Deals of the Year: Middle Market –

WL Ross & Co. is no stranger to reviving troubled companies. Its founder, Wilbur Ross, has been doing turnarounds for many years, and the firm has had numerous successes turning misfortune into fortune. But orchestrating the revival of an entire industry is not everyday news, especially when it’s the depressed steel industry.

In WL Ross & Co.’s acquisition of LTV Corp., which had been shuttered prior to the deal, the firm saved the company from being broken up and sold piecemeal to various bidders. WL Ross was the only bidder willing to acquire the company whole, and while LTV stockholders and the unsecured lenders came out of it empty handed, the privatization allowed LTV to emerge from the scrap heap and become a player again in the steel industry.

The sagging steel industry and LTV’s subsequent dormancy allowed this deal to fall into the middle-market category at $325 million, even while competitors such as Bethlehem, which ISG itself agreed to acquire, and National Steel have drawn bids in and around the 10-figure level.

To be sure, this isn’t the first time Wilbur Ross has had his hands in the steel sector or for that matter in a turnaround effort for LTV. Ross acted as a financial advisor to the company during its previous bankruptcy in 1986. Despite the previous association, though, Ross still had to do his fair share of research on the company.

“We’d been looking at LTV for a quite a long time,” he said. “Starting in 1998, it was clear that the steel industry was going to go through a rough patch, so we systematically looked at every company in the sector to determine which companies would fail and which were revivable.” After amassing 50 file cabinets worth of data, LTV emerged as Ross’s target.

LTV had filed for Chapter 11 bankruptcy protection in December 2000. In March 2001, the company reported a full-year loss of $719 million, and later that year, in November, LTV requested permission from the bankruptcy court to halt its steel operations, receiving approval to do so one month later. At the end of February 2002, WL Ross won the auction to buy LTV’s steel operations, and subsequently changed the name of the company to International Steel Group. ISG resumed steel production at the former LTV mills just three months following the acquisition.

WL Ross agreed to pay $325 million for LTV’s assets, with $85 million of that in equity, plus a $200 million line of credit and the balance going to the assumption of environmental and other liabilities. The purchase price itself is less than the amount LTV was paying in interest payments on its debt each year. Ross noted that LTV may have received other bids for its separate units that in aggregate may have exceeded his firm’s offer, but in the end WL Ross offered the only fully financed, unconditional bid, which was why the firm won the deal. Ross ascribed the general lack of interest from other potential buyers to the apparent risks in the industry, noting that in the last four years, 30 steel companies had filed for bankruptcy.

The deal’s depressed price by itself, though, was not enough to attract Ross. The firm was able to acquire the company without assuming any legacy liabilities, including pension and retiree healthcare costs, and Ross understood that it would also need concessions from the employees and management in order to make LTV a profitable venture. “[United Steelworkers Union President] Leo Gerard and his associates had very much the same vision that we did,” Ross said. “They looked favorably on our large equity stake, knowing that steel companies cannot survive with a highly leveraged balance sheet.”

ISG got the union to agree to substantial job cuts, and now employs 2,700 employees, not including its recent Bethlehem acquisition, versus 7,000 at its peak. While these cuts were not easy to swallow, the company smoothed the job cuts with a sweeping reduction in management and performance-based contracts for the employees. “Management was cut at a higher percentage,” Ross said. “We went from seven layers of management from factory floor to CEO to just two.” He added that with bonuses based on two-week and quarterly objectives, “ISG’s employees are becoming close to the highest paid in the industry.” With the new contract, ISG has improved its production to a rate of 0.9 man hours per ton of steel from LTV’s rate of 2.5 man hours per ton. ISG agreed to a six-year contract, as opposed to the industry standard three-year arrangement, and the contract also provided for what would happen if ISG acquired Bethlehem Steel, a deal that was announced Feb. 5.

While the contract renegotiations were a key driver, WL Ross also took on the risk of whether the proposed U.S. steel tariffs go through. The firm had to submit its final offer one week before the Bush Administration was to decide on whether it would impose tariffs on steel imports. “Our research told us that we could expect something quite substantial,” Ross said, adding that he was not completely surprised by the 30% duties the Administration eventually imposed on certain imports. The tariffs prevented foreign competitors, which are often government subsidized, from dumping their products in the U.S. and also allowed LTV to regain its foothold in the U.S. market after being inactive for five months. Prior to the tariffs, steel had been selling for between $260 and $270 a ton, and has since stabilized at around $325 a ton, although it has been as high as $400 a ton since the tariffs were imposed.

Another gamble-and perhaps the biggest, according to Ross-was whether or not the firm would be able to restart LTV properly. “Nobody has ever restarted six million tons of steelmaking capacity from ground zero, and a lot could go wrong,” he said. The firm sent ISG’s new management team, led by former Nucor executive Rodney Mott, now CEO of ISG, to inspect the facilities, and on their word decided to go through with the purchase.

Once WL Ross cleaned house at LTV, the firm set its sights for other players in the industry and quickly snapped up the formerly defunct Acme Steel, buying its assets for $65 million. The company was a snug fit for LTV, providing equilibrium to ISG’s steel offerings. “LTV had an imbalance for its capacity to make raw steel versus finishing it, and Acme was the opposite,” Ross said. “Together, the companies give ISG a more balanced and diverse product line.” It should also be noted that finished steel also sells for more than raw steel and has a higher profit content.

Most recently, ISG agreed to pay $1.5 billion to acquire Bethlehem Steel, a deal that if approved would make ISG the largest steelmaker in North America, and provide the company with a number of operating synergies. The addition of Bethlehem would additionally give ISG a presence near a deepwater port, making shipping more efficient and less costly.

When asked what’s next, Ross said, “The first order of business is to integrate Bethlehem.” However, reports have begun to surface that the steelmaker intends to float itself in a public stock sale as early as this year. Ross refused comment on that (see story, front cover). In any event, the mere prospect of an offering from ISG has some investors licking their chops in anticipation.

With LTV’s transformation into ISG, the company has renovated itself from a bankrupt business with shuttered plants, into the largest integrated steel company in North America, with the capacity to produce over 16 million tons of steel a year, while keeping costs down and its remaining employees motivated. And while ISG hasn’t yet changed the industry, it has certainly established a blueprint that others will likely follow.