Stock Exchange, had fallen by more than a third to 40 pence per share. The company's market capitalization fell to £231 million. In its official press release, Ferrexpo Group noted that "this has not impacted the group's operations at this time," but that "the Ferrexpo board is assessing the situation and will update the market as necessary." The group also announced that it would attempt to recover its funds from the bank.
According to Sunday Times sources, the board of directors will also consider other anti-crisis measures at the extraordinary meeting, such as cutting expenses and dividends, selling a stake in the company, and hiring an outside consultant to conduct the restructuring. Forbes investigated which path is most promising.
Statement to the public
There's a nuance to the insolvency declaration of Finance and Credit Bank and the $174 million Ferrexpo funds "stuck" there that caught Forbes' attention. In its official press release, Ferrexpo Group draws attention to the fact that the National Bank of Ukraine (NBU) posted a statement on its website announcing its decision to declare Finance and Credit Bank insolvent after the close of business on September 17, 2015.
For a businessman of Konstantin Zhevago's stature, the lack of insider information from the main banking regulator is unforgivable. After all, he essentially jeopardized both of his businesses. "Bank Finance and Credit is the Ferrexpo Group's business bank and is a related party ultimately controlled by Ferrexpo's largest shareholder, Konstantin Zhevago," the press release stated.
It's currently unclear whether Ferrexpo will be able to recover the funds held in its Finance and Credit bank accounts. Forbes experts say the only possible withdrawal scheme is debiting funds from correspondent bank accounts to third parties.
Rostislav Kravets, a partner at the law firm Kravets & Partners, believes that technically, the $174 million could have been held not in the bank itself, but in the accounts of partner correspondent banks. "Finance and Credit could act as guarantors for Ferrexpo's obligations, and the funds would be written off. Because simply withdrawing the money would be difficult," Kravets says. Forbes previously described a similar scheme for writing off funds from correspondent accounts of foreign banks.
However, such a write-off could be halted by the state, represented by the NBU or the Deposit Guarantee Fund (DGF), if it has already assumed its powers. Andriy Kiyak, deputy head of the DGF, told Forbes that "it's too early to assess the situation." However, he confirmed that "the DGF has already entered the bank and is managing all the funds through a temporary administrator."
Former NBU board member Vasyl Horbal says that given Ferrexpo's public listing on the London Stock Exchange, the announcement was necessary. "But in practice, we understand that only a few options are possible. For example, turning FIK into a 'transitional bank,' which would retain Ferrexpo's funds as liabilities, and then buy this bank out, perhaps by Zhevago himself. But even Mykola Lagun hasn't been able to achieve this 'transitional bank' yet. Another scenario is a transparent sale of all assets and, as required by law, the satisfaction of the seventh priority, which, based on experience, is very unlikely," Horbal explains.
Bad market
Experts also consider the possible sale of a stake in Ferrexpo to be equally unpromising. The connection between the British company Ferrexpo plc and the Ukrainian mining and processing plants is as follows: the British company owns 100% of the shares of the Swiss company Ferrexpo AG. Konstantin Zhevago, through Fevamotinico Sarl, owns 50,3% of the shares, while another 23,86% is owned by the holding company CERCL Holdings Ltd (which also owns a 50,52% stake in the Czech coal company New World Resources). The remaining 25,84% is freely traded.
Ferrexpo AG, in turn, owns 97,34% of the shares of Poltava Mining and Processing Plant, 100% of Yeristovsky Mining and Processing Plant and 99,9% of Belanovsky Mining and Processing Plant.
"Konstantin Zhevago currently holds a minimal controlling stake. Selling even a tiny stake would result in his losing that stake. Just remember how hard it was for him to part with his shares during the 2008 financial crisis. He owned 75% at the time, but he decided to sell less than 25% to a Czech investor. The arrival of a new investor could bring in cash, but at the cost of losing his controlling stake," says Ivan Dzvinka, an expert at the consulting firm Eavex Capital.
At the same time, Dzvinka doesn't rule out the possibility that the Czech partners' stake could be put up for sale. "This has been discussed repeatedly before. Perhaps they want to exit the business because they see no prospects, but they see great potential for a further decline in the global iron ore market," the expert speculates.
Roman Topolyuk of Concorde Capital advises being very cautious about information from British tabloids. They often report sensational claims that later turn out to be false. Currently, the iron ore market is experiencing a significant decline in consumption, and with it, prices. Therefore, there are few buyers.
"The price of iron ore is currently hovering around $57 per ton, and I think pressure will remain on it until the end of 2015 and into 2016. A further decline in consumption is expected, especially in China, where there's already talk of cutting steel production. However, new mining capacity, previously launched, will be coming online. 118 million tonnes are expected to be commissioned in 2015, and 50 million tonnes in 2016. Some kind of market rebalancing is only possible in 2018," says Roman Topolyuk.
Against this backdrop, the company's management will find it very difficult to explain to its shareholders why they purchased assets in Ukraine. "After all, this isn't a project in Brazil or Australia, where production costs are significantly lower than in Ukraine," explains Topolyuk.
Iron ore price forecasts from leading global companies were recently published. According to analysts at UBS Group AG, the average iron ore price in the fourth quarter of 2015 will be approximately $50 per ton. Meanwhile, experts at Australia & New Zealand Banking Group Ltd. (ANZ) have lowered their forecasts for 2016 and 2017: to $52 per ton next year and $54 per ton in 2017.
Getting rid of debt
Ferrexpo Group's core business is the production and export of high-quality iron ore pellets used in steel production. The group's main asset is the Poltava Mining and Processing Plant (PGOK, Komsomolsk, Poltava Oblast), which exported 7,67 million tons of pellets from January to August 2015, maintaining its leading position in pellet production and export among similar enterprises in the CIS.
Ferrexpo's largest customers are steelmakers from Austria, Slovakia, the Czech Republic, Germany, and other European countries, as well as China, India, Japan, Taiwan, and South Korea. Therefore, given the global iron ore price situation, maintaining its market share is a top priority for Ferrexpo.
Ivan Dzvinka believes that debt restructuring could be the company's optimal solution to the current situation with cash "stuck" in the bank. This item is also on the board of directors' agenda. According to Ferrexpo's own data, its net debt is $653 million, and the company has already begun negotiations with creditors to change the terms of repayment of several loans.
"After completing the Eurobond restructuring, Ferrexpo immediately began restructuring its bank debt. We expect this process to be completed within a few months. Then the company will be able to operate normally. Yes, with a high debt level, but it will operate, its capacity will be fully utilized, and it will be profitable. This will allow it to earn approximately $200 million in EBITDA per year. And bankruptcy will be out of the question," says Roman Topolyuk.
The experts were unable to name who might be brought in as consultants during this restructuring. There are too many uncertainties. Whether the CEO accepts this decision or not will be known in a few days.
Today, the company can no longer make any capital investments. It recently announced that it has completed its investment program and minimized capital expenditures to the lowest possible level. No capacity expansion is expected in the next two to three years. The only investments will be to maintain existing capacity, amounting to $30-50 million per year.
Until recently, Ferrexpo found opportunities to grow, and it would be a shame to lose this advantage now. Thus, by the end of 2014, the company increased its production of commercial pellets from its own raw materials by 2% compared to 2013, to 10,670,450 tons, and from third-party sources by 1%, to 350,860 tons. Overall, this resulted in a 1,9% increase in total pellet production, to 11,021,300 tons.
However, construction of the Belanovsky Mining and Processing Plant in the Poltava region, which was planned to begin in 2016 and was to be at least as powerful as the Poltava Mining and Processing Plant, has also been postponed indefinitely. At least until demand recovers and iron ore prices begin to rise.
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