Tenuous Times for Global Steel
Experts at Platts’ recent North American steel conference painted the picture of a global steel market challenged by uneven economic growth, overcapacity, and flat pricing.
By Dan Markham, Senior Editor
Tanners: Hot-Rolled Price Trend Uninspiring
Metals executives hoping to see a rebound in steel pricing in 2013 are in for some disappointment, said Timna Tanners during the Platts Steel Markets North America Conference last month in Chicago.
The steel market analyst from Bank of America Merrill Lynch predicts hot-rolled coil pricing will stay near $610 in 2013, and won’t even reach that average in the following two years. Her forecast for hot-rolled pricing in 2014 is an estimated $550 per ton, sliding to $530 per ton in 2015.
The primary reason for the uninspiring pricing forecast is oversupply, both on the raw materials front and in worldwide steelmaking capacity, she said, as well as moderating demand in China. Tanners’ firm believes China’s steel demand will grow only about 4 percent this year. "We're not believers that China will implode, but the supercycle is in the final stages, if not over," she said.
China's excess capacity is well documented, but the same problem exists in Korea, Turkey and even India, Tanners said. Combine that with Europe’s economic problems and slow growth at home, and U.S. producers will have a difficult time supporting any price hikes.
Producers have two options to combat the low-price environment: they can become more niche-oriented or they can reduce their costs. Tanners favors the latter.
There are considerable risks in trying to find a high-margin niche. The first is that Chinese producers may follow suit, she said, pointing to electrical steel as an example. Similarly, an underserved market at home can quickly become saturated. "SBQ a couple of years ago was a very strong market. But every single SBQ producer has added capacity. That makes it a less strong market, which is the problem of trying to get into niche products."
Going the low-cost route is a more logical step, she said. More than that, it's particularly feasible here in the United States. "The U.S. has a fantastic opportunity to lower costs because of the gas revolution." The prospects of projects such as Nucor's direct reduced iron facility, which uses cheap natural gas to replace coke in the steel production process, opens the possibility for the U.S. to become a leading low-cost producer.
And developing a new playbook may be a necessity, she cautioned. In previous poor markets, the domestic steel industry was able to muddle through the downturn to get to the profitable upswing that followed. But that upturn is likely remote, she said. "We're heading into what could be a lull, a repeat of the '90s, where things didn't move much for 10 years. Demand isn’t going to pop back in a year or two."
Miller: India is the Hot Market for Future Steel Mill Growth
The 2006 megadeal that combined Mittal Steel with Arcelor was expected to spark the transformation of the fragmented steel industry into a leaner, more stable supply chain. While a few other deals followed, the financial crisis of 2008-09 eventually put the brakes on steel industry rationalization. More than four years later, little has changed, said Robert Miller, CEO of the New York-based investment bank of Miller Mathis, who addressed the Platts conference attendees last month. He does not expect much merger activity any time soon, and any deals are likely to take place in the emerging markets.
“When Arcelor was taken over by Mittal, they put about $20 billion of debt on the company. That debt is now holding the company back tremendously,” Miller said. Even though low-cost capital may be available, the experiences of ArcelorMittal and others are affecting the M&A market. “We just don’t see companies reaching as they did in the middle 2000s for acquisitions.”
So where will the typical steelmaker look to grow the company for its shareholders, if the M&A route remains blocked? Emerging markets outside of China are the logical target. “China has very formal rules on what you can and can’t do on the M&A front. And going the other way, China hasn’t made any significant acquisitions outside China,” he noted.
Steel companies are likely to find more success in India, where massive population gains are fueling tremendous growth. Indian steelmaking capacity has risen from 30 million tons to 80 million tons in the past decade, and could eventually reach 200 million tons. “Where are you going to find growth like that in another jurisdiction? The answer is: I don’t think you can. India is the place I’d be focused on if I were a big steel company CEO.”
Cracking the Indian market has its own challenges, however. ArcelorMittal and South Korea’s POSCO both made attempts to operate there, but came up empty. The problem, Miller said, was that they attempted to go it alone, without a local entity to guide them through the bureaucracy and corruption that often characterizes the business and political climate in India. Partnering with a local player, even one with a small role, would yield much better results, he said.
A similar, if smaller, opportunity exists in Saudi Arabia, which has announced plans to build seven large industrial cities. That will require a lot of steel in a region that, at present, only has 20 million tons of capacity. But again, getting a foothold there requires a deft touch. “There are all kinds of barriers to entry in Saudi Arabia. But if I’m a steel company CEO, I’m at least thinking of participating in the growth of a place like Saudi Arabia, where they’re finally putting this petrochemical money into infrastructure.”
Steel mill M&A saw transaction values rise dramatically from 2002 to 2007, measured as a cost per ton of capacity. Since then, the recession has put the brakes on mill consolidation. (Source: Miller Mathis)
Anton: Modest Global Forecasts Promise So-So Year for Steel
The short-term prognosis for U.S. GDP, and demand for domestic steel, is not particularly good, according to John Anton, steel analyst for IHS Global Insight. But it’s even worse for developed economies in other parts of the world.
In his remarks on the global steel market during the Platts conference, Anton said NAFTA’s GDP will hover around 2 percent for the next two years, but finally get back to near 3 percent by the second half of the decade. “That 3 percent range is important. It’s where the economy needs to be to be strong.”
The news is worse in Japan and Western Europe. Japan will see 2 percent growth for awhile, an improvement for the long-struggling economy, but slip back closer to 1 percent. Western Europe will improve a little, but remain weak, he said.
China remains a wild card. “China is overproducing like mad. Despite the fact their economy is growing at 8.6 percent, they need to be at 11 or 12 percent with all the steel they’re making,” Anton says.
The only way the global steel market will see real improvement is through multiple years of Chinese economic growth combined with an outright halt to Chinese capacity investments. Anton is optimistic. “It’s my belief that by 2014 China won’t be adding a single gram of steel capacity. But that won’t necessarily make things better quickly,” he said.
On the positive side, major crises that hung over the global economy in 2012 were mostly averted. China was in danger of a hard landing and the Eurozone was on the verge of a meltdown. While both remain possibilities, “at least they haven’t happened yet and the odds have dropped,” Anton said.
Closer to home, the fiscal issues in Washington have been an economic drag, but not a full-fledged catastrophe. Anton had harsh words for the congressional combatants in the ongoing sequestration battle. “It’s self-inflicted stupidity. Both sides are harming the economy to make the other look bad. It has probably held us back about 0.3 percent, and it can lop off about 0.7 percent. When you’re only growing in the mid 2s, lopping off 0.7 is a big impact,” he said.
Flack: Service Center Market in State of Overcapacity
Just as overcapacity is a major concern on the production side of the steel business, Jeremy Flack feels there are too many players chasing too little business on the service center side, as well.
“We believe there is overcapacity in the processing space,” said Flack, founder and president of Cleveland-based Flack Steel, in his remarks at Platts’ recent Chicago conference. “We think a fuse is lit in the service center business to finally have consolidation.”
Flack cited a number of factors behind his contention that the distribution industry is ripe for true consolidation of facilities, not just ownership. For starters, the number of players in the space provides little opportunity for differentiation. This allows customers to “substitute one for another as fast as possible,” usually based on the lowest price. Other factors include too many points of sale, low barriers to entry, declining relevance with mills and customers, and companies that do not create enough value.
Additionally, he said, accessing capital has become increasingly difficult for the sector. “It may be protecting the banks, but they’re making it difficult for the middle-market companies, traditionally the lifeblood of the service center industry, to fund themselves. Banks have become intolerant of the volatility in steel and they’re clamping down left and right. This makes it difficult to lever up our business.”
In the past, he said, the inevitable up cycle in pricing has helped the service center industry get through down times. But the actual price of the material has shown little volatility in the last 20 months, trading in a much narrower band than it did through most of the 2000s. From August 2011 through early 2013, the price of hot-band peaked just 11 percent above its mean figure of $658 per ton, while the trough price was just 10 percent below (see chart).
“As service centers, we’re waiting for the next big price rally to come and save us so we can make some money by buying at the bottom and riding it up. We haven’t had that opportunity for two years now. It might not happen,” he said. In fact, there’s a greater probability the price of hot-rolled coil will fall over the next several years.
“We’re in overcapacity, having difficulty with our banks and facing a market that’s dead flat. It’s sucking cash out of the service center space,” he said.
The natural outgrowth of such conditions is consolidation—and not the type that has taken place in the past. He cited, without identifying by name, Reliance Steel & Aluminum Co.’s practice of buying service centers, but allowing them to continue operating as in the past. “They’ve consolidated cash flow, but they haven’t consolidated capacity. They haven’t served to consolidate the market.”
But that won’t last forever, he predicted. “Every day we’re one day closer to fundamental—probably forced by the market—consolidation in the service center business.”