How will consolidation impact Asian Steel?

Implications: World wide consolidation in steel appears to be inevitable and Asia is the next area of real opportunity for significant consolidation activity.  Some movement in this direction has occurred with the alliance of different companies under the Nippon Steel umbrella or the combination of NKK and Kawasaki Steel under JFE, but more is very likely in the future.  A consolidated Chinese industry would put tremendous pressure on suppliers of raw materials to the world's largest steel producing region and might change the dynamics of pricing on a long term basis.  In addition, as mentioned by the article author, China is investing in significant R& D capability and likely will become a dominant owner of intellectual property concerning steel technologies.  What scenarios are likely for China and its Asian neighbors?

Analysis: As one who has recently visited China as part of a state sponsored mission focused on the steel industry, the impression of the modern and new industry in comparison with the old industry prior to 1999 becomes very vivid.  China has added over 300 million tonnes of modern steel capacity since 1999 and yet only has one steelmaker, Baosteel, that is over 25 million tonnes of annual capacity.  It has others that continue to grow as well and it is likely that the top 15 producers will control over 50% of total production by 2010.  In comparison with the USA and the flat sector, this represents a largely still unconsolidated industry.  The USA and North America in total has greatly reduced the companies that manufacture steel with only 4 companies supplying over 80% of the flat products and with just 8 companies supplying the long products sector.  Similar consolidation has occurred in Europe with Arcelor Mittal now being the dominant player in both flats and long products.  There is no question in my mind that consolidation in China will occur; it is a matter of national policy and overall timing.  The current Chinese 5 year plan calls for the removal of over 100 million tons of steel producing capacity; while at the same time creation of 150 million tonnes of new capacity to meet the overall anticipated Chinese market needs.

The policy is encouraging the removal of older, smaller inefficient producers through manipulation of steel and raw material prices, export license control, and increasingly more stringent environmental regulations. The growth side of the industry is controlled by requiring a minimum size for any company desiring to expand their production levels.  The size was initially set to require producers to be larger than 1 million tonnes and government policy has moved this even larger levels today (5 million).  This has forced smaller companies to try and become medium size companies or to merge with others that are already of the required size.  Even with the policies in place, the consolidation that is likely will still leave too many companies relative to what has taken place elsewhere.  If the North American situation or European situation is used as a model, One would envision a future Chinese industry where under 10 companies would control over 80% of the Chinese flat market for carbon steel and another 10 companies would control 80% of the long products markets.  This would represent tremendous consolidation in an country that has over 300 significant scale producers at this time.  It does show the scale of impact that consolidation has had on North America already.  In order to achieve the consolidation noted, more active government involvement is likely as China is still largely dominated by Central Government policy.  The potential for outside participation for companies like Arcelor Mittal will be difficult unless some government policies such as limiting foreign ownership maximums are ended.  Currently, majority control of Chinese steel companies is not possible by a foreign entity.  Participation of outsiders in Chinese steel is still possible, but at a minority status and the participant must bring some unique capability to interest even this type of involvement.

So if outside participation is currently limited, what other Asian possibilities exist for M&A activity?  The Japanese industry seems to be an area of opportunity in that both JFE and Nippon Steel have had long standing international relationships with most of the top industry players.  For example, Arcelor Mittal and Nippon Steel already share some facilities and Nippon has provided technical know-how and development expertise to various parts of the Arcelor Mittal group of companies.  An expansion of Arcelor Mittal through a merger with Nippon Steel could make real sense because of the shared high end steel technologies needed to serve sophisticated flat steel consumers and the joint customer groups served by Arcelor Mittal and Nippon Steel at the current time.  The merger of the two giants would truly make a formidable steel company.  The size would also get Arcelor Mittal closer to Lakshi Mittal quest for a greater than 200 million tonne company.  Other Asian possibilities also exist including the merger of Posco with a Nippon Steel or a JFE to give rise to a powerhouse that would posses both the steel technology know-how anad market skills to compete effectively on the world stage.

The author also talks about the potential for further consolidation in the iron mining industry and in the Russian Steel industry.  Certainly, in mining there is already great consolidation with CVRD, Rio Tinto, and BHP-Billiton being the dominant players.  Smaller companies such as Cleveland Cliffs could be an interesting target for any one of the big three and/or for other mining companies desiring to enter the lucrative iron ore mining business such as Anglo-American.  In addition, it potentially makes competitive sense for Rio Tinto and BHP-Billion to combine forces because of their positions in the Australian iron ore mining districts and their to counter the dominance of CVRD on an international scale.  In addition, these dominant mining companies are now in a position for growth through further acquisitions beyond iron ore as evidenced by CVRD's purchase of INCO and it is likely that they will use their current strong financial positions to diversify their existing portfolios to other metals groups (ie., bauxite and aluminum, zinc and copper, and other non-ferrous commodities).