U.S. Steel Industry: High Capacity Utilization Rates Make Outages More Disruptive

Through much of the 1990s and the first part of this decade, there was excess capacity in the global steel industry. If a mill suffered damage, the individual company would lose money, but there would be no impact on the overall industry; other mills could simply bring idle capacity on-line to make up for any shortfall. An outage in the United States could also be overcome through cheap and readily available imports. Mills were losing money as steel prices reached record lows, so maintenance was deferred and expansion of new capacity was not even dreamt of.

But the health of the steel industry has increased dramatically over the past few years. The main factor is a massive increase in global demand. China is the big driver, as its rapidly growing economy consumed 2.5 times more steel in 2005 as in 2000. Other world economies have recovered from post-September 11 slowdowns, so consumption is firm almost everywhere. However, furnace capacity is not keeping up. China is rapidly expanding its industry, but other areas are lagging. Years of losses and bankruptcies made established steel companies in North America, Europe, Japan and Korea very conservative, so they are only now convinced that expansion may be viable. In the meantime, mills are operating at high rates in order to meet demand, with little or no spare capacity in many regions of the world.

Thus, the obvious problem when an outage hits. Mittal Steel had an accident early in the year, and other companies could not easily ramp up to meet the shortfall. Sparrows Point in Baltimore has recently suffered damage, and there will be market impacts. USS took one of the country's largest furnaces off-line for maintenance and upgrades, and only recently has it been restarted. Buyers can still obtain steel, but there is an upward impact on prices, and it is definitely a seller's market.

The lack of spare capacity also introduces a large component of risk to any forecast. If there is not an outage in a particular quarter, prices will follow a lower path and supply should be predictable. If there is an outage, prices will follow a higher path and allocation is more likely.

The industry's past financial problems are also causing headaches now. Deferred maintenance from past years means today's high utilization rates are pushing a comparatively old capital stock. While it is not possible to say which furnaces will suffer failure or when the problems will occur, failures of worn equipment should not come as a surprise.

Is there any good news? Yes. First, the booming demand of recent years translated into healthy profits. Many companies are flush with cash, and are now able to invest in maintenance and upgrades. There are temporary shutdowns as the maintenance is performed, but once the procedures are completed most furnaces are not only more dependable, but are likely to have added capacity through upgrades. Second, there are global moves to increase capacity outside of China, and more plans are likely to be announced in coming quarters. Steel demand will continue to grow: established G-8 economies are healthy if not booming, and the emerging BRICS economies (i.e., Brazil, Russia, India, China, and South Africa) will need huge amounts of materials as they join the industrialized world. Steel capacity will have to grow as well, or even minor disruptions will have profound effects.