Steel industry in today's world can well be termed as the
backbone of the economy, given its varied usage, be it in
construction, transport, electrical appliances, food packaging,
etc. In terms of its composition, steel is an alloy of iron and
carbon containing less than 2% carbon and 1% manganese and small
amounts of silicon, phosphorus, sulfur and oxygen.
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Steel products are classified into four broad categories: flat
steel products, long steel products, scrap and semi-finished
products. Flat products include plates, hot-rolled strip and
sheets, and cold-rolled strip and sheets. The long steel products
are wire rods, beams, reinforced bars and merchant bars. The
products under both these categories are derived from steel
slabs, which are categorized as unfinished or semi-finished
products that are generally not sold.
The steel industry is often indicative of economic progress,
given its critical role in infrastructural and overall economic
development. The world steel industry is a large one. According
to the World Steel Association, world crude steel production was
a record 1,527 million tons (Mt) in 2011. However, despite its
size, the steel industry remains relatively fragmented. The
industry is highly cyclical and intensely competitive.
A Sneak-Peek into Major Consumer Markets
Historically, the automotive and construction markets have been
the largest consumers of steel, consuming more than half of the
total steel produced. The industry caters to large automakers
General Motors Company
Ford Motor Co.
Toyota Motor Corporation
Honda Motor Co. Ltd.
Houses, buildings, skyscrapers and bridges rely on steel for
their strength. Other steel consuming industries include
appliances, agricultural implements, converters, containers,
energy, electrical equipment and industrial machinery.
Over the last few years, China has emerged as the major consumer
of steel. With respect to consumption, the U.S. follows next with
Japan, India and South Korea in tow.
Global Production Numbers
As mentioned earlier, world crude steel production was a record
1,527 Mt in 2011, outperforming the 2010 record of 1,414 Mt, a
6.8% jump. In the third quarter of the current fiscal, world
crude steel production was 376 Mt, a paltry 0.4% improvement from
the prior-year quarter. Year to date, world crude steel
production stood at 1,149 Mt, up 0.6% year over year.
China maintained its leadership position among the steel
producing countries, yielding almost half of the global output at
47%, growing 1.3% year over year in first nine months of 2012.
The United States replaced Japan as the second largest steel
producer, producing 93 Mt of crude steel during the period, 3.9%
higher than the comparable period last year and accounted for 8%
of the total global output. Japan slid down to the third position
with a production level of 81 Mt, a 0.4% increase. Asia improved
1.5% to 749 Mt, while Europe dipped 4.6% to 129 Mt.
Performance So Far
After enjoying sturdy growth for most part of the last decade,
the steel industry suffered a setback due to the recession in
2008, as consumers utilized existing inventories rather than
buying new stock. However, the industry witnessed a turnaround
turned around in late 2009 and continued to grow in 2010 and
2011, in tandem with the global economic recovery.
The industry grew remarkably last year notwithstanding the
widespread headwinds including the ongoing Eurozone sovereign
debt crisis, earthquakes in Japan, the political unrest in the
Middle East resulting in a surge in oil prices, and the
tightening of government monetary measures in many emerging
Demand for steel has benefited from growth in the developing
economies that helped counter the sluggishness in developed
economies. Asia, particularly China, continued to be the
principal driver of growth. Demand for steel products,
nonetheless, remains below the pre-recession levels. Concerns
surrounding China's growth in the future also adds an element of
uncertainty to the outlook.
The automotive and construction markets, as mentioned earlier,
have been the largest consumers of steel over a number of years.
The automotive sector has registered significant growth this
year. In September, the seasonally adjusted annual rate (SAAR)
went up 13.7% to 14.9 million vehicles from last year, the
highest sales rate in the last four years.
The momentum was expected to continue in October as well, but due
to the devastating effect of Hurricane Sandy sales dropped to
14.3 million SAAR in October. However, it is still above the
lowest mark of 14 million SAAR in May this year. In October,
sales increased 7% year over year but were down from 13% growth
noted in September.
Notwithstanding the effects of the Hurricane Sandy, auto sales
have averaged 14.4 million SAAR and grew a promising 14%, year to
date. The robust growth rate in the sector has been fueled by
strong pent-up demand, cheap financing, launch of several
redesigned and fuel-efficient vehicles, rebound in consumer
confidence, and the growing belief that the housing market is
recovering. Even though auto sales will be affected in November
due to Sandy, pent up demand will help regain the momentum in
December and January 2013.
The construction sector had been a drag on the steel companies'
earnings. However, recent figures suggest a turnaround in the
non-residential as well as residential construction sectors.
According to the American Institute of Architects, after
languishing in the negative territory for five consecutive
months, the architecture billing index (ABI) climbed back into
the positive territory with a score of 50.2 in August.
ABI is an economic indicator that provides an approximate nine-
to twelve-month glimpse into the future of non-residential
construction spending activity, and any score of above 50 is
significant as it indicates an increase in billings. In
September, the score further improved to 51.6, the highest in
nearly two years.
As per the American Institute of Architects, spending for
non-residential construction will go up 4.4% this year. This will
be propelled by higher demand for industrial facilities so far
this year coupled with sustained demand for hotels and retail
projects. The spending is expected to accelerate further to 6.2%
In September, both housing starts and building permits were
record high in four years. Housing starts increased 35% year over
year to a seasonally adjusted annual rate of 872,000 in September
2012 and was 15% higher than August 2012 levels. Building permits
in September were at a seasonally adjusted annual rate of
894,000, 45% higher than the year-ago figure and 11.6% higher
than August 2012.
In a nutshell, record-low mortgage rates, rising rents and
reduced prices of properties are luring buyers. These figures are
reflective of the fact that U.S. residential construction is
finally stabilizing and is on the road to a much awaited
recovery. The pent-up demand that has accumulated from people
deferring buying houses will help fuel the recovery.
How Well Did Steel Stocks Fare?
The recently reported third quarter results of the steel
companies in our coverage -
United States Steel Corp.
AK Steel Holding Corporation
) paints a gloomy picture. Revenues were constrained across the
board due to drop in average steel prices and shipments.
All the steel players have been plagued by weak steel demand,
oversupply in the U.S. steel industry and increased steel imports
in the domestic market, which have affected steel prices hurting
margins in the process. The weak global conditions are a
deterrent factor for volumes.
A preview for the upcoming fourth quarter and fiscal 2012 suggest
that steel behemoth, ArcelorMittal is anticipating iron ore
shipments to increase 10% in 2012 from last year levels. The
company, wary of the global economic situation, particularly
Europe, has decided to shut down plants, cutting down its planned
2013 capital expenditures. However, the most dramatic
announcement was the company's intent to slash its annual
dividend by 73% to 20 cents per share.
United States Steel expects its segments results to remain
affected in the fourth quarter based on the assumption of lower
average realized prices as well as lower shipments. The Tubular
segment is expected to deliver profits, but significantly below
the third quarter levels.
The USSE segment is expected to break even while the Flat Rolled
segment is expected to be in the red. Softness in Europe as well
as in the emerging markets and the economic uncertainty in North
America are expected to weigh down its fourth quarter results.
AK Steel has not yet provided any specific guidance for the
fourth quarter or fiscal 2012. The company, however, put forward
its expectation of posting a loss in the fourth quarter, which
includes a non-cash tax expense. Nucor also expects its profits
to be reduced in the fourth quarter.
Now, what will be the exact picture in the upcoming results? The
U.S. steel market is plagued by oversupply and increased imports.
Although Chinese steel production, which was responsible for
causing the glut to some extent, has somewhat slowed down, supply
in the steel market still overshadows demand.
Increasing domestic imports along with oversupply in the industry
due to a ramp up in operations by other steelmakers, is putting
pressure on prices. We expect weak pricing, the European debt
crisis and its potential global impact to remain an overhang on
the steel industry in the quarter. In terms of end markets, the
automotive sector holds promise and the impending recovery in the
construction market, if permanent, will definitely provide a
boost to the steel industry.
The extent of the impact of Hurricane Sandy that hit the East
Coast in late October is yet to be assessed by the steel
companies. Nucor temporarily shut down its Connecticut rebar and
wire rod mill and United States Steel temporarily stalled its
Fairless operation in eastern Pennsylvania.
Fourth quarter results might be affected due to the interruption
in operations and associated costs/losses. However, in the near
future, the steel companies will stand to benefit from the
rebuilding activities necessary following the storm.
Industry Capacity & Demand/Consumption
World crude steel capacity utilization ratio increased to 77.7%
in September 2012 from 75.5% in August 2012, but dipped 2.5
percentage points from September 2011.
As per the latest data released by the U.S Department of
Commerce, U.S. capacity utilization ratio in August 2012 was
76.3%, up from July and reversing the downward trend from recent
months. Though the capacity utilization rate has upped 87% from
the low levels seen in April 2009, it still remains below
In the U.S., apparent consumption, which is used to measure
domestic demand for steel, stood at 8.4 Mt in August 2012, up
2.3% from the sequentially preceding month and up 3.4% annually.
When we compare it with the trough experienced in April 2009,
demand was up a massive 103.5%.
Price Trends Seen So Far
Steel prices are generally volatile, in line with the highly
cyclical nature of the global steel industry. Following an
extended period of upside in prices, steel prices plunged during
the financial and economic crisis of 2008 due to the sudden drop
in demand. This was further intensified by massive industry
destocking as customers cleared their steel inventories. Steel
prices saw a recovery in late 2009 that followed into 2010 but
remained below the pre-financial crisis level.
In 2011, steel prices remained volatile, increasing in the first
half on the back of strong demand, higher raw material costs,
improved activity in the automotive, appliance and other
industrial segments but partially offset by weak construction
market in many regions. Prices fell in the second half as demand
decreased due to uncertainty surrounding the Euro-zone sovereign
debt crisis. The fourth quarter was particularly weak owing to a
sharp drop in iron ore prices in October and renewed destocking
in the wake of uncertain economic environment.
Despite the price improvement in first-quarter 2012, there has
been a slump in pricing in the second and third quarter due to a
glut in imports, oversupply in the market from zealous
steelmakers, weak demand in Europe and tempering growth in Asia.
A sustained downside in steel prices would materially and
adversely affect margins for the fourth quarter. We feel that the
recovery in pricing momentum will be driven by a reviving
economy, no further crisis in the Euro-zone and a rebound in
construction activity in the developing countries, in particular
China, India and South Korea.
A Closer Look at the Factors Affecting Steel
Rising raw material prices:
The steel industry consumes substantial amount of raw materials
including iron ore, coking coal and coke besides requiring a lot
of energy. Increases in raw material prices necessitate a
corresponding increase in steel selling prices.
However, the situation gets tricky in the wake of lower demand,
when it becomes increasingly challenging to pass on raw material
price hikes to consumers. Historically, energy prices have varied
significantly. This trend is expected to persist due to market
conditions and other factors beyond the control of steel
Overcapacity and fluctuation in steel imports-exports:
The steel industry has always suffered from overcapacity. Steel
consumption in China and other developing economies has increased
at a rapid pace. In response, steel companies have ramped up
their steel production capability with scope for further
Steel production capability, particularly in China, appears to be
surplus to China's domestic market demand. Considering that China
is the largest steel producer, the export of the surplus steel at
subsidized prices to other markets casts a major impact on world
steel trade and prices.
Consumers in the U.S. are importing cheaper steel from China,
forcing domestic steel producers to sell at lower prices, and
sometimes even at a loss. The U.S. government has thus been
imposing anti-dumping duties on Chinese steel imports.
Steel prices are generally sensitive to changes in global and
local demand, which are in turn governed by worldwide and
country-specific economic conditions and available production
capacity. Although the steel industry has been recovering since
the 2008 recession, the recent Euro-zone sovereign debt crisis
added to the still-tentative recovery in the developed world has
again created a lot of uncertainty in the market. This has
resulted in many countries suspending investment in
infrastructure and other industries, thus impacting steel prices.
Threat from substitutes:
Steel has many substitutes like aluminum, cement, composites,
glass, plastic and wood. A shift toward other substitutes,
whether due to lower costs or government mandates on the basis of
environmental or other reasons, would significantly impact prices
and demand for steel products.
Raw Material Trends
The primary inputs for the steel industry are iron ore and coking
coal, as well as coke, scrap, alloys and base metal. The industry
also uses large volumes of natural gas, electricity and oxygen
for its steel manufacturing operations.
Iron ore prices were relatively high in 2009 driven the robust
demand from China. The momentum continued in the first half of
2010. However, prices fell in the second half of 2010. After
relatively stable iron ore prices through the first nine months
of 2011, iron ore prices plunged in October that year due to the
Euro-zone debt crisis and slowdown in China.
In the first half of 2012, prices were more or less stable before
plummeting to a three-year low in September. However, since then
prices have regained ground after Chinese steel mills continued
to replenish their inventories.
The iron ore industry is highly concentrated with only three
Rio Tinto Plc
BHP Billiton Ltd.
), having significant pricing power.
Vale's third quarter profits fell due to the drop in iron prices.
The miner, however, hinted toward improved iron ore prices in the
fourth quarter. It is expected that China's $150 billion of
infrastructure spending will support iron ore prices in the
future. Furthermore, non-Chinese demand for iron ore will also
show improvement, driven by growth in some emerging economies,
such as Brazil, India and Southeast Asia.
Increase in iron ore prices will put margins of steel companies
under pressure. The companies will be able to pass on the high
input costs to customers in case demand improves.
Mergers and acquisitions (M&A) have remained an important
growth strategy in the steel industry. M&A activities prevent
additional steel capacity, providing production efficiency and
economies of scale. The biggest example is Mittal Steel's
acquisition of Arcelor in 2006. The Tata Steel and Corus merger
in 2008 is another instance of industry consolidation. After a
lull during the global economic downturn of 2008-2009, M&A
activity of various steel and mining players, including Chinese
and Indian companies, has quickly picked up.
Consolidation has been primarily driven by the urge to increase
global scale and operations, and expand into new markets. The
industry is likely to see more M&A activity in the coming
years as the industry players prepare themselves for a recovery
in the long run. Further, steel makers are now focusing on
acquiring mines or stakes in mines to secure raw materials at
more competitive prices.
A landmark development in this sector was the recent merger of
Japan's largest and world's sixth-largest steel maker Nippon
Steel Corporation with 27th-ranked Sumitomo Metal Industries to
form the world's second largest steel firm --
Nippon Steel & Sumitomo Metal Corporation
). With a combined capacity of 46.1 million tons, it is set to
replace China's Hebei Group in the second position, which has a
production capacity of 44.4 million tons. The merger is targeted
to generate savings in the face of increasingly intense global
Going forward, the abatement of the Euro-zone crisis, recovery in
the U.S. economy and developments in the Chinese real estate and
construction sector will determine the fate of such deals.
However, given the prevailing uncertainty, we expect moderate
growth in M&A.
Steel Usage Forecasts
The World Steel Association now projects global steel usage to
rise 2.1% in 2012, down from its earlier projection of a 3.6%
rise announced in April this year. This is a sharp deceleration
from 6.2% growth in 2011. This reflects sharper-than-expected
slowdown of Chinese steel demand and Euro-zone debt crisis
uncertainties. Furthermore, uncertain U.S. growth outlook also
loom on the horizon.
China's steel use in 2012 is estimated to grow 2.5% to 639.5 Mt,
following a 6.2% growth in 2011. After a weak performance in
2011, India is expected to grow by 5.5%. In the U.S. market,
steel consumption is projected to grow to 96.5 million tons in
2012 on the back of improvement in the construction sector, a
better-than-expected development in the automotive industry.
In Central and South America, owing to the poor external economic
environment as well as domestic tightening, apparent steel use is
expected to rise by 3.8% in 2012. Japan's steel use is expected
to increase 2.2% to 65.5 Mt in 2012 triggered by reconstruction
efforts in the wake of the March 2011 earthquake and tsunami and
government stimulus measures. Steel usage in the European Union
is expected to decline by 5.6% as sovereign debt problems
On a positive note, the scenario is expected to improve in 2013.
World steel demand is expected to increase 3.2% to a record of
1,455 Mt. This is based on the premise of recovery in Europe,
China and as U.S. successfully deals with the fiscal tightening
due in 2013.
China's steel usage is expected to grow 3.1% to 659.2 Mt from the
2012 projections, aided by government stimulus measures. India is
expected to pick up pace and grow 5%, triggered by urbanization
and surging infrastructure investment. In 2013, the steel use in
the U.S. is envisioned at 100 Mt. Central and South America is
expected to grow 6.3% to 50.4 Mt in 2013. After a rise in fiscal
2012, Japan is expected to decline 2.9% to 63.6 Mt in 2013, due
to a stronger Yen and falling exports. Europe is, however,
expected to recover a modest 2.4% in 2013.
Overall, steel demand in the developing and emerging world will
rise 3.0% in 2012 and 3.7% in 2013. In the developed world, steel
demand will dip 0.3% in 2012 and then post a 1.9% growth in 2013.
Even though demand has increased overall in the past two years,
growth in steelmaking capacity is still ahead of demand and
remains a significant challenge for the industry. This has been
further exacerbated by the European sovereign debt crisis, which
has stagnated investments in large scale projects in Europe and
reduced capital for growth.
The uncertain global economy:
The steel industry was significantly affected by the global
economic crisis in 2008. Even though it is recovering, demand has
still not reached pre-recession levels. The debt crisis in Europe
remains a concern and the U.S. has had to resort to quantitative
easing to thwart sluggish demand.
The saving grace is the spurt of growth witnessed in the
developing economies that helped counter the sluggishness in the
developed economies. Asia and particularly China continued to
make up for the stalemate in Europe and North America. However,
there are signs of cooling in China's real estate sector, which
accounts for almost half of the total steel demand in the
China had cut its 2012 growth target to an eight-year low of
7.5%. A slowing Chinese economy will have a negative impact on
infrastructure and construction spending and in turn on the steel
industry as well. However, we believe the steel industry's
long-term story in the country remains intact, underpinned by
China's urbanization and industrialization programs.
Dependence of margins on raw material prices:
The steel companies' margins are dependent on the extent to which
changes in raw material prices are implemented through to steel
selling prices. The time lag between the raw material price
change and the steel selling price change, and the date of raw
material purchase and the actual sale of the steel product in
which the raw material was used, are also important factors
To Sum Up
Fourth quarter results will face headwinds in the form of low
prices due to overcapacity and surge of imports. Furthermore, the
European debt crisis and its potential global impact remain an
overhang on the industry. The results will also bear the brunt of
Global steel demand will improve gradually in line with the
recovery in the user industries, automotive and residential
construction. Emerging and developing economies will continue to
drive growth. China's recent attempt to bolster its economy by
approving 60 infrastructure projects worth more than $150 billion
will help lift the steel sector.
Its neighbor India is not lagging too far and will likely be a
major consumer driving the steel industry. Prices could
potentially stabilize on the back of a rebound in construction
activity in the developing countries, in particular China, India
and South Korea.
In the developed world, recessionary conditions in Europe will
have residual effects elsewhere. The Federal Reserve's
announcement of another round of quantitative easing to boost the
U.S. economy will provide an impetus to the sector.