The mainland's chronically oversupplied steel sector will take years to restore balance in the demand-supply equation, and this will come about from bankruptcies of privately owned firms, amid weak demand and prices, tighter pollution controls and stringent credit conditions.
Sharp falls in the prices of raw materials such as iron ore and coking coal helped boost the steel sector's profits in the first half of the year, but analysts said that until local governments showed they were serious about curtailing overcapacity, the industry would only be marginally profitable at best.
"China is still many years away from addressing overcapacity … the government is closing excess capacity in order to tackle environmental problems, rather than trying to help the economics of the steel sector," Sanford Bernstein analyst Vanessa Lau said in a research report.
After visiting steel mills and local government officials in Tangshan, Lau said industry figures suggested only 500,000 tonnes of capacity in small plants had been mothballed, a drop in the bucket compared with the city's shutdown target of 40 million tonnes by 2017, accounting for 30 per cent of its capacity.
Tangshan accounts for half of Hebei province's steel output, which in turn counts for about a quarter of the national total. Better profitability has encouraged large plants to lift output, with their blast furnace utilisation rate rising to 97 per cent from 86 per cent in March, according to industry portal mysteel.com
Medium-sized and large steel mills tracked by the China Iron and Steel Association posted a combined net profit of 7.48 billion yuan (HK$9.4 billion), up 133 per cent year on year. Still, the net profit margin was a meagre 0.41 per cent. Excluding non-core operations, they racked up a loss of 660 million yuan in steel-related operations.
The association said the difficult conditions would persist due to weak demand, excess capacity, tight credit supply and rising environmental protection costs.
First-half domestic steel consumption grew only 0.4 per cent, mainly due to a fall in property construction investment growth to 14.1 per cent from 20.3 per cent in the same period last year.
The second-half demand outlook was not good, weighed down by a 16.4 per cent fall in new home construction starts, the association said, adding increasing trade disputes could crimp exports. Construction accounts for just over half of steel demand.
The industry is estimated by the Ministry of Industry and Information Industry to have 200 million tonnes of excess capacity, or a fifth of the total.
Paul Bartholomew, the managing editor of industry publication Platts, expected this year's new blast furnace capacity addition to fall to between six million and 10 million tonnes from 24 million tonnes last year. The capacity-cut target set by Beijing for last year was 10 million tonnes. "Margins have improved, but they are still very meagre, so the incentives for new capacity are definitely waning," he said.
Ratings agency Standard & Poor's director Shi Huma believes demand-supply balance will eventually be restored, but this is unlikely in the next two years as many old plants needed to be "flushed out".
Lau said Tangshan government officials indicated they were targeting only 5.6 million tonnes of capacity cut this year.
"Although the government [said] last year Tangshan will close 40 million tonnes in capacity by 2017, local officials could not provide details on how they could achieve this," she said.
Some private steel mills are going bust given the tough market. Shanxi province's Haixin Iron & Steel ceased production in March and defaulted on 3 billion yuan of debt. It had 6 million tonnes of annual capacity.
Shi expected more defaults among private firms, citing steel prices falling to their lowest in eight years.
Shi does not expect state-owned steelmakers to be pushed out of the market, saying they tended to be big and had better access to capital.
"The market share and profitability of large state-owned steelmakers are likely to improve with the phasing out of smaller players," she said. "Significant benefits from such consolidation would take a few years to materialise and would be limited to only a few state-owned [firms] with better product mixes."
A recent strike staged by workers at Sichuan's Pangang Group Xichang New Steel showed the challenges of shutting state-backed steel plants. The firm was ordered by Beijing to close its plant by March but it was extended by three months as it had not been able to come up with a plan to redeploy or compensate its staff.
Hundreds of workers staged a wildcat strike in June in a bid to pressure the management for better severance packages for its more than 3,000 staff.
In the face of tax revenue losses and the need to redeploy laid-off workers, Lau is not convinced local governments will force capacity shutdowns beyond those ordered by Beijing to meet pollution control targets.
"We believe the steel sector 'playbook' for the Chinese government is simple: curtail enough inefficient capacity to reduce pollution and prevent social unrest, yet allow enough steel mills to continue operating close to break-even to keep people employed," she said.
Source; South China Morning Post
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