Steel industry margins continue to improve

After suffering for some seven years through to 2015, the world’s steelmakers have had cause for cheer over the past couple of years. Following some heavy losses and write-downs, they finally appear to have emerged from the wreckage of the global financial crisis. An economic upswing has taken root in most regions of the world, Chinese steel output and export growth has slowed noticeably, and steel prices have enjoyed an upward swing in consequence.

GDP growth in the G20 group of economies is at its highest level since early 2011…

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Chinese steel output growth has slowed since 2013. It rose again during 2017…

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…but Chinese exports have continued to fall, helping other markets

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As financial results for the 2017 calendar year have been released during the first few months of this year, nearly all major steelmakers in the developed world have recorded increased profit margins. The vast majority have now operated profitably for two consecutive years; something that has not occurred in any widespread manner since 2007/08.

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The main question now is whether the good times can last. After all, increased profitability may only encourage increases in output (as has happened in China recently) and possible expansions, particularly during this era of cheap credit. Have the lessons been learnt from the previous crisis?

In many regards, some of the underlying fundamental problems facing the steel industry remain the same. Capacity utilization remains below optimal levels for most steelmakers and, should profitability and steel prices continue on their upward trend, it is likely that output will respond.

Indeed, a response to rising steel prices began to happen last year, with estimates for global steel output showing a 5% increase for 2017, compared to almost zero growth in 2016 and a contraction in 2015.

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As has been the case for many years now, global market dynamics will continue to be dictated by China. In this sense, major steelmakers outside of China benefited from a drop in Chinese steel output during 2015 and 2016 (see second chart above). Recent efforts from within the country to manage domestic output on environmental grounds have also moderated the more recent return to production growth.

For now, most forecasts suggest a year of little-to-no output growth in China during 2018. It will be worth keeping an eye on these forecasts, however, as high prices may already be starting to spur local production – it rose close to 6% year-on-year during the first two months of this year.

Another key determinant of industry health in the longer term will come from some degree of rationalization, particularly in China. The country does at last appear to be in the process of making its steel industry more efficient. The merger between Baosteel and Wuhan Iron & Steel in 2016 created the world’s second-largest steelmaker and there are hopes for further rationalization in the coming years.

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Significant proposed mergers elsewhere – such as those in Europe between an ArcelorMittal-led consortium and Ilva, and that between Tata Steel and ThyssenKrupp – represent further steps toward greater rationalization in the global steel industry.

That said, the process is slow, subject to many political hurdles and there remains a notable absence of planned closures in these anticipated mergers. A long time remains before consolidation in the steel industry reaches the levels seen in both the upstream raw materials industries, and downstream in end-use sectors such as the automotive industry.

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But perhaps this focus on a global level is increasingly misguided, particularly at a time when protectionism is on the increase and regional steel markets appear to be diverging in performance. Europe and particularly the USA, as well as a number of countries across Asia, have imposed increasingly stringent trade duties on imported steel in recent years, especially on material originating from China.

And indeed, those steelmakers that have performed best over the past 10-15 years have been those not with a large global reach but instead those that have either focused on higher-value products (e.g. voestalpine); have had a strong focus on lowering costs (e.g. Nucor); or have been protected in some manner, as has been the case with Japanese steelmakers (e.g. JFE), which have never faced quite the level of import competition as have steelmakers in Europe and the USA due to differences in business culture there.

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While challenges remain, particularly with regards to excess capacity on a global scale, there is no reason that steelmakers cannot continue their return to profitability given the right strategy.

Sources: Anglo American, ArcelorMittal, BHP Billiton, Fortescue Metals Group, FT, JFE, Nucor, OECD, OICA, Posco, Reuters, Rio Tinto, ThyssenKruppUS Steel, Valevoestalpine, WSA

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