Steel Industry Insight

Banking on the future

South America’s top steelmakers strategize for success. The South American steel industry is at a turning point. After surviving the worldwide economic downturn relatively unscathed, it has proven itself not only strong on the domestic front, but a growing powerhouse on the global stage.

While Brazil, Argentina, Venezuela and Chile combined only produced approximately 3 percent of the world’s crude steel output in 2010, according to the World Steel Association, the total of 41.1 million metric tons (mt) for those countries is still a 16 percent increase from 2009 levels. Additionally, Brazil-based Vale is still the top world supplier of iron ore, producing 311 million mt in 2010, according to company records.

Strong growth along the entire supply chain, from raw materials down to end-use activity, is evident in nearly every statistical report available. So the question is, where does the South American steel industry go from here? Can it break away from its “emerging” economy counterparts and transition into full-fledged first-world status? Each major steel-producing nation in the region seems to have its own strategy for success, producing—for the most part—positive results.

Brazil: Spotting opportunities from its view at the top

Arguably the economic leader of South America, Brazil’s economy grew 7.5 percent in 2010, and construction and infrastructure development provided a steady demand for steel products, resulting in substantial profits for the nation’s top steel producers. For fiscal 2010, Companhia Siderurgica Nacional (CSN) posted a net income of R$2.5 billion (US$1.5 billion), Gerdau S.A. also made R$2.5 billion (US$1.5 billion) in net income for 2010 (an increase of 144 percent from 2009), and Usinas Siderurgicas de Minas Gerais SA (Usiminas) posted a net income of R$1.5 billion (US$898 million) in fiscal 2010. And, not surprisingly, Vale saw its 2010 net income triple from 2009 levels, reaching R$9.3 billion (US$5.9 billion), attributed to rising iron ore prices.

Flush with profits, most major Brazilian steelmakers have started to seek out opportunities, either snapping up smaller entities in a wave of consolidation, or actively investing in other promising markets, such as Asia. In January of this year, Gerdau announced plans to merge with Brazilian steel company Acos Villares (S.A.) and Brazil-based construction company Prontofer Servicos de Construção Ltda. Currently, Acos Villares is one of Gerdau’s controlled companies, but once the merger is complete, Gerdau will take sole ownership of the company as an investment replacement.

A month later, Gerdau announced plans to invest $120 million in Peruvian steelmaker Siderurgica del Peru SAA (Siderperu)—the company’s existing Peruvian steelmaking operations—over the next three years, plus planned to study an additional $480 million expansion of Empresa Siderurgica del Peru SA.

Further investment plans in Gerdau’s own operations continued to roll out, including an early March announcement that it will invest R$2.5 billion (US$1.5 billion) to more than double the production capacity at its wire rod and rolling mill in Santa Cruz. The first phase of the expansion will be completed in 2013 and will involve upgrading the rolling and wire rod output capabilities, while the next phase will include building a second mill between 2014 and 2016.

More investments are on the way, even though definitive plans have not been announced. According to a regulatory filing in late March, Gerdau plans to increase the company’s available funds by issuing at least R$3.8 billion (US$2.3 billion) worth of common and primary stock. While Gerdau’s official statement only indicated that the company plans to use funds generated from the sale to finance other investments, the announcement reignited speculation that Gerdau has its sights on Usiminas, a possible partial acquisition that investors have gossiped about for quite some time. A stake in Usiminas could help Gerdau, which produces primarily long products, expand into the flat rolled sector.

However, Gerdau is not the only company Usiminas has to worry about. In February, Usiminas announced that it set up a new long-term accord—“to demonstrate the stability” of the company’s current shareholding structure—in order to stave off a potential takeover bid from CSN. It was reported that CSN’s recent purchase of stakes in Usiminas prompted the action.

For its part, Usiminas is trying to stand apart from its consolidation-hungry peers. Wilson Brumer, CEO of Usiminas, told attendees of the Reuters Latin American Investment Summit in late March that his company will instead focus on “developing some of its existing assets instead of buying or selling businesses.”

Despite Brazilian steel companies’—with the exception of Usiminas—eagerness to expand and invest, they are finding increasing pressure from the government to make the Brazilian economy as a whole a higher priority than corporate interests. Several news outlets have reported that the Brazilian government wants to hinder steel investments abroad, such as mining giant Vale’s growing involvement with China. For example, in mid-March, Vale announced its 25 percent stake in a China-based 1.2 million metric ton iron ore project with Anyang Iron & Steel Group, marking a step forward in the strategic partnership between the two companies. Industry insiders believe that continued pressure from Brazil—including rumors that the finance ministry was considering an iron ore export tax—have shifted Vale’s strategy from primarily exports to investment in projects located overseas.

The situation became especially heated in early April, when the Brazilian government forced out Vale’s CEO, Roger Agnelli, following criticism that he wasn’t doing enough to develop Brazil’s domestic steel industry. While some see the move as the left-leaning government’s attempt to reinstate control over formerly state-owned companies, it is not clear how that alleged strategy will play out once Murilo Ferreira, a former Vale executive who was reportedly removed after years of resisting governmental intervention efforts, takes the helm at Vale after the company’s board approves him as Agnelli’s replacement.

Whether the Brazilian government will succeed in stymieing steelmakers’ consolidation dreams remains to be seen for now, but with ever-increasing steel output (32.8 million mt in 2010, up 23.8 percent from 2009), it seems as though there could be enough steel to go around.

Argentina: Steel growth under inflation’s shadow

As the second largest steel producing country in South America, Argentina’s steel industry, along with its economy, flourished in 2010, and the nation is poised for further growth in 2011. The 5,138,000 mt produced last year represented a 28 percent increase from 2009 levels, and the industry is already on a roll in 2011.

According to Argentina’s national steel association Acero Argentino, domestic production of crude steel in February, at 437,900 mt, represented a 15.1 percent year-on-year increase, and a 21.2 percent improvement from the prior month. Additionally, Acero reported that iron ore production spiked in February, increasing 15.8 percent year-over-year. The ample growth in Argentina’s steel industry is particularly impressive, considering the sharp increases in iron ore and coal prices, plus increasing labor costs, according to Acero.

Economic growth in general is helping to support Argentina’s steel sector, including a rise in the country’s industrial production index in February, up 0.3 percent month-on-month and 9.4 percent year-on-year. Overall GDP growth was 9.2 percent in 2010, and the nation’s central bank expects further growth of approximately 6 percent this year. Consumer confidence is also up, nearly hitting the nation’s January 2007 record this March, according to a report from Buenos Aires-based Torcuato di Tella University.

However, there is speculation that much of the increase in consumer spending is not attributed to confidence alone. According to a March report from Dow Jones, soaring consumer prices are spurring Argentines to spend—many feel that it’s smarter to buy now instead of later, when prices could be higher, said the report. Some economists peg Argentina’s inflation at 25 percent annually, but official government reports are contradictory.

According to the National Institute of Statistics and Census of Argentina (INDEC), consumer prices were up only 10 percent by the end of February. The disparity in reports is indicative of a larger controversy. Although INDEC is supervised by the Secretariat of Economic and Regional Planning, it is supposed to be autonomous; when the Argentine government replaced the Consumer Prices Indicator director in 2007 and placed INDEC’s board under the supervision of the Ministry of Economy, allegations that inflation indicators were being kept under 1 percent a month abounded. Since then, it is widely accepted that INDEC’s inflation statistics are significantly lower than private sector estimates.

Not all of INDEC’s data are suspect, however, including steel-related industry statistics such as February construction levels, which were up 13.2 percent year-on-year and 1.3 percent month-on-month. Of that growth, infrastructure construction activity was up 16 percent compared to February 2010, while commercial buildings were up 13 percent and residential buildings improved by 12 percent. Nevertheless, construction stats should be understood with a note of caution—some see inflation as the main driver of the real estate boom, as consumers prefer to buy and build rather than wait for more favorable conditions.

Argentina’s strong growth, rooted in its economy’s “still developing” status, should help it weather any sort of construction bubble that could be in the beginning stages of expansion. Already, the nation has proved its resilience through global economic conditions. Since 2004, Argentina’s GDP growth has ranged from relatively high levels of 6.8 and 9.2 percent (aside from a single-year plummet to 0.9 percent in 2009, from which the country quickly rebounded). In the same period, annual crude steel production ranged from 4.0-5.1 million mt. With the ability to withstand even worldwide economic pressures, Argentina should theoretically be able to handle anything its own domestic economy can dish out.

Venezuela: A struggling, yet upward climb

Of all the major South American steelmaking nations, Venezuela has had a disproportionate amount of struggles, many in connection to the nationalization of its steel sector in recent years. Since then, the two top Venezuelan steel producers, Siderurgica del Orinoco (Sidor, nationalized in 2008) and Sidetur (nationalized in 2010), have faced energy rationing, raw material shortages, and even financial pressures, such as Venezuela missing the deadline to pay Luxembourg-based Ternium SA the final $255.6 million plus interest owed from the original $2 billion buyout of Sidor.

Nevertheless, the nation’s steel sector has, for the most part, overcome obstacles to become the third largest crude steel producer in South America, according to the World Steel Association. In November of last year, Sidor’s President, Carlos D’Oliveira, announced that the recovery of the Guri dam—which provides approximately two-thirds of Venezuela’s electricity and had suffered a severe drought through much of 2010—allowed the company to double its 2011 production estimates to 4.3 million mt.

However, those estimates might already be obsolete. According to local news reports, Sidetur halted production in March due to a shortage in raw materials. Sidetur’s main provider of hot briquetted iron (HBI), Venprecar, allegedly supplied the steel producer with insufficient levels of HBI in favor of supplying the international market.

Despite the bumps in Venezuela’s road to success, the nation’s steel industry is moving forward with plans for the future. Caracas-based Sidor, for example, announced in January a new investment plan and infrastructure improvements that will help the company reach its 2011 production goal. The plan includes increasing slab manufacturing efficiency, systems investments, and improving maintenance on the steel billet and bar production operations. Additionally, Sidor announced the installation of a welded wire mesh production line to address growing demand in the Venezuelan construction sector.

According to local reports, the Venezuelan government plans to construct 150,000 houses this year, but it is not a sure bet that the country’s steelmakers can satisfy the demand for construction-related steel. Jorge Roig, President of the Venezuelan Association of Metal and Mining Industries, told local press in February that Venezuela is not producing long products at levels required for the government’s “ambitious” housing plans. Roig said that 700,000 mt of rebar would need to be produced each year to accommodate the plans—Sidor and Sidetur combined only produce about 100,000 mt less than that per year.

Much is riding on the success of new investments to boost steel production in Venezuela, which has already seen its GDP grow by 4 percent in the first quarter of 2011, according to President Hugo Chavez. During a television address to citizens in early April, Chavez predicted the economy will be able to expand at a similar pace over the course of the year, doubling original government forecasts. Citing elevated oil prices and improvement in international exchange, Chavez seemed confident in his country’s capabilities to not only spur economic growth, but sustain it as well.

Chile: Rolling out the red carpet

While Chile’s steel industry is dominated by steel conglomerate Compañia de Acero del Pacífico S.A. (CAP S.A.), the nation is rich with iron ore, attracting mining companies from around the world.

In April, global commodities company Fauve Intertrade Corporation announced that it formed equity partnerships and acquired mining rights with several mines, in addition to acquiring and developing several ports in Central and Northern Chile. According to Fauve’s press release announcing its new Chilean operations, the company plans to capitalize on the increasing global demand for iron ore, especially in emerging Asian economies.

Last summer, UK-based London Mining announced a joint venture with partners in China and Chile to explore iron ore deposits in the Atacama region of Northern Chile. The near certainty that most iron ore produced from the project would be funneled almost entirely to Chinese steelmakers only highlights Chile’s emergence as one of South America’s top sources of the raw material, and China’s continuing efforts to secure resources outside of the world’s top three iron ore producers: Vale, BHP Billiton and Rio Tinto.

Aside from mine-development projects from international companies, Chilean-based companies are also joining up with overseas partners who have their sights set on Chilean ore. In early April, Hebei Iron & Steel Group Corp., China’s largest steelmaker by output, signed an agreement with CAP S.A.’s mining division, Compañía Minera del Pacífico (CMP), to jointly develop the Cerro Negro Norte iron ore deposit. According to CMP, the as-yet untapped deposit has magnetic resources of 223 million mt and 39 million mt of non-magnetic resources.

Of course, foreign interest is not the only thing driving the Chilean steel market toward success. According to local steel institute Instituto Chileno del Acero (ICHA), Chile’s domestic steel consumption rose 40 percent to 2.41 million mt in 2010. Additionally, steel imports grew 170 percent for the year, attributed to growing demand from the country’s construction industry—the Chilean Construction Chamber (CChC) expects that construction spending will grow 10.8 percent in 2011.

Therefore, not only is Chile an attractive source of steel raw materials, but it’s a promising destination for finished steel products as well—and steel companies around the world are already taking note. An in-depth assessment of Chile’s steel industry, from the perspective of one of its top players—CAP S.A. CEO Jaime Charles—is available on page 38, but one of the main themes that can be derived from the conversation is that while Chile is South America’s fourth largest steel producer at this point in time, it might not be for long.

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