Can Sajjan Jindal get his mojo back?

SITTING IN HIS fifth-floor office in south Mumbai’s Jindal Mansion, once the summer palace of the Maharaja of Darbhanga, Sajjan Jindal radiates confidence when he talks of his plans to become India’s next steel king. A fitness enthusiast who exercises an hour every day, plays squash three times a week, and rides occasionally, Jindal says, “Things will start looking up now.” Brave words from someone whose company, JSW Steel (ranked 31 on the Fortune India 500, up from 39 last year), has been at the centre of a raging controversy over illegal mining in Karnataka.

JSW Steel’s largest plant, which produces nearly 7.8 million tonnes of steel every year, of the 10 million tonne installed capacity, is in Toranagallu, Karnataka, 360 kilometres from Bangalore. The site had been chosen because of “the proximity to the raw material”, says Seshagiri Rao, joint managing director and CEO of JSW Steel. The idea was to buy iron ore from a number of mines in the region. JSW Steel is one of few steel producers without a captive mine and sources its ore locally (the plant needs 12.5 million tonnes of ore a year). But the advantage turned into a catastrophe when the Supreme Court banned iron ore mining across 124 mines in Karnataka’s Bellary, Chitradurga, and Tumkur districts in July after a damaging Karnataka Lokayukta report. (The Lokayukta is a quasi-judicial body set up by the state government to investigate allegations or grievances related to administrative actions.) Steel producers such as JSW and Adani Enterprises were accused of illegally mining iron ore, paying bribes, and engaging in other unethical practices.

On Aug. 4, in a press conference, JSW contested the allegations, saying “it had scrupulously followed all rules and regulations”. The next day it approached the Supreme Court, pleading that the ban was hurting business. The court appointed a central empowered committee; based on its findings, a judgment is expected on January 20.

By September, the lack of ore hit operations at the Toranagallu plant, bringing down production to 30% of capacity. The Supreme Court then allowed state-owned National Mineral Development Corporation (NMDC), ranked 63 on the Fortune India 500, to begin e-auctions from Sept. 14, and JSW managed to buy 4 million tonnes of ore. Since Karnataka has strict rules governing movement of trucks, the factory has received only 1.3 million tonnes; the rest is still at NMDC’s mines. Production has gone up to 60% of capacity, but lack of ore has had an impact on margins, says Rao. Add to that, the net loss of Rs 345 crore declared by its subsidiary JSW Ispat, and the loss of Rs 31.7 crore declared by JSW Energy, and Jindal seems to be in a tight spot.

He says he felt “hurt, angry, and shocked”, when the Lokayukta report was published, adding: “I have spent Rs 40,000 crore in Karnataka in over a decade—setting up the plant, building infrastructure, providing jobs, and ensuring development of the region. The Lokayukta didn’t even consult us once or give us a chance to explain our position.” Santosh Hegde, the author of the report, was not available for comment.

The market took note immediately, and JSW Steel’s stock crashed by nearly 20% towards July end. On August 1, the stock plunged another 10% to Rs 694.8, from (Rs 1,280 in November 2010) after Citi downgraded it, halved its price target, and rated it a “sell”. Foreign institutional investors reduced their exposure to JSW Steel by 8.8%, compared to relatively minor cutbacks of 1.7% and 2.2% in the case of Steel Authority of India (SAIL) and Sesa Goa, respectively, which also bought ore from the region. By November end JSW Steel’s stock was around Rs 500: Nearly Rs 73,000 crore of value eviscerated in a year.

Given all this, Jindal’s optimism seems very like a boy whistling in the dark. But he has always been an optimist. Even now, when the prospect of a closure of a few Toranagallu blast furnaces seems very real, he’s upbeat. “When you go through a downturn, instead of becoming demoralised and depressed it’s better to think in a positive way and say to yourself that you need to clean up your act.” While some of this has to do with his personality, a good part comes from who he is—the son of prominent industrialist the late O.P. Jindal, and a prince in his district of Hisar in Haryana.

With his pedigree—his father was a politician and philanthropist, stepmother Savitri is a Member of the Legislative Assembly, and brother Naveen is a Member of Parliament (Congress)—failure is not an option. Pretty much everyone in Hisar recognises the Jindal name. However, as Mani Ram from Kisangarh, a village in Hisar, who works at a nearby cotton export company, says, all the villagers know that the brothers are “well settled in Mumbai or Delhi”. Nobody really knows about Sajjan Jindal’s troubles; to them, Bellary is just a name. He can’t possibly go back to his hometown beaten, then.

“The key to understanding the Marwari mind is to understand that they come from a trading background. Trading means doing business on very low margins. The greatest asset of the Marwaris is their ability to spot an opportunity and move aggressively to capitalise on that opportunity. What helps their cause is their hardworking nature,” says K. Ramachandran, professor of entrepreneurship, family business, and strategy at the Indian School of Business.

Jindal was, till recently, hoping to produce 14.3 million tonnes per annum in 2011-12, compared to SAIL’s 14 million tonnes and way ahead of Tata Steel’s domestic production of 6.8 million tonnes. The crowning glory would be reaching the optimum 10 million-tonne output from his state-of the-art Toranagallu plant.

As industry body Assocham’s president a few years ago, Jindal would often talk about why it was a bad idea to export ore, since that would hurt the interests of India’s steel makers. Last year he bought ailing Ispat Steel from the Mittals, fearing that if he didn’t, the Tatas would. And he didn’t want competition in his backyard.

“THE PROBLEM WITH MOST INDIAN BUSINESSMEN is that when they do a feasibility study, they only look at the best-case scenarios; almost nobody considers the worst case,” says A.S. Firoz, chief economist at the Economic Research Unit, Ministry of Steel. That, experts say, is the reason behind many business failures, and among the main reasons for JSW Steel’s fix. Rao seems to agree. “Even though there were many risks regarding the location of the plant, we went ahead.”

But he adds that this was also because the Karnataka government gave the company assurances that it later didn’t meet. Back in 1994, when the MoU was signed, the state had promised JSW exclusive use of a mine with reserves of 110 million tonnes. But ultimately they were given rights to a mine with reserves of 25 million tonnes, which too was shut down during the ban. The state government refused to comment on the matter.

That seems to be typical of all that’s gone wrong for JSW Steel; nothing really is in its control. In November last year, its allocated coking coal mine in Jharkhand was cancelled by the environment ministry, then under Jairam Ramesh.

After the Lokayukta report, NMDC, which has so far supplied JSW and other steel manufacturers with iron ore, has been ordered to annul all long-term contracts with these companies, and sell only through auctions. That’s cut deep into JSW Steel’s iron ore supply. The company has had to buy ore at Rs 4,300 per tonne from October—a 33% increase from its NMDC price of Rs 2,880 a tonne.

“At that price, using the iron ore is not viable for most players. Even if the reserved price is Rs 2,880 a tonne, you have to pay a royalty of 10%, another 10% as forest development tax, beneficiation, and transportation. That makes the landed cost of iron ore Rs 4,000 plus. At that cost it is very difficult to run a plant and make profits,” says Tanuj Rastogi, senior analyst at Marwadi Shares and Finance, a Gujarat-based stockbroker. Another analyst at a financial services firm adds that Jindal will be hit by the depreciating rupee, which will add to the cost of coal.

It has already incurred a loss of Rs 513 crore on the import of coking coal and a notional loss of Rs 500 crore on its foreign currency loans in the second quarter of this financial year (July to September). This is when it has to service a debt of Rs 14,200 crore.

Foreign exchange losses because of a depreciating rupee, high input costs, and cuts in production have already taken a toll on the company’s second quarter results. Although total production and sales have gone up by 11% and 33% respectively, net profits have dipped by 71.5% to Rs 127 crore compared to Rs 445.45 in the same quarter last year. The company announced that the profit would have been much higher had the production not been cut due to severe iron ore shortage (production was lower by at least 450,000 tonnes) and foreign exchange losses of Rs 512.98 crore due to the adverse rupee-dollar movement. The company has already announced that, because of ore shortage, it is reducing its guidance for production and sales by 14% and 13% to 7.5 million tonnes and 7.8 million tonnes, respectively, for 2011-2012.

The steep prices for inputs will affect the company’s operating margins. According to Mumbai-based Elara Capital, JSW’s Ebidta will fall to about $75 (Rs 3,820) a tonne from $125, due to higher costs. That’s a hit of $50 million for every million tonnes of steel it makes.

Jindal, however, typically refuses to admit that there is a problem. “After December 15, the steel cycle will come around,” he says optimistically, relying on the historical trend of construction picking up in December. However, he admits that this might not mean much. “Construction has been badly hit because of high interest rates and people not buying enough. Today, only 20% of our steel production goes to the auto sector; the rest is to the construction sector.” So, how does he plan to get around that? “I see it as a cycle of business; you have to go through a difficult period.”

Things were not as bad even a couple of months ago. When the company released its financial results for the three months ended June, oblivious of the brewing storm, most analysts gave it a “buy’’ rating. In the first quarter of 2011-12, its net profit went up by 65% to Rs 578 crore, and net sales by 52%.

WITH ALL THE CONTROVERSY OVER illegal mining and destruction of forests, Jindal might have to rework his strategy, depending on the Supreme Court’s January 2012 ruling. Analysts say that there are a few clear options before the court: Re-auction the illegal mines, which means that Jindal might have a shot at owning a captive mine; or, allow the mines to restart operations, but with a cap on the total output; or shut them. This means that steel companies in the region will have to find an alternative source of iron ore. “It is physically not feasible to get such huge quantities of ore from other states or abroad. So, unless the Supreme Court sees fit to restart mining, the entire industry will suffer,” says Rao. Also, given the mood of judicial activism in the country, observers say the political clout of the Jindals may be of limited use.

It’s not just the industry that’s affected by the mining issue. Some 60,000 people are out of work in the Bellary-Hospet area, thanks to mines and steel plants closing. “Mining has been happening in this area for the past 60 years and it has been closed, suddenly. There were some 60 sponge iron plants in that belt, which have all been closed,” says D.N. Gulhane, a geologist who runs a mining consultancy called Global Environment and Mining Services in Hospet.

But Jindal is not fazed by any of this. “We did go through some difficulties, but we have started getting material at consistent rates,” he says. “We hope to get to full capacity by January.” Rastogi agrees, and says it’s possible, all things going JSW’s way, that the company will work at 100% capacity by the first quarter of 2012-13.

But, as Firoz says, this is only seeing the best case. Has Jindal considered the worst case: Mining does not resume for several months, forcing him to shut his blast furnaces? Not really. He merely repeats that the past six months have been bad. What about the future? “We are doing puja to get back to the good times.”