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Steel: Changing stance

Mar 19, 2003

The year 2000-01 was one of the worst years for the global steel industry. With both demand and prices weakening, steel companies were finding it difficult to sustain profitability. However, since the last quarter of 2001, the scenario has taken a complete ‘U’ turn. Steel prices have shown no signs of retrieving since then. But will the trend continue? What was the reason for the consistent rise in prices? China’s consumption of steel was the primary cause of the rise in international steel prices. To put things in perspective, China’s total production of steel is at around 150 million tones (MT) whereas, its consumption is about 180 MT. Thus China is a net importer of steel to the tune of 30 MT. Besides, demand in CIS countries also increased as a result of which supply in the international markets was lower.

If we go back in time a little, three quarters or so, majority of the Indian steel companies were booking orders in advance for a short-term period (one month). The reason was very obvious. By getting into long-term contracts they did not want to lose out on any price increases. As the prices increased globally, domestic steel producers passed it onto the consumers. This increase in prices had a direct positive impact on their bottomline.

This trend of signing monthly contracts was in complete contrast to the trend earlier in 2000-01, wherein companies were striving hard to get into long term contracts to pre-set prices (this will protect manufacturers from any decline in prices). However, the trend has reversed again. Tata Iron & Steel Company (TISCO), entered into long-term contracts for its key downstream products such as cold rolled coils recently. The contract price was set at 8%-10% over the current ruling prices.

This could indicate two things. One, prices are set to rise further and to insulate from the same, buyers have entered into the contract. Two, this could also indicate that steel companies expect prices to weaken in the medium term. And in order to protect themselves from any fall in prices, Tisco has entered into a long-term contract.

However, from our perspective, we expect the prices to sustain for at least another six months and after that some correction is expected. Two reasons support our view. Firstly, as steel capacity increases in China to satisfy the local demand, there could be some inventory built-up. This could put pressure on prices. Secondly, prices have already increased by 45%-50% in the last one year. Major increase from the current level has to be supported with healthy demand, which seems unlikely given the current macro-economic scenario. However, on the domestic front, though the medium-term outlook remains cautious, the long-term prospects for the industry remain firm.

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