The pick-up in Indian steel production is supported by the Minimum Import Price (MIP) policy and is unlikely to continue beyond August 2016 after the expiry of MIP says India Rating & Research (Ind-Ra). Since the imposition of MIP, domestic producers have benefited, by way of import substitution. In Q1FY17 production grew by 3.8% yoy, compared to a contraction experienced in FY16. Ind-Ra believes that the continuation of protection measures beyond August 2016 will be required to safeguard the interest of the domestic steel industry, which has shown signs of a recovery in the current fiscal on the back of MIP.
Ind-Ra notes, that the replacement of MIP with anti-dumping duties may not have the desired impact, since anti-dumping may not be as widely encompassing as the MIP. While the steel industry is arguing for an extension of MIP, the rollover would remain a formidable decision for the government, since the economy has not moved to the Pareto-optimal equilibrium when MIP was imposed.
Post the introduction of MIP, there was minimal growth in domestic steel production during February and March 2016, with total steel production growing by a meagre 0.3% yoy. Exemptions available for letters of credit for imports opened prior to the imposition of MIP resulted in imports growing by 4.4% yoy during the said period.
In Q1FY17, total domestic steel production growth was healthy at 3.8% yoy, while the overall steel consumption grew by only 0.3%. Additionally, in Q1FY17 imports fell by 30.7% yoy. Thus it’s fair to say that the domestic production growth has been a result of import substitution and not steel consumption growth.
Another interesting observation is the sharp decline of 4.3% yoy in steel consumption in June 2016. This is in stark contrast to the positive yoy growth in steel consumption seen since April 2015 till May 2016. One reason for the fall in consumption levels in June 2016 could be attributed to the delay in purchases by users, based on the expectation that prices will moderate post the expiry of MIP. In that scenario the consumption levels could pick up once clarity emerges on the future of the MIP policy.
Ind-Ra opines that profitability for most steel producers is likely to remain under pressure, due to the newly added capacity. The interest cost and depreciation from these new capacities have now started to impact the income statement and have increased both operating and financial leverage in the business. Therefore, marginal improvements in capacity utilisations are unlikely to improve the profitability. For these companies to see a healthy profit generation, capacity utilisations levels will need to increase significantly.
Ind-Ra however notes that some steel players have been able to garner a higher share of domestic steel production growth in 1QFY17. Ind-Ra believes that this has been on account of the ability of such players to leverage their distribution network, strong retail presence and a change in the product profile. The higher volume growth can also be attributed to a relatively better financial position than the rest of the industry participants, thus allowing such players to support higher sales with their access to working capital financing.
The government imposed MIP in February 2016 on 173 steel products for a period of six months, ending on 5 August 2016.
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