Steel: Industry on consolidation spree! - Views on News from Equitymaster

Helping You Build Wealth With Honest Research
Since 1996. Try Now

  • MyStocks

MEMBER'S LOGINX

     
Login Failure
   
     
   
     
 
 
 
(Please do not use this option on a public machine)
 
     
 
 
 
  Sign Up | Forgot Password?  

Steel: Industry on consolidation spree!

Nov 30, 2006

Increasing demand and consolidation- these are the two key themes that have been characterizing the global steel industry of late. The global steel output exceeded 1.4 bn tons in 2005, most of it due to the surplus output from China. In 2005, China was the world's largest steel producer, while India was the seventh largest. Between 2000 and 2005, Chinese production increased by over 150% YoY, and the Indian production by 45% YoY. The recent expansion in steel production capacity of both the economies has been imposing a threat of excess capacity leading to death-spiral situation. This is despite the fact that because of strong market sentiments, producers procured more than their actual requirements. Consolidation of capacities has emerged as the only solution to counter the over supply situation leading to falling realisations. Also, consolidation has a number of advantages associated with it in terms of economies of scale, scalability of operations with improved and larger number of products, cost rationalisation and better bargaining power with suppliers. There have been two fundamental changes in the industry's dynamics in recent years. Firstly, global demand has entered a new growth era, largely driven by China's industrialisation. Secondly, significant consolidation has occurred, leading to a stronger industry.

The global steel industry has been consolidating for the past couple of years. Earlier, in May 2003, US Steel bought National Steel Corp for US$ 1.1 bn. Tata Steel itself has made two acquisitions in the past two years, having bought Singapore's NatSteel for US$ 4.9 bn last year and Millennium Steel for US$ 1.8 bn this year. The father of all acquisitions in the steel industry, was however, Mittal Steel's acquisition of Arcelor at US$ 31 bn. This was the largest not only in value terms but also in volume terms. The now combined Arcelor-Mittal would produce approximately 10% of the world output, i.e. close to 100 m tons of steel. Consolidation gives an increased pricing power to producers and decreases fragmentation. It helps to reduce volatility in prices as significant under cutting can be avoided, which is a behaviour generally witnessed in fragmented industries.

Going forward, consolidation may reduce volatility in steel prices but cyclicality in the steel industry will never disappear in its entirety. Nevertheless it can, and should, be moderated. Cyclicality in the steel industry has been a direct consequence of the dynamics of supply lagging demand and vice-versa, the result being severe price volatility. Volatility in steel prices witnessed in recent past was not on account of a sudden drop in demand but due to an inventory overhang situation created in the market. Due to strong market sentiments and concerns about supply, producers procured more than their actual requirements. At times the prices move in an upward direction, not on account of growth in demand but increasing input costs are passed on to consumer.

There is little scope left in developed countries to expand, gain market share or boost revenues. This brings the focus of the industry to developing nations like India. Considering a per capita steel consumption of 300 kg per year to be a fair level of economic development, India (currently having per capita consumption of 30 kg per annum), will have to come up to a level around 300 m tonnes capacity (39 m tonnes in FY06), if it is to fulfill its ambition of being a developed nation. Globally, the steel industry became a billion tonne industry in 2004. How much more the industry can grow depends on the developing economies.

In terms of driving future demand growth, India represents an opportunity for the steel industry on the basis of its large population and current low per capita consumption. Moreover, India is rich in iron ore reserves, a key raw material. Companies like Posco and Mittal have planned to set up greenfield projects to satisfy the growing demand and benefit from the same. A couple of players are using de-integration strategy to increase their revenues by increasing product mix (e.g. Tata Steel's strategy of acquiring Corus). Tata Steel will have manufacturing base in India (where key raw material is available in abundance) and finishing facility in developed markets, the markets for value added products, if it succeeds in acquiring Corus.

To conclude…
Consolidation will be the mantra that will enable companies to benefit from economies of scale and help adjusting production levels to ensure that the inventory corrects itself and the state of equilibrium is re-established. Being a core sector, steel industry tracks the overall economic growth in the long-term. Also, steel demand, being derived from other sectors like automobiles, consumer durables and infrastructure, its fortune is dependent on the growth of these user industries. Nonetheless, going forward, if steel prices soften considerably hereon - then risks will outweigh returns. Hence, caution needs to be exercised to that extent.

Equitymaster requests your view! Post a comment on "Steel: Industry on consolidation spree!". Click here!

  

More Views on News

Sorry! There are no related views on news for this company/sector.

Most Popular

It's the Beginning of a New Bull Phase in Smallcaps (Profit Hunter)

Feb 24, 2021

Last time the smallcap index crossed 19k a big correction followed. Here's what makes it different this time.

Intraday Trading for a Living (Fast Profits Daily)

Feb 15, 2021

In this video, I'll cover your queries on intraday trading and also share my view on how to decide stop losses and target prices.

Top 5 Stocks Mutual Funds Bought and Sold in January 2021 (Sector Info)

Feb 16, 2021

A look at what India's top equity mutual funds bought and sold in January 2021.

I Would Recommend this Small-cap Stock Over Tesla (Profit Hunter)

Feb 16, 2021

Do you enjoy reading Tesla and Bitcoin stories? Here's a not so famous small-cap stock to profit from the rise of EVs.

More

India's #1 Trader
Reveals His Secrets

Secret To Increasing Your Trading Profits Today
Get this Special Report,
The Secret to Increasing Your Trading Profits Today, Now!
We will never sell or rent your email id.
Please read our Terms

S&P BSE METAL


Feb 26, 2021 (Close)

S&P BSE METAL 5-YR ANALYSIS

COMPARE COMPANY

MARKET STATS