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Fitch Comments On Sumitomo Metals Reorganization Plans And Cross-Shareholding Agreement.

Business Editors


Following the announcement of the reorganization plans of Sumitomo Metal Industries Ltd (Sumitomo Metals) and the cross-shareholding among Sumitomo Metals, Nippon Steel Corporation (Nippon Steel), and Kobe Steel Ltd (Kobe Steel), Fitch Ratings does not intend to alter its view of the companies' credit profiles at the present time. The Senior Unsecured rating for these entities is Sumitomo Metals 'B', Nippon Steel 'BB+' and Kobe Steel 'B+'; the Outlooks of all three companies is Stable.

On November 14, 2002 Sumitomo Metals announced a steel works rationalisation plan, a capital increase plan through private placement, and a de-leveraging scheme. At the same time, Sumitomo Metals, Nippon Steel and Kobe Steel also announced a cross-shareholding plan among the three companies.

Fitch believes it is too early to fully assess the effects of the rationalisation plan overall. It calls for consolidating production of downstream products, while tripling supplies of upstream products (i.e., slabs) to Taiwan's China Steel Corporation (China Steel; the world's 14th largest steel producer) under an agreement with that company. The consolidation of downstream process production is, for the most part, certain to take effect, and Fitch believes it will lead to better production efficiency. With respect to the expanded supply of slabs to China Steel, however, it is necessary to wait until the agreement is formally completed before making an evaluation. The steel works slated for rationalisation is Sumitomo's second largest and older than other works operated by the company. Although the upstream process capacity utilisation rate at the works is now only 60%, it would rise to 100% if the agreement with China Steel is consummated.

With respect to the capital increase plan through private placement, an assessment can only be made after the capital placement has been completed. Sumitomo Metals is planning to make a private-placement capital increase valued at about JPY50 billion, with shares expected to be subscribed by, inter alia, Sumitomo group companies. Given the continued instability of Japan's financial system, however, Fitch believes uncertainties remain as to whether the funds will be available as projected.

With regard to the company's de-leveraging scheme, Fitch sees indications that it may not be carried out. Sumitomo Metals plans to reduce its interest-bearing debt to below JPY1 trillion by March 2006 from the JPY1.65tn of March 2002, mainly by using (1) an expected JPY235bn in cumulative recurrent profit for the years between FYE March 2003 and FYE March 2006; and (2) an expected JPY255bn from asset streamlining during the same period. Fitch believes the company's assumed recurrent profit will be difficult to achieve so long as the basic problem of excessive capacity remains unresolved in a deteriorating world economy. With regard to its asset streamlining assumption, Fitch believes Sumitomo Metals may be unable to dispose of its assets at the anticipated prices as deflation continues to plague the Japanese economy.

Fitch does not view the cross-shareholding among the three companies as leading to a drastic improvement in earnings structure. Sumitomo Metals and Nippon Steel will each invest JPY5bn in the other, with Sumitomo Metals and Kobe Steel at JPY3bn each and Nippon Steel and Kobe Steel also at JPY3bn each. Through these capital tie-ups, the three companies plan to partially co-operate in such areas as product distribution, raw materials sourcing, and common businesses of affiliated companies. However Fitch believes that, compared to their competitors such as Arcelor and JFE Group, any impact on profit from the scheme will be limited.

Many of the issues touched on in the announcement regarding the series of rationalisation plans by Sumitomo Metals are not as yet formalised, and Fitch does not place credibility in the plans. Rather, the agency senses some alarm on the part of the company in the announcement being made when it was, as at the time the issues remained undecided. The agency will closely monitor developments at Sumitomo Metals, while taking into account changes in external matters such as macroeconomic and domestic financial conditions. Moreover since the effect of the cross-shareholding scheme will be limited, Fitch believes it will not affect the credit profiles of Nippon Steel and Kobe Steel.
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Publication:Business Wire
Geographic Code:9JAPA
Date:Dec 4, 2002
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