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China's steel riddle

Kunal Bose 

ArcelorMittal, by far the world's largest producer of steel, had revenues of $94 billion and an output of 91.9 million tonnes (mt) in 2011. But its six per cent share of world steel production could hardly be of comfort when a wrenching combination of low steel prices, drop in product shipments and several one-off charges saw the company making a loss of $1 billion in the final quarter of 2011. For the whole year, ArcelorMittal's net profit took a knock of 22 per cent to $2.3 billion. The company's performance is a testimony to the state of world steel industry.

In a guidance ArcelorMittal says 2012 first half Ebitda is likely to be less than that in the comparable period of 2011, even while steel shipments should remain unchanged. Europe is where the company makes nearly 40 per cent of its steel, and chairman Lakshmi Mittal says, "Looking ahead to 2012, Europe remains a live concern." The continued uncertainty in that market notwithstanding, Mittal is seeing some "improvement in sentiment compared with the fourth quarter". Apart from uncertainties in Europe, one single factor that will continue to have a major bearing on world steel prices is China. One could only crystal gaze as to how much thrust China will continue to give to steel production and how much of that it will sell abroad.

The curiosity about the Chinese game plan is understandable for its dominant presence in the world steel industry. According to World Steel Association, global production of crude steel in 2011 rose 6.8 per cent to 1.527 bt. This is largely on account of China, which once again sprung a surprise lifting output by 8.9 per cent to 695.5 mt, giving itself a share of 45.5 per cent of world production. How much steel does the world expect from China this year? We understand the boom in real estate development and construction sustained Chinese daily steel output at over 1.9 mt for much of last year. This, however, fell to nearly 1.7 mt in 2011 fourth quarter and as we go forward we may see further production contraction in China, in case margins for the industry there do not improve.

Stung by low demand and cost escalation, Chinese steelmakers fared poorly in the second half of 2011. According to that country's industry ministry, the "test for steel will be even more severe this year" with supply to stay ahead of demand in a high-cost environment. In fact, Chinese steelmakers having piled up debts of over $400 billion will not be finding it easy to liquidate these in the current environment. It is feared steel is likely to share space with property developers and local governments as principal concerns for Chinese banks. Defying all negative pronouncements, China watchers participating in Global Steel conference thought the country's steel production would once again rise this year, albeit at a much slower rate than last time.

Steel guru Peter Marcus, who anticipates sharp falls in iron ore and coking coal prices as steel will still have to ride out difficult times says, "Chinese steel production may rise three per cent in 2012." What, according to him, will be clouding steel outlook is the "heading down of fixed asset investment outside China and the contagion effect of the Euro zone crisis". At some point this year, Marcus sees iron ore at $100 a tonne and coking coal at $180 a tonne. John Johnson, chief executive officer of consulting agency CRU China, says despite occasional blips, the country's 2012 steel production will rise to 730 mt. At the same time, China will be making further progress in weeding out aging mills and capacity consolidation.

"China has already decommissioned about 40 mt capacity. Another 50 mt undesirable capacity remains to be scrapped. The country wants 10 groups to own 70 per cent capacity so that the steel industry reaps the benefits of consolidation. So far, less than 50 per cent capacity has come under the umbrella of 10 groups," says Johnson. China wants scrapping of all blast furnaces (BF) of up to 400 cubic metres and foundry blast furnaces of up to 200 cubic metres. Similarly, all converters and electric arc furnaces with capacity of up to 30 tonnes are to be discarded. Will not shrinking steel margins create an opportunity to restructure the sector and eliminate all remaining outdated capacity at a fast pace?

Steel remains a virtual forbidden space for outsiders in China.

Foreign groups seeking footprint there have so far not been able to own majority stake in large Chinese steel-making companies. Mittal, the original capacity consolidation evangelist, does not have anything more than two modest joint ventures to show in China where he makes about seven per cent of his total steel. Yes, there is room for foreign investment, if that would help China acquire top-end rolling technologies.

According to Johnson, China remains steadfast in pursuing the goal of owning iron ore assets abroad so that these eventually become the source of at least half the country's ore imports. "Any policy move by China will necessarily have important fallout for world steel industry. We, in India, should stay watchful," says SAIL chairman C S Verma.

First Published: Tue, February 21 2012. 00:36 IST