TKAMY Thyssenkrupp AG (PK)

By Eyk Henning and Alex MacDonald 

FRANKFURT -- Engineering conglomerate ThyssenKrupp AG, of Germany, and India's Tata Steel Ltd. have held talks on combining their continental European steel operations, as overcapacity continues to weigh on prices and profits, according to people familiar with the matter.

The companies have been holding high-level talks for over a year, the people said, noting Thyssenkrupp's preferred structure might be a tie-up of the two companies' steel assets in a joint venture.

It wasn't immediately clear where the talks now stand.

There is also no guarantee a deal will be reached, one of the people said, adding that an agreement is unlikely in the short term. If completed, the transaction would help both companies gain scale and reap synergies.

German daily Rheinische Post reported earlier that the companies were in advanced talks on combining their steel operations. Thyssenkrupp's shares soared following the report, rising as much as 7.7%, in morning trading.

A reduction of its steel exposure would help ThyssenKrupp sharpen its profile as an engineering company with a highly profitable elevator business. Such a move would likely please activist investor Cevian Capital Partners, the company's second-largest shareholder, with more than 15%. A spokesman for Cevian declined to comment on Friday.

Tata earlier this week said it would explore the sale of its entire U.K. business, a move analysts say could pave the way for a combination of Tata's Dutch assets with Thyssenkrupp's European steel operations.

Should Tata sell its U.K. operations, its European "exposure would focus exclusively on Netherlands-based flat-products business at Ijmuiden. Given Thyssen's interest in pursuing consolidation solely with another premium flat-steel producer, we believe this cleaning-up of Tata's portfolio may help free-up the core Dutch assets for ThyssenKrupp", Jefferies analysts said in a note this week.

Credit Suisse analysts came to the same conclusion, saying Tata's planned exit from the U.K. was a prerequisite for any potential deal with ThyssenKrupp. "This scenario, in turn, could lead to the creation of a 20 million tons high-quality steel producer in Europe and the eventual exit of steel for ThyssenKrupp, with arguably a strong synergy story," they said.

Tata Steel is Europe's second-largest steelmaker by production capacity, after Luxembourg-based ArcelorMittal SA. The company has in recent months announced several rounds of layoffs at its U.K. operations, which include steel mills across Wales and England. The company said in January that it aimed to reduce its workforce to 14,000 once it completed consultations with unions about the proposed cuts. It employed 17,000 workers just before it began eliminating jobs in 2015.

On Friday, Fitch Ratings cut Tata Steel's credit rating by one notch to BB from BB+, citing rising debt and lower profitability across all regions, especially the U.K. The ratings firm said it would consider a further cut should the steelmaker accrue more debt to close any loss-making operations in the U.K. By the same token, it may consider raising the steelmaker's rating if Tata uses any proceeds from its proposed U.K. asset sales to reduce net debt.

Tata's Chief Financial Officer Koushik Chatterjee told the Financial Times this week that Tata Steel has written down the value of its U.K. operations to almost zero, adding, "We have taken about GBP2 billion ($2.87 billion) of impairment. It is not a valuation exercise, it is a question of reducing an exposure." The comments were confirmed by a Tata spokesman.

Thyssenkrupp's chief executive, Heinrich Hiesinger, has said in the past that consolidation in the sector would make sense, but has also stressed that combining assets was more likely than one company acquiring another.

Combining Tata's Dutch plant with Thyssenkrupp's operations could yield EUR1 billion in annual synergies and create roughly EUR6 billion in shareholder value, Credit Suisse said.

Under Mr. Hiesinger's reign, ThyssenKrupp in 2014 sold a steel plant in the U.S. after protracted negotiations, but failed to sell its Brazilian operations.

Activist investor and shareholder Cevian is supportive of Mr. Hiesinger's turnaround strategy. Cevian started building a stake in ThyssenKrupp in 2011, sparking rumors that the venerable German company might split-up.

--Hendrik Varnholto contributed to this article.

Write to Eyk Henning at eyk.henning@wsj.com and Alex MacDonald at alex.macdonald@wsj.com

(END) Dow Jones Newswires

April 01, 2016 14:05 ET (18:05 GMT)

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