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Capital Spending Report

Outlook's Improved; Will Spending Follow?

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MCN Editor Dan Markham Service centers have seen better prices and stronger shipments so far in 2017, but it may take some time for the healthier business conditions to translate into more capital spending.

The improved outlook for the metals supply chain in 2017 figures to put a little more cash in the accounts of North America’s service centers. If, and when, that translates into greater spending on plants and equipment is still an open question. Service centers report a mixed bag of spending plans for the year.

“We just finished a $5 million cap ex that was completed in January. So this year, I’d say we’ll be limited in our spend,” says Andy Gross, president of Alliance Steel, Bedford Park, Ill.

The reverse is true for Olympic Steel, Cleveland. In its public remarks during the company’s year-end conference call, executives said Olympic will increase spending this year after two successive lows. “The last two years, we’ve been at the low end of our range,” said Richard Marabito, chief financial officer. “This year, we anticipate investments closer to our annual depreciation level, which was $17.6 million in 2016.”

Then there’s the industry’s giant. Reliance Steel & Aluminum, Los Angeles, will again far outpace the rest of the service center sector with its capital spending plans. North America’s largest service center company is forecasting cap ex of $200 million this year, “the majority of which will be used to support our ongoing organic growth initiatives, including opening new facilities and increasing our value-added processing capabilities,” said Karla Lewis, senior executive vice president and chief financial officer, during the company’s fourth-quarter conference call.

For Chicago’s Ryerson, the expenditures it has made in the recent past give an indication of its spending philosophy. The company recently acquired Laserflex Corp., a fabricator specializing in laser fab and welding, and Guy Metals, a specialty metals polisher and processor.

“When you think about distribution and processing of metal, there’s a lot of adjacent value-added steps you can take on as you go all the way down to contract manufacturing and making parts for your customer,” said CEO Eddie Lehner during the company’s conference call. ‘So clearly, we’re taking on those adjacent steps and looking to add value more and more beyond first-stage processing.”

The overall spending outlook is improved from 2016, reports the Equipment Leasing & Finance Foundation in its U.S. Economic Outlook. The foundation projects growth of 2.8 percent in equipment and software spending in 2017. Spending on software and equipment declined 1.1 percent in 2016, ELFF says, though growth in the fourth quarter gave rise to new optimism heading into this year.

“Our forecast for an improving equipment finance sector is based largely on actions coming out of Washington that indicate a more business-friendly approach by the new Trump administration, the recent move by the Fed to gradually increase short-term interest rates and early indications of a steadily growing economy. It is our hope that these factors do, in fact, provide impetus for the equipment finance sector this year to outperform 2016,” says Ralph Petta, president of the foundation.

Specifically, ELFF expects industrial equipment investment to grow, with demand for material-handling equipment rising at a “slow but stable pace.” Software investment is expected to remain stable or slow modestly.”

Of course, business conditions are only a small piece of the capital expenditure puzzle for service center companies. Regular maintenance, growth initiatives and other factors dictate how distributors invest—decisions often made independent of how a market is performing at a specific point in time.

“We don’t try to outguess the market,” says Richard Robinson, president of Norfolk Iron and Metal, Norfolk, Neb., who expects his spending to increase slightly in 2017. “We do it when we think the time is right.”

Such a philosophy is necessary in an industry where major pieces of equipment can take well over a year to build and install, enough time for an industrial market to go from hot to cold. Such long lead times add an extra challenge to decision-making.
“Some of the equipment, realistically, if you buy it today, you won’t be able to get it until 2018,” says Bill Hickey, president of Lapham-Hickey Steel, Chicago.

“If you’re going to go out and buy a new cut-to-length line, you’re hoping the market is going to be there when it’s up and running,” says Ken McAvoy, who operates toll processing company Maryland Metals Processing in Baltimore, Md.

But the cyclicality of given markets is inevitable, and operators try to look past the immediate conditions when making major purchases. “Four years ago, we put in a multi-blanking line and had no business on it when it came online. Today, we’re running two shifts on it. Sometimes it takes a while to fill it,” says Gross at Alliance.

Companies vary on how they apportion their annual capital spending budget. Robinson prefers to keep his expenditures at a fairly consistent level year to year. Others, like Gross, tend to spend more in waves, with heavy years of investment followed by retrenchment as the new equipment is incorporated into the business. “Your cap ex has to show its returns,” he says.

While large public companies announce formal budgets at the start of the year, private entities operate with a little more flexibility. Mike Dallek, president of MD Metals in Bedford Park, Ill., admits there’s a “seat of the pants” nature to his company’s purchases. “If we have the money, we’ll reinvest it. If we see an opportunity with the right piece of equipment, we’ll take advantage of it.”

Dallek shops exclusively in the used equipment market, where costs are lower and the lead time between purchase and installation is quicker. “We don’t buy new equipment. We’re not looking out 12-18 months,” he says.

On the other hand, Maryland Metals does not purchase any used equipment for the demanding processing of specialty metals. As a toll processor working on other companies’ metal, equipment is everything to McAvoy. “We always buy new. If there’s a new piece of equipment that will allow us to get a leg up or do a better job and be more competitive, that’s what we’re going to do.”

More common is the mix and match approach executed by Alliance, where the company blends major purchases such as the $5 million Red Bud Stretcher-Leveler it installed in 2016 with the occasional purchase from the used market for a complementary slitter or laser machine. “Most of the stuff we’ve bought recently was new, but we have bought some machines used,” Gross says.

To make decisions on cap spending, most companies run the various proposals through a committee to reach a conclusion. Financial officers, purchasing managers and sales executives meet to consider alternatives, return on investment, market developments and other factors before reaching a consensus.

“We absolutely committee on that. If I get a bug [to make a purchase], I don’t just pull the trigger. We have a calculated methodology that’s really dialed in. We try to be sophisticated in our buy,” says Gross.

Even after 57 years of running his company, Don Simon still seeks the input of his valued employees in purchasing decisions. “I have a group of people who help decide the key issues over the course of a year, rather than me just making a decision. We come to a conclusion,” says Simon, the president of Contractors Steel, Livonia, Mich.

The process is a little more challenging for companies such as Contractors Steel and Lapham-Hickey, which have multiple branches in the fold. Hickey says his individual locations each have a number they can spend without consulting with the head office, but beyond that the manager must run the proposal up the organizational chain for full review.

Hickey says the process varies depending on the immediacy of the need. If a piece of machinery vital for daily operations breaks down, “that’s not a really long discussion.” But for growth investments, the company takes its time to evaluate all the relevant factors, such as existing capacity, percentage on-time, lead times on equipment, efficiencies, among others.

While some companies can fund most capital investments with cash, for others, a strong relationship with an understanding banker is a high priority. “You need to solidify your relationship with your bank, educate them on what you do. The whole banking relationship is important,” says Dallek.