2013: A Different World in More Ways than One
Service centers have endured an atypical first half. Will the second half continue down the same path?
By Dan Markham, Senior Editor
The first six months of 2013 proved to be a post-recession anomaly in a number of ways. Demand and pricing typically are strongest in the first half, followed by a downturn in the dog days of summer. This year, the dog days arrived early, with unexpectedly weak business activity and pricing in the first half, leaving many of the executives contacted by Metal Center News for its annual mid-year report wondering what to expect for the rest of the year.
To date, metal sales volumes have fluctuated, with some service centers reporting gains of as much as 8 percent, while others are down 10 percent. Even for service centers that saw modest improvements in tonnage, the lower prices meant those gains didn’t translate into greater earnings.
“Volumes were flat, but pricing was down significantly, about 10-15 percent,” says Bill Jones, vice chairman of O’Neal Industries, Birmingham, Ala.
That sentiment was echoed by Gary Stein, president of Triple-S Steel Supply, Houston. “It feels worse than last year, but it’s actually very similar. Our tonnage is matching last year almost pound for pound.”
Roy Berlin, president and CEO of Berlin Metals, Hammond, Ind., saw a stark difference in a first-half versus first-half comparison. His business activity declined 9 percent in the first two quarters this year compared to the first six months of 2012.
The story is the same for other materials, with distributors reporting uninspiring sales and volume levels through the first half. “Business activity has been 3-4 percent lower in 2013 than 2012,” says Nick Briscoe, vice president of Fresno, Calif.-based Valley Iron, which specializes in stainless products. “It’s been across the board in all products. Each is down a little.”
On the demand side, little has changed from last year. Automotive and energy remain the strongest performers, while nonresidential construction and related markets are suffering the most. Perhaps the biggest casualty is the struggling mining segment.
One market that supply chain executives had great hopes for in 2013 was residential construction. That sector began to see its first genuine gains since the recession late last year. While there have been some signs of life in previously moribund areas such as the West Coast and Florida, the housing sector has not been as robust as some industry watchers anticipated.
Dan Kendall of ABC Metals, Logansport, Ind., saw a slowdown in building activity in the second quarter, but he believes it’s mostly a blip. “It’s not that there isn’t a growth curve, we just got ahead of the build,” he says.
On the supply side in the first half, the most noteworthy factor was the pricing pressure felt throughout the steel world. Interestingly, that began to change in the final weeks of June.
After five months of flat to falling steel prices, the metals supply chain saw its first pricing run-up. The price of hot-rolled coil declined to $560 per ton in May, the lowest point since 2010. But by the end of July, the coil price had jumped more than 10 percent, with several rounds of price increases going through.
“Prices declined for the first six months, and now we have price increases that are sticking, starting in July,” says Bill Hickey, president of Lapham-Hickey Steel in Chicago. “Normally we see more downward pricing pressure in the second half. It’s a very interesting scenario, kind of the inverse of what we’re used to.”
The improved pricing is largely driven by supply issues, rather than improved demand, say some executives. AK Steel suffered a mechanical failure at its Middletown, Ohio, facility June 22 and had to take its blast furnace down unexpectedly. Other maintenance outages, both planned and unplanned, plus some labor issues at various mills have contributed to a tighter domestic supply. Hickey estimates North American supply has been curtailed by as much as 6-10 million tons, “enough to make a difference. The question is, when the issues that curtailed capacity are resolved, will that be enough to drive pricing down again? I don’t know.”
Jim Bouchard, chairman and CEO of Chicago Heights, Ill.-based Esmark Steel Group, believes that all depends on the behavior of the supply chain. Bouchard describes the current market as a "supply side head fake." The reduced supply has stretched out lead times and pushed up prices. But it has not been, nor is it likely to be, supported by a significant increase in real demand any time soon, he says.
In times like this, service centers often find themselves taking strong positions on imported product to backfill inventories. The problem is, the bulk of those foreign offerings won't arrive on shore for a few months, or about the point domestic mills have ramped back up their capacity. If that happens, the "whole pricing increase will get flushed back out in the fourth quarter," Bouchard says.
To prevent such a scenario, he urges patience from both sides of the chain—for the mills to gradually bring back idled capacity and for service centers to rein in the temptation to go price shopping overseas. With a little discipline, "these prices could hold for the balance of the year," Bouchard says.
The service center community would be far more optimistic about the ability of the domestic market to manage the supply-demand balance if it weren’t for the rest of the world. Among the biggest concerns for North American distributors is the dramatic oversupply situation that exists globally, driven by Europe’s economic issues and unchecked capacity increases in China, despite its slowing growth.
“With a global oversupply, tepid demand in the U.S., weak demand in the EU, weakening demand in China and a stronger dollar, I think it will be hard to maintain higher prices past the summer with the base assumption that demand doesn’t change from the current level,” Berlin says.
Altogether, the current environment does not invoke comparisons to recent years, but to a steel market much further in the past, Stein says. “In the 1990s, you had communist government-owned steel mills pushing steel into the world market. Today, you have the Chinese steel mills doing the same thing. It feels like it did 20 years ago, when there was very little pricing power.”
The flip side of the oversupply situation is the ability to source material with little fuss. “Lead times have been probably half what they normally are,” says Jones.
With short lead times, and mediocre demand, service centers have been able to take steel inventories down to low levels. Nathan Kahn, president of Empire Resources, Fort Lee, N.J., says the same is true on the aluminum side of the business.
“There’s no reason to stock up on inventories. Even though interest rates are low, pricing is too volatile. Lead times remain short, and service centers are using depots as their warehouses,” Kahn says.
While executives hope for a better second half, several factors temper their enthusiasm. Perhaps no external issue is more worrisome than the global economy, particularly the ongoing crisis in Europe. “I’m extremely worried about Europe. Its steel market is in a lot of trouble,” says Bouchard, who had experience in the European steel industry when he worked for U.S. Steel. “There needs to be major consolidation over there, and I don’t know how that’s going to play out. I don’t see anything that’s really going to jolt the system.”
Closer to home, many wish for relief from the burdensome legislation and regulations that are hampering economic recovery. Those concerns are magnified in Valley Iron’s home state of California, Briscoe says. “Our customer base will continue to decline here as manufacturing will move to other states that are more business-friendly. We just have so much taxation and regulation, there are easier places to go and do business.”
Despite such concerns, others expressed reasons for guarded optimism. To Hickey, the biggest reason is the ongoing boom in the energy market. “If we didn’t have the natural gas and shale oil developments, I think our economic growth would be pretty much at zero. The energy revolution is employing a lot of people and lowering our aggregate energy costs in the country.”
Reshoring is often cited as another positive for the domestic economy, though the perspective is mixed on its effect to date. “I think it is happening and, as labor costs in China and Southeast Asia grow, there will be more of it,” says Kahn. Kendall feels its implications are limited. “Has it benefited us some? Yes, but it’s not going to be the panacea for our economy.”
The current level of reshoring comes nowhere near what is needed to replace the enormous amount of manufacturing that the U.S. has lost, and continues to lose, says Hickey. He points to the Merchandise Trade Deficit, the component of the trade deficit that deals strictly with manufactured goods, as evidence. The MTD, which peaked at $700-$800 billion in 2007-08, but fell back during the recession, is once again approaching $700 billion. “There are a lot of anecdotal conversations, and the politicians and the talking heads love to talk about it, but the reality is in the numbers,” Hickey says.
Berlin’s outlook on the market reflects the positive, can-do attitude of many service center executives today. “The world is always advancing, even if it sometimes goes backwards. And my company operates with brains and efficiency. We’ve made money before, during and after the Great Recession, and we will continue to do so, come what may.”
["Prices declined for the first six months, and now we have price increases that are sticking. Normally we see more downward pricing pressure in the second half. It’' a very interesting scenario, kind of the inverse of what we’re used to." Bill Hickey Lapham-Hickey Steel]
Will Consolidation Defrag the Service Center Sector?
The early days of 2013 ushered in one of the largest mergers in industry history when Los Angeles-based Reliance Steel and Aluminum Co. acquired Metals USA, Fort Lauderdale, Fla. But that merger of the nation’s largest service center company with its 8th largest rival did not set off a flurry of further consolidation, as many expected. Instead, the wheeling and dealing was rather muted in the first six months of the year. Service center executives have mixed opinions on how quickly the on-again off-again trend will resume, and how much it will benefit the industry.
“We’re still a fragmented industry, so consolidation will continue to take place. There’s already been a lot among our customers and our suppliers, just not as much in our industry,” says Bill Jones, vice chairman of O’Neal Industries, Birmingham, Ala. “We do need it. I hope it will continue, and I hope O’Neal continues to be one of the consolidators.”
Jim Bouchard, chairman of the Esmark Steel Group, Chicago Heights, Ill., says the ongoing tightness in banking will ultimately reinvigorate the consolidation movement. The larger, well-financed service centers will pick up the smaller, family-run service centers that don’t have the necessary access to capital. “The bigger guys are going to have to push the consolidation efforts,” Bouchard says. “I think we’ll eventually start to consolidate and reduce some of that capacity in the marketplace, allowing margins to improve.”
However, that effort is stalled by the current economy. Service center operators are reluctant to sell now because they are unlikely to get book value for their companies, while buyers are not gung ho to invest in the sector until they see more of a rebound in the economy, he says.
Others question whether the dealmaking will ultimately lead to the desired result. “I think companies will continue to get bought and sold, but is that going to create long-term consolidation? I’m not sure,” says Gary Stein, president of Triple-S Steel, Houston. “There are so few barriers to entry in this business. Every time a company gets sold, two guys go out and hang a shingle and start a new company.”
Lapham-Hickey President Bill Hickey has heard the consolidation rallying cry for a long time, and he’s uncertain how much it will really benefit the industry. “I’ve been doing this for about 40 years, and my family for 90, and all I’ve heard is there are too many service centers. The marketplace will decide if the industry really needs consolidation,” says the third-generation owner of the Chicago-based service center. “Does a larger selection of service centers provide better service levels, better opportunities for the customer base that makes the industrial economy more efficient? That’s the question.”
On the red metals side of the business, Dan Kendall of ABC Metals, Logansport, Ind., sees a different kind of consolidation occurring, one that isn’t exactly encouraging for service centers. “Right now, you have a brass mill, a brass distributor and a brass consumer. What happens if the mill starts selling direct to the consumer and the distributor doesn’t have the business anymore? What you’ve done is consolidate the supply chain. That’s where I see consolidation coming.”