Edelweiss: Steel melting away

In India, for instance, there are announced capacity expansion projects of 95 mt. Currently, all of them are either in the primary stage of development or have been delayed. In India, we expect greenfield projects to come up only after 2011; there would be limited brownfield capacity addition in the interim. Globally, there are rapid expansion projects going on in the Middle Eastern, Latin American, and African countries. It will, however, take three-four years for tangible chunk to show up.

Few suitable locations for new capacity additions

Considering the slow pace of capacity addition, we see structural shortage of steel persisting, going forward. We have analysed the relative merits of different locations for building a new steel plant, and then arranged various locations in order of their overall advantage. At present, besides Russia, we see no other place favourable for building new steel capacities.

Russia offers plenty of natural resources, growing domestic steel demand, and opportunities for new players to operate at a low cost. Further, government policies also favour steel players.

The US also offers a vast domestic market with structural steel deficit, access to fast-growing Latin American markets, abundant raw material (scrap and coke) availability, and good river system for transportation. Besides, the geography has a number of existing mills needing replacement, with incentives on offer (from local groups) for building steel plants and generating employment. Going forward, demand in this geography is, however, likely to be severely impacted, exerting pressure on prices. India offers good demand potential, advantageous location for exports, abundant iron ore reserves, low worker wage costs, and overheads. However, recently, we have seen roadblocks in projects due to procedural delays in allocating land and mines. As a result, India turned into net importer of steel in CY07. Further, government policies here are not conducive, and the country lacks quality coking coal. Brazil is rich in iron ore and offers access to fast growing domestic/Latin American market. However, there is no coking coal. The Middle East offers good steel demand growth on a long term basis, locational advantage for exports, good supply/demand balance at present, and attractive profit opportunities in value-added products. Further, a number of good ports and the Suez Canal offer access to offshore markets at low cost. However, the geography has no raw material resources.

Venezuela, EU, Taiwan, China, and Japan are places to avoid while building a new steel plant. The key problem in China is government intervention in pricing and exports. Further, the abundance of small players and their pricing at marginal cost makes it difficult for steel makers to control prices. Also, there are issues arising out of lack of availability of iron ore and cost inflation in wage cost and overheads.

The problem in EU is slow steel demand growth and high costs due to high wage costs and the fact that most mills pay international contract prices for iron ore and coking coal. Venezuela, despite having natural resources and favourable costs, suffers from countryspecific risks, impeding operation of steel plant. Recently, the government nationalised the largest steel maker, Edermir, after it refused to control prices.

Global crude steel production expected to decline in CY09 and CY10 We expect global crude steel production to decline more than 5% in CY09 and down 1% again in CY10 to below 1.3 bn tonnes by CY10E, less than even CY07 levels. Production decline is expected to mirror the fall in consumption as steel makers world over are cutting production, in line with the changed demand scenario. Chinese crude production is likely to stagnate in CY09E, and then grow just 4.5% (to 524 mn tones) in CY10, in sync with other Asian peers.

Q4CY08 and CY09 seem weak for steel production Chinese steel production for September 2008 dropped 9.1% Y-o-Y (5.8% M-o-M), to 39.6 mn tonnes, and as per Mysteel estimates is expected to dip further in October on the back of production cuts. Chinese Iron and Steel Association (CISA) has projected that China would produce about 500 mn tonnes of steel this year, up just 10 mn tonnes from last year and much short of earlier forecasts of 520-550 mn tonnes. This is indicative of a likely decline in Chinese production at ~10% Y-o-Y in Q4CY08, which was unthinkable few months back.

In CY09E, we expect production to decline almost 20% in EU and the US as mills try to cut production and protect prices in low demand environment. In developing countries, production growth is, however, likely to be strong. We expect Indian steel production to grow ~ 3.5% in CY09E/FY10E. On incremental basis, we expect China to account for 50% of global steel production in CY09E and CY10E.

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