Metals and Mining

At a December 30 EGM, shareholders of Poltava GOK [PGOK UZ, U/R], also called Ferrexpo Poltava Mining, voted two representatives of DCM DECOmetal International Trading GmbH, off of its Supervisory Board. According to a company press release, the decision is related to the fact that on December 22, 2008, Poltava GOK bought back all shares that were owned by DCM DECOmetal International Trading GmbH.

After an October-November SCI at Poltava GOK, the total number of shares outstanding amounts to 191 mln. According to our estimates, DCM DECOmetal International Trading GmbH used to own 12.24 mln shares (6.4%, the treasury stake now), Ferrexpo AG owns 90.2%, and the free float (likely including some shares owned by the workers and the management) amounts to 3.4%. We expect Poltava GOK to soon update the public on the exact size of Ferrexpo AG’s stake following the last SCI.

Poltava GOK is ultimately controlled by Ferrexpo PLC [FXPO LN, N/R], a recent London Stock Exchange newcomer, which is, in turn, controlled by Konstantin Zhevago, a Ukrainian businessman, the CEO of Ferrexpo since October 2008, and a member of the Yulia Tymoshenko Block, a leading Ukrainian political party. In 2007, Poltava GOK produced 9.072 mln metric tons of pellets, which is up 6% YoY. Ferrexpo purchases most of Poltava GOK’s pellets and re-sells them, mostly via yearly contracts.

Our view: As we explained in an August 14 news piece, we expect Poltava GOK to cancel the shares. Alternatively, the company can sell the stake. A decision on what to do with the treasury shares must be taken within a year, that is, by December 22, 2009.

The cancellation of treasury shares will be positive both for minorities and Ferrexpo, because their stakes in the company will increase by 6.8% (provided no SCI is conducted by the time the shares are cancelled).

According to Metal Courier estimates, the Enakievo ISW group, which includes OJSC Enakievo Iron & Steel Works [ENMZ UZ, U/R], smelted 199 thsd mt of steel in December, which is up 49% MoM. This month’s output is only 14% below the 11M08 average of 230 thsd mt.

The full year 2008 production is expected to have amounted to 2.73 mln mt, down only 2% YoY.

Enakievo ISW, together with Metalen LLC, comprise the Enakievo ISW group, which is a member of the Metinvest Group, an assembly of the metallurgical and mining assets belonging to Rinat Akhmetov and is strategically directed by Metinvest Holding LLC. Vadim Novinskiy and his Smart Holding also have a 25%+1 stake in Metinvest Group business. Enakievo ISW group specializes in long products, but sales are currently dominated by semi-finished billets.

Our view: POSITIVE. Ukrainian producers of semi-finished long products, including the Enakievo ISW group, have apparently found markets for their products. Metal Courier has recently reported that even China is considering importing CIS billets.

Zaporizhstal [ZPST UZ, U/R] increased crude steel output to 283 thsd mt in December, according to Metal Courier estimates, which is up 20% MoM and only 15% below the average 11M08 level of 333 thsd mt per month.

The full year 2008 production is expected to have amounted to 3.94 mln mt, down 12% YoY.

Zaporizhstal is the fifth-largest Ukrainian steelmaker. The company is not vertically integrated. Zaporizhstal shares have been traded on the PFTS since May 20, after almost two years of being delisted due to a rough 3.13x minority dilution. The Midland Group owns a significant stake in Zaporizhstal – 47.70% according to our recent tally. In December 2008, it was reported that the Midland Group is in the process of splitting, and the fate of the Group’s stake in Zaporizhstal is not clear yet.

Our view: POSITIVE. Zaporizhstal is one of only two Ukrainian finished flat steel producers, and has, so far, preserved its volumes substantially better than its peer, Mariupol Illich ISW. Apparently, Zaporizhstal’s trading partners within the Midland Group have results (high sales volumes) to support a substantial profit transfer.

Metal Courier has reported preliminary estimates of steel production numbers for December. The total crude steel output of Ukrainian steelmakers amounted to 1.99 mln mt this month, which is 25% above the November reading of 1.60 mln mt, but still 38% below the average 11M08 monthly level of 3.19 mln mt.

The full year 2008 production is expected to have amounted to 37.07 mln mt, down 14% YoY.

Our view: POSITIVE, as the situation is apparently showing some signs of stabilization. Since the July 2008 volume of 3.67 mln mt, Ukraine’s steel production has been decreasing for four months in a row.

There are reasons to expect further stable functioning of the Ukrainian steel smelters at the level of 1.7-2.2 mln mt per month. Most importantly, Ukrainian prices of source materials have dropped substantially, as suppliers finally admitted that a buyers’ market has set in.

For example, coke in Ukraine now costs USD 116 per mt, which is down 83% from its crazy August peak of USD 705 per mt. Significantly, in the first three quarters, Ukrainian steel smelters paid about 18% more for coke than their Russian peers, and about 28% more than Chinese steel producers. However, the comparison of 4Q08 Ukrainian coke prices yields an average discount of 4% to the Russian coke market and a premium of only 8% to Chinese coke prices. In December, discounts amounted to 27% (Russia) and 28% (China).

Similarly, in November, the Metinvest Group, which controls most of the Ukrainian supply of iron ore concentrate and pellets, became more flexible. The iron ore concentrate prices dropped 50-60%, from USD 110-120 per mt in September-October to USD 50-60 per mt in December.

The Ukrainian metals and mining complex has started to use its enormous resilience reserves of minimal pricing and margins in order to keep the volumes as high as possible. We will continue to monitor the situation in the year 2009.

Mariupol Illich Iron & Steel Works [MMKI UZ, U/R] increased crude steel output to 295 thsd mt in December, according to Metal Courier estimates, which is up 44% MoM but still 39% below the average 11M08 level of 483 thsd mt per month.

The full year 2008 production is expected to have amounted to 5.60 mln mt, which is down 19% YoY.

Mariupol Illich ISW is the second-largest Ukrainian steelmaker. The independent company is not part of any vertically integrated group.

Our view: POSITIVE. The company has finally started to recover this month.

However, among the only two Ukrainian finished flat steel producers, Mariupol Illich ISW has dropped its volume substantially more than Zaporizhstal [ZPST UZ, U/R]. We explain the difference by a better sales force at the Midland Group, the owner of Zaporizhstal.