Steelmakers' profits to suffer, rebound or not
The mainland's steel industry, the world's biggest, is a melting pot of contradictions.
Production has remained high even though demand has fallen. This has given support to the prices of raw materials, while margins are continually being squeezed.
As a result, the industry posted losses in the first four months, with the top player warning that this could be the pattern for the rest of the year.
Is the situation so dire?
No, said analysts, but they added that the recovery was likely to be accompanied by low profitability.
From January to April, the mainland's 72 biggest steelmakers reported a combined loss of 5.18 billion yuan (HK$5.88 billion), figures from the China Iron and Steel Association showed. The loss in April alone stood at 1.5 billion yuan.
Earlier this month, Xu Lejiang, the chairman of the mainland's biggest steelmaker, Baosteel Group, warned that the industry might suffer a loss for this year as overproduction persists in a weak global market.
But some analysts say rebounding steel prices, increasing production and falling inventory are all signs that the industry is bottoming out.
BOC International analyst Belle Chan said: 'We believe the worst is over and we expect more positive news on iron ore costs and pick-up in demand going forward. While we believe mainland steel prices will stabilise at current levels, the earnings turnaround on lower material costs will be the share price catalyst.'
Domestic steel prices have fallen since February after a brief rebound but have risen again since mid-April. Prices for benchmark hot-rolled coil rose 3.7 per cent to 3,443 yuan a tonne last week, data from Metal Bulletin showed.
Beijing's 4 trillion yuan stimulus package, with a significant portion of the spending allocated to infrastructure and housing works, helped to spur steel demand.
'The property sector is rebounding, and steel inventories are shifting downstream ... Orders have picked up in the past few weeks, especially in long products for the construction sector,' Morgan Stanley said in a report. 'Pricing is stabilising, and a recovery must be around the corner.'
However, overcapacity and weak export demand would continue to cloud a strong recovery even though government measures had helped to increase demand for steel from the infrastructure sector, officials and analysts said.
Mainland steel mills, battered by weak demand and falling prices, can churn out about 660 million tonnes a year, but demand for domestic consumption and exports is estimated at 462 million tonnes this year, based on figures from the Ministry of Industry and Information Technology.
The ministry, which earlier asked banks to cut loans to steel mills operating with outdated facilities and those adding production without real demand, said the oversupply was severe, especially in flat products.
The nascent recovery in steel prices from a five-month low last month might reverse again, and steel prices might show a W-shaped recovery, said Zhu Hongren, a spokesman for the ministry.
'The reason we are cautious about prices is the significant overcapacity in the marketplace,' Macquarie analysts said in a report.
'As prices increase, capacity should come back online, and this would limit the upside.'
The mainland industry's capacity utilisation levels moved up to 85 per cent last month from 73 per cent in November last year as small steel mills resumed production after steel prices rebounded.
Overcapacity is now a global problem for the steel industry amid the economic recession.
The global utilisation rate is low, with the United States below 50 per cent and Europe and Japan at about 60 per cent, Goldman Sachs said.
Overcapacity would last until 2013 on the global side and would cap steel prices, it said, while forecasting that average prices of mainland hot-rolled coil this year would fall 19 per cent from last year.
Another contradiction affecting the industry is weak export demand but rising imports.
The country's steel product exports fell 15.6 per cent last month from March or 70.5 per cent from a year earlier to 1.41 million tonnes, the lowest level since October 2004, according to data from the customs office.
But at the same time, steel imports exceeded exports, reaching 1.62 million tonnes last month, an increase of 30 per cent from March.
Mainland steelmakers were not cost-competitive now, leading to net imports, Macquarie said.
The fall in net exports meant domestic demand needed to pick up 10 to 15 per cent to offset this weakness, but that could be difficult to achieve, it said.
Macquarie said companies such as Angang Steel would be significantly affected by the export market given that it had sold about 15 per cent overseas historically.
It forecast that Angang, which reported a 99.7 per cent drop in profit for the first quarter this year to 8 million yuan, would report full-year earnings of 2.03 billion yuan, compared with 3.04 billion yuan last year.
When steel prices rise, raw materials prices also rebound and limit steelmakers' profitability, said Xu Xiangchun, the chief information officer of Beijing Ganglian Maidi e-Commerce, a provider of steel data.
According to Mr Xu, iron ore and coking coal prices had risen about 10 per cent since mid-April.