Atanu Mukherjee, President, MN Dastur speaks with TradeBriefs on the state of the Steel sector
The US actions on steel imports under Section 232 of US Trade Expansion Act will not have much impact for the global steel trade. Steel trade today is largely regional with trade flows mostly concentrated within the NAFTA/Americas, Asia and European regions. Quite contrary to popular notions, the US only imports a miniscule 2.5 per cent of its total steel imports from China now. In fact, India imported more steel from China than the US in 2017, points out Atanu Mukherjee, President, MN Dastur & Co (P) Ltd, one of the largest independent consulting engineering organisations in the world. On the downturn in the industry, Mukherjee thinks that it was not only excess capacity, but a combination of excess capacity and demand side tepidity – globally and in India – that resulted in the deep downturn starting 2013-14 or so. In India subdued growth and infrastructure investment delays and curtailments starting 2012 or so had a large effect on the demand side. Even today, we have substantial excess capacity globally which will abate slowly over time as China closes more of its inefficient capacities.
Speaking to Debhota Mukherjee of TradeBriefs, Mukherjee speaks at length on wide ranging issues facing the steel industry. Excerpts:
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TradeBriefs: What are the key challenges the Indian steel, metal and mining sectors are faced with?
Mukherjee: I think we can partition the challenges into macro, micro and operational levels. At the macro-level, land acquisition, environment clearances, nation-wide logistics, resource allocations and lack of availability of cheap base-load power from the grid are substantial challenges. If our logistics infrastructure is made efficient and if we can leverage over 7,000 km of our coast line along with hinterland slurry pipelines corridors, to build steel clusters – we can reduce the costs by over $50/tonne. Better logistics eliminates the need to build steel plants close to raw material sources. We also have substantial grid power unavailability and cost disadvantage, because the entire power eco-system is broken in terms of our broken distribution system, distorted incentives, stranded assets, fuel availability and logistics. While renewable is a good complement, cheap thermal base-load power is an essential requirement for steel and primary metals industry to function. Efficient nationwide base-load thermal power systems running at normal PLFs along with efficient distribution providers can provide power to the primary metals industry at less than Rs. 2.50/ Kwh. In terms of the emissions effect of such base-load power systems, we should look at Carbon Capture and Storage and policy incentives like the US 45Q, rather than getting carried away by the renewable hype for base-load industrial power.
We also need to understand that steel is a cyclical industry and goes through long cycles. It appears that the steel and - to a lesser degree - the commodity prices are on a longer-term upswing. However, volatility is an intrinsic characteristic of these markets. This means flexibility in plant configurations, flexibility in raw materials, flexibility in distribution is more important for maintaining stable and reasonable EBITDAs rather than very large inflexible plants based on the myths of scale economies.
On a micro and operational level the key bottlenecks have to do with raw materials, plant productivity, logistics, quality and energy & emissions. Most of our initiatives and focus as outlined earlier are around these areas as we believe that, these are the major drivers for a successful and world-leading steel industry in India.
TradeBriefs: What would be the implication for the global steel trade arising out of US actions on steel imports under Section 232 of US Trade Expansion Act, 1962? What according to you would be the impacts?
Mukherjee: Actually it will not have much impact for the global steel trade. Steel trade today is largely regional with trade flows mostly concentrated within the NAFTA/Americas, Asia and European regions. The major steel exporter, China, has been exporting lesser and lesser steel to the US much before 232 came into effect due a combination of early anti-dumping measures and shift of its exports towards the fast-emerging ASEAN demand centers. Contrary to popular notions, US only imports a miniscule 2.5 per cent of its total steel imports from China now. In fact, India imported more steel from China than the US in 2017.The 232 will likely affect NAFTA countries like Canada and Mexico. Canada at about 5 mtpa, which is 30 per cent of its production, is the largest finished steel exporter to the US and there could be a few million tons of diversion effect post 232. Brazil the second largest exporter, which exports mostly semis may be marginally affected because of the tight slab markets in the US. The third largest exporter, Korea may be somewhat affected on its 3 mtpa of pipes exports to US, but a million ton or so of diversion, could probably be easily reabsorbed into ASEAN and other high demand Asian regions. Overall, worst case this could lead to some diversions of maybe 5-10 mtpa of steel to potentially other regional blocs, but that is really small compared to global steel trade volumes of close to 500 mtpa. The effect of 232 on global steel trade would thus likely be marginal. While US steel companies will reap some temporary benefits, unfortunately the worst affected will be the US consumers who will be paying for the tariff tax through increased steel prices.
The larger worry of 232 is that it raises the spectre of a retaliatory trade war between China, US, EU and other affected nations, that snowballs and leaves everybody worse off through damage to sales, investment and jobs across all categories of tradable merchandise and services.
TradeBriefs: Many experts say that excess steel capacity was the single phenomenon damaging the interests of the global steel producers during 2014-2017 in terms of lowering the prices and thereby the profitability of the industry. What is your take on that? Do you see steel demand going up substantially, going forward?
Mukherjee: It was not only excess capacity, but a combination of excess capacity and demand side tepidity – globally and in India – that resulted in the deep downturn starting 2013-14 or so. In India subdued growth and infrastructure investment delays and curtailments starting 2012 or so had a large effect on the demand side. Even today, we have substantial excess capacity globally which will abate slowly over time as China closes more of its inefficient capacities. For example, global over-capacity which was over 575 mtpa in 2016 in nominal terms will probably go down to 500 mtpa by 2020 as a combination of demand up-tick and capacity closures. I think one of the key drivers for the global up-turn in the steel sector has been the region wide demand side pick-ups. 2017 saw the largest expansion of demand globally after the contractions that started in 2014. Similarly, trade barriers and tariffs along with increased demand, elevated the price levels over time in some of the regional markets like the US. This is likely to continue for some time in the North American and EU markets, but the current price spurts of 1000$/ton of HRC in US eg may be temporary. In developing markets like India, which is on the cusp of the next steel up-cycle demand growth looks likely to be sustained and stable. Our research shows, that barring unforeseen shocks, it is likely that the steel sector in India will continue to strengthen in the foreseeable future. In the last 18 months or so we have already seen a growth of close to 5 per cent compounded in India. If the GDP grows at about 7 per cent + average over the next 5 years, it is quite possible that the average steel sector growth exceeds 6-6.5 per cent per year.
TradeBriefs: How is the bankruptcy process re-shaping the steel sector? Do you think that bigger players in the steel sector would eventually be vying for debt-ridden companies in India?
Mukherjee: The bankruptcy process will certainly help in the much required consolidation of the industry to make it more productive while weaning out non-productive assets. However, one of the biggest risks that we see in our fledgling bankruptcy code, is that a working and implementable bankruptcy code should try to successfully resolve these stressed assets while preserving maximum economic value through restructuring and change of control and it should not degenerate into a mechanism for liquidations or extreme haircuts for bank. The auction is one approach for resolution, but it runs the risk of large haircuts for banks, which results in large bank recapitalizations and eventually costs the tax-payers. While the prized assets could have lesser haircuts through auctions, a vast majority of the good assets may land up with major haircuts at liquidation values. Therefore it is important to exercise experience, expertise and judgement on the mechanism of resolution. Depending on the nature of the firm, state of industry and the systemic risk involved , one could look at cooperative bargaining methods and sectoral pooling of assets and its management through an interim AMC. The latter is a mechanism we had detailed in our writings in early 2017. Seems like it is being reconsidered for the long-standing power sector NPAs.
Insolvency resolutions for the larger steel assets through acquisitions will lead to more market concentration and it will also lead to potential exploitation of synergies and scale between the acquirer and the acquired. As larger players acquire large debt-ridden assets and smaller players merge or exit, market concentration will increase. This can increase pricing power, but more importantly it will help consolidate the industry and bring much higher industry wide efficiencies by reducing overall costs. With large multinational steel makers, many of whom have experience in India as well as critical global markets, there is an opportunity to increase the global reach of the acquired firms through exports. Similarly, it is likely that the world-class acquiring company will be applying the best of management practices and technology to improve the operations and profitability of the acquired firm. There is also substantial automatic de-risking of operations of the acquired firms due to synergies and global scale.
- Debhota Mukherjee, TradeBriefs -