A reversal of FORTUNE

This article was originally published on April 10, 2005.

When Wilbur L. Ross Jr. sells his International Steel Group Inc. to Mittal Steel Co. NV this week, he will make a profit of $260 million on a $31 million investment.

A group of investors, including mutual funds and steel-company executives, will walk away with similar gains. Some, such as the Howard Hughes Medical Institute in Maryland, have already cashed in.

Others haven't done so well.

To help make the companies viable, U.S. Bankruptcy Court judges allowed five steel companies that Ross later bought to cut severance benefits and shift long-term pension obligations for nearly 190,000 former and current employees to the government's pension rescue fund.

That left some retirees with sharply lower retirement incomes, and left the rescue fund, the Pension Benefit Guaranty Corp., with responsibility to pay $6.4 billion in pensions that the companies had promised.

The steel companies also saved billions of dollars by ending retirees' medical benefits. While that contributed to surging profits for the companies, many retirees must dig into their own savings, or seek government help, to get by.

Altogether, Ross said, about $15 billion in retiree obligations had been scrubbed from the companies' books.

George Barrage, a 62-year-old retiree from the Lukens steel plant in Coatesville, Chester County, said his medical benefits had been canceled and his severance and pension cut by 40 percent since Bethlehem Steel Corp. - which bought Lukens Inc. in 1998 - filed for bankruptcy protection in late 2001.

Now he advises others not to take early-retirement packages. "Stay at work as long as you can," he said. "Your severance is not guaranteed. Your health insurance is not guaranteed. Your pension's not guaranteed. "

No one accuses Ross and his investors of wrongdoing. The shift in obligations occurred in bankruptcy courts, before Ross bought the companies. The man whom Fortune magazine once called the King of Bankruptcy can boast that he saved a dozen aging mills and 15,000 jobs when many such jobs were being shifted overseas.

"Those companies were failing," Ross said in a recent interview in his New York office. "They would have been shut down. Bethlehem was days away from shutting down. "

But the huge gap in fortunes between longtime steelworkers and Ross and his investors highlights an issue that many more companies, workers and the government will face as airlines and large manufacturers such as auto-parts companies struggle to survive.

Pension and medical liabilities are likely to be pushed on the government or back on retirees and employees while leaving new owners of restructured companies free of retiree obligations.

After running a surplus in the late 1990s, the PBGC now has a $23 billion deficit, with more than a quarter of that from the Ross steel companies. Next year, the deficit is expected to widen to $30 billion.

The Bush administration is calling for sweeping changes to avoid an eventual taxpayer bailout of the agency. "There is a widespread recognition that a problem exists," said Labor Secretary Elaine Chao, who launched Bush's proposal in January. "We want to make sure that promises made are promises kept. "

From boom to bust

Most steelworkers who lost medical benefits or whose pensions were taken over by the government joined steel companies in the 1950s, 1960s and early 1970s, when the U.S. industry dominated the world market.

By the late 1960s, the seeds of the industry's demise had been planted as U.S. steel companies failed to control costs and innovate with new technology as competition from abroad increased.

By the mid-1990s, the U.S. steel industry was in contraction, threatening the benefits of workers who had counted on a financially secure retirement. Eventually, three dozen steel companies would file for bankruptcy protection. Among them were those that Ross bought - LTV Corp., which was closed when Ross bought it; Bethlehem Steel; Acme Steel Co.; Georgetown Steel Co.; and Weirton Steel Co.

Ross, whose 19th-floor office in midtown Manhattan is decorated with framed Mapplethorpe photos and gargoyle floor ornaments, said he had played by the rules, and that the profit he stood to make stemmed from astute business moves. "Nobody else stuck their hand up at the time" to buy the steel companies, he said.

Ross, the former bankruptcy specialist for the Rothschild Inc. investment bank, has advised creditors in some of the nation's largest bankruptcy cases, including Texaco, Eastern Airlines, and Drexel Burnham Lambert.

Sensitive to criticism that ISG has abandoned retirees, Ross said that by the time he bought the bankrupt steel companies between 2002 and mid-2004, the former owners had already cut the retiree medical benefits and unloaded the pension obligations on the government.

But Ross also said he advised LTV managers to cut retiree medical benefits back in the mid-1980s, when the company previously entered bankruptcy.

At the time, "management had zero appetite, so the idea went no place," Ross said. "They didn't want to wage the war. It is a struggle to deal with those issues. And it is an unpleasant struggle because the people being hurt are not the ones who created the problems. "

Steel's 'crushing' liabilities

Ross, calling the steel-company retiree obligations "crushing," said "it didn't make sense" for the companies to come out of bankruptcy with the liabilities in place.

Once he had control of the companies, Ross ripped out several layers of management and cut administrative overhead. He said ISG had fewer employees in its headquarters in Ohio than Bethlehem Steel had just in its legal department in Pennsylvania before it filed for bankruptcy protection.

He cut hundreds of what he calls redundant union positions and outsourced jobs.

"We felt that the right area for the union membership was everything that touched steel. But that shouldn't include the little old lady who cleans the latrine at night," Ross said.

Ross linked compensation to corporate profit and productivity per machine. He said some union steelworkers earned $80,000 to $90,000 last year with incentive pay.

"At the mill level, we are totally cost-competitive with Mexico," Ross said. "It's wrong to think it's just the pension or the health. They were part of it. But if we did not have all those ingredients, it would not have worked. "

The United Steelworkers union negotiated new contracts with ISG to represent workers in the formerly bankrupt plants, getting workers a fresh pension plan and new health-care coverage.

"It's been a good arrangement for Wilbur Ross and his return on investment, and it's been a good deal for us," said David McCall, the Steelworkers' official in Ohio who negotiated with ISG.

ISG's most recent earnings report tells the story of just how good. The once-bankrupt steel companies of ISG earned profit of $600 million in the fourth quarter and $1 billion for all of 2004. Part of the profit was derived from federal tax benefits Ross acquired by buying the money-losing companies. Eliminating the retiree medical and pension benefits has cut annual costs by $300 million to $350 million.

Ross said the steel plants turned highly profitable much more quickly than he expected, in part because of soaring steel prices. A cheap dollar has helped U.S. steel manufacturers compete with foreign steel, and a rapidly growing Chinese economy has boosted global demand.

With solid profits the last two years, ISG has put $185 million into a fund for prescription drugs for retired union steelworkers - though still a fraction of what they had been promised.

"We really felt bad that they had been left behind, so we wanted to do at least something for them," Ross said, though he noted that he had "no legal obligation whatsoever" to set up the fund.

Such generosity has not been extended to all former retirees. About 28,000 white-collar Bethlehem Steel retirees and spouses, such as James Van Vliet, 72, of Upper Saucon Township, Pa., and his wife, Bobbie, claimed in Bankruptcy Court that they were owed $680 million in medical and life-insurance benefits over the rest of their lives. In January, the retirees collected $131 per person for the lost benefits. Van Vliet, a former Bethlehem marketing vice president who was a chairman of a bankruptcy committee seeking to recoup lost benefits, said the retirees expected one more check.

Ross said the plight of the white-collar retirees was not something he considered in the purchase of Bethlehem. "We were not aware of any arrangements that were made with the white-collar people," he said. "It was not a topic we were asked to address. "

On the other hand, Ross said he had to negotiate with the union as a condition of the sale and to operate the company's steel mills.

McCall, the union official, said the union retirees had "no expectation" of continuing retirement benefits because the mills were closed or the companies were in bankruptcy protection. He said the prescription-drug fund restored some of the lost benefits.

Buying at $4.50, selling at $42

Late last year, Ross reached an agreement to sell ISG to Mittal Steel, which is controlled by Lakshmi Mittal, one of the world's wealthiest men.

Ross and his investing partners bought ISG at what amounted to $4.50 a share in 2002, and are selling for $42 a share. Shareholders are expected to approve the sale at Tuesday's shareholder meeting in New York.

Avice A. Meehan, vice president for communications and public affairs at the Howard Hughes Medical Institute, said the nonprofit institution had invested in the bankrupt steel companies through a fund operated by Ross and also independently of him. At the time ISG went public at $28 a share in late 2003, the medical institute owned 8.2 million shares, or 10.5 percent of ISG.

"This seemed like a good investment, and Wilbur Ross has, over time, had a very good investment track record," she said. The institute has sold all its ISG holdings, she said.

Meehan said that if the institute had not participated, someone else would have. The institute also said it believed it helped preserve jobs, and that the financial gains were being used "to support a social good" - financing biomedical research. But "that does not take away or diminish the upheaval or personal impact" on the retirees, Meehan said.

Many steel-company retirees in small communities throughout the Rust Belt are still adjusting to life after bankruptcy.

Barrage, the Lukens retiree, was part of the group most hurt by Bethlehem's bankruptcy - retirees younger than 65 who were not eligible for Medicare, and who were receiving monthly severance benefits from the company. Both the severance and the company-paid medical benefits were eliminated in Bankruptcy Court.

He suffers from neuropathy, a disease of the nervous system caused by his diabetes, which makes it difficult for him to get around. His wife works to help pay the couple's medical premiums, which have quintupled since the bankruptcy filing to more than $1,000 a month. She had planned to quit her job, and they were going to travel in retirement. But now "we're still trying to figure out how long we keep our houses," Barrage said of himself and other Lukens retirees in his position.

The vast majority of steelworkers' pensions were not lowered when the companies filed for bankruptcy and the government took over the pensions, because their pension levels fell within government guidelines. But they all were hurt by the loss of medical benefits.

Ross said it was inevitable that the steel-company retirees would lose benefits. Foreign companies do not have to pay for employee and retiree health care, and to compete, he said, more U.S. companies will be pressed to shed the benefits.

Ross said that he took no pleasure in seeing what retirees were going through, and that he believed the United States should do more to protect them.

"We think it is a disgrace that some guy who worked 30 years at some company and he retires and the company goes bust and, bingo, he's without his health care. That's wrong," Ross said.

But, confident in his formula for old-industry investments, he is shopping for more companies. Late last year, a Ross-led group of investors bought Horizon Natural Resources Co., a coal company with mines in West Virginia that shed retiree medical obligations in Bankruptcy Court. On March 31, Ross announced that he had acquired two additional coal companies to add to his International Coal Group Inc.

Ross also is looking closely at auto-parts companies, which face the same economic pressures that steel companies faced. They have high numbers of retirees in relation to active workers, are heavily unionized, pay medical and pension benefits, and compete against foreign firms. "There are clearly going to be more labor-intensive companies going bankrupt," he said.

Contact staff writer Bob Fernandez at 215-854-5897 or bob.fernandez@phillynews.com.