China Report: 86 Mills Carry a 3 Trillion Yuan Debt

Overcapacity is one of the main culprits in the difficulties facing steelmakers. In 2009, Chinese steel capacity was about 700 million tons but by 2013 it had soared to 976 million tons. Oversupply led to a downward spiral of pricing and profit.

In 2013, environmental issues took center stage in China. As the largest contributor to air pollutant emissions, tighter regulations for steel mills ensued. The costs to comply, however, were untenable for mills suffering from already damaged profit margins. It is estimated environmental costs to produce one ton of steel is around 100 Yuan. For an industry producing 720 million tons of steel annually that comes to 72 billion Yuan per year.

In an effort to boost profits, mills diversified adding iron mining to their business portfolio. Some mills followed the example of Wuhan Iron and Steel Corporation (WISCO) and invested in pig raising ventures. Others diversified even further to wine brewing and selling bottled water. Whether these efforts will increase profits for beleaguered steel mills has yet to be seen.

The China steel price index is calculated using 1994 prices as the base price of 100. “At the end of October, the steel price index was below 100 for 11 weeks,” said CISA Vice Chairman Zhang Changfu. The serious overcapacity in the China steel industry has resulted in a capacity utilization rate of 72 percent, far below the acceptable range.

In 2014 steel mills in China will face strict capacity restrictions. With steel growth higher than steel demand in China is estimated 2013 capacity will reach 1 billion tons with 200 million tons of excess capacity. Xiang Songzuo, chief economist at the Agricultural Bank of China, called the situation “indiscriminate mass destruction.”

In October 2013, the State Council attacked overcapacity head-on directing the steel industry to reduce capacity by 80 million tons. The province of Hebei produces 180 million tons of crude steel, about one fourth of the total national production. The province’s steel production capacity will be cut by 60 million tons over the next five years with another 20 million tons of reduction by 2020. The reduction will be accomplished through mergers, increased steel exports and closure of mills.

It is hopeful that if production cuts can be accomplished in Hebei, it will lead to a controlled and profitable steel industry. On November 24 mills began coming down with the dismantling of 8 steelmakers and 16 converters for reduction of 4.56 million of iron making capacity and 6.8 million tons of steel production capacity.

Overcapacity is only part of the government‘s concern, however. The 10 cities with the worst air pollution were found to be those with steel intensive industries such as Hebei, Tangshan, Handan, Shijiazhuang, Xingtai, and Baoding.

Earlier efforts to regulate steel mill industry emission were frustrated by lack of air quality standards, shoddy (or lack of) installation of environmental equipment and intermittent operation of that equipment. Metallurgy industry planning research director Li Xin admits it will be difficult to get the steel industry to comply with environmental policy; corporate profits are down and the State does not provide any subsidies to help with environmental compliance costs. There is also concern that mills are not treated equally and environmentally friendly plants suffer lower margins.

Lower margins have caused a 3 trillion Yuan “steel kiss of death” for the industry. By the end of June, 86 steel companies averaged 34.88 billion Yuan of debt each. CISA reported October profits dropped by 47.66 percent reversing earlier gains in the year. In the first three quarters of the year, 86 key steel enterprises accumulated profit of 11.3 billion Yuan but their average net sales rate of 0.41 percent was the lowest level in the industry. In the first half of the year that figure dropped temporarily to 0.13 percent.

In addition, in the first half of 2013 total assets debt ratio reached 69.47 percent, a high ratio that looks even worse when broken down by mills. Of the key steel producers, 39 mills had debts to assets ratios of more than 80 percent, 15 mills were over 90 percent, and five steel enterprises had a debts to assets ratio of more than 100 percent. In late September the total asset-liability ratio number increased to 69.63 percent, reaching a 10 year record high.

The steel trading business has suffered along with the mills. The following metaphor was used to emphasize what happens to traders when mills crash.

In the steel industry we have such a Saying: When Mills eat meat, the Steel Traders get the bones, When the Mills gnaw the bones, Steel Traders drink the soup, When Mills drink the soup, Steel Traders can barely breath, When Mills can barely breath, Steel Traders are spitting blood.

Chinese investment in oversea iron ore interests is expected to bring relief to mills that are tied to the world’s three giant iron ore producers for their raw material. Iron ore output from Chinese steelmakers who have interests overseas is expected to reach 150 million tons in 2015. Iron ore pricing has remained high while steel prices declined in recent years. Having control over source material is expected to moderate pricing for China mills.

But in any case, whether it is a black cat or a white cat that catches the mice, it is still a good cat. For Steel Mills, in the face of growing and difficult predictions at the moment and how long the reshuffling will take, and only trying to survive to be able to say in the end, “The last ones left standing are Kings.

(Source: The preceding is a paraphrasing of an English translation of an article published in Securities Journal on 12-23-2013)

First half of 2013 year, 1 ton of steel was only 0.43 Yuan profits, two tons combined earned enough money to buy an ice cream bar/popsicle.

Self-depreciation, the steel industry over the years all the way from “Self Esteemed and rich,” sliding into “Self Depreciated and poor”. Just as intuitive as 1 ton of steel in terms of profits, at its peak, up to 1000 Yuan or so, you can buy a regular Mobile phone. Since then, slipping to only being able to buy a kilo of pork, a bottle of mineral water levels. First half of 2013 year, 1 ton of steel was only 0.43 Yuan profit, two tons combined earned enough money to buy as ice cream bar/popsicle.

Analysis of the difficulties faced by the steel industry, overcapacity is already a cliché topic. For years, while the steelindustry’s capacity adjustment policy and nothing less has come, but the reality is that while the backward production capacity was to be eliminated, while new projects are launched, capacity further added more. In 2009 Chinese steel capacity was about 700 million tons by 2013, this number had increased to 976 million tons. This also contributed to steel price continued downward spiral, ultimately dragged down steel prices and to be blamed for decreased profits.

Shake the desire, “Crashing” steel prices this year and heavy falls linked to the “Final straw” called “Environmental Protection”!

In 2013, the country “Talked about Hazy Colors (Pollution)”. As one of the worst air pollutant emissions, and inevitably became public opinion, and policy it became regulations in the steel industry, “Target of Public Criticism”. However,
hovering above most steel companies, profit and loss, environmental cost is unbearable. Steelmakers estimate that pollution control costs to produce one ton of steel is 100 Yuan. For 720 million tons of annual production by China’s iron and steel sector, “only Environmental Investments” will require 72 billion yuan.

Of course, the China iron and steel industry has over the years been looking for a way to breakout. For example, a few years ago, there was a heat wave of “Sea mines”–Iron ore Mills hoped to be able to resolve cost pressures, changing the strategy for the TOP three supplying mines. In 2013, the Iron ore futures come out and compared with Chinese steelmakers over iron ore pricing rights had added a big boost.

At the same time, an increasing number of mills joined in 2013 to a diversified work force. Mills diversified around the iron and steel industry, and others learn from the exemplars of WISCO to invest in Piggeries etc.., As dried up and businesses
far removed, some invested in wine brewing and selling Bottled water. However, even though it looked hopeful, but what kind of diversity will become the New Profit point of steel companies or “New bleeding”, only time will tell.

In retrospect, the steel industry still has hopes after “Falling of the Ledge”. Shrouded in haze over the land and being forced by the Government to tackle the problem of pollution, “Environmental Protection” is becoming a force quickly to be faced and if mills can adapt and clear, there will be opportunities. The Day that Steel capacity hits the bottom will be the day when the steel industry comes back to life. Clearly, a large number of steel companies will be inevitably closed or go
into bankrupt, but if you can survive, they will be “Kings”.

In 2014, the steel industry will not be represented by “Coming of Spring”.

Well below the 1994 levels at which steel prices were traded, they will face strict capacity restrictions.

Back to 2013 steel prices, at the end of February after the highs of the year, starting from March all the way down until the end of June hit lows for the year. Subsequently, in July-August, steel prices were higher, but then shocked. From late October until now, steel prices overall are in a State of Shock correction.

However, although steel price movements appear agitated, in fact this curve has been low. “At the end of October, the steel price index was below 100 for 11 weeks. “CISA Vice Chairman Zhang Changfu said.

What does this mean? Steel price index is calculated using 1994 prices as 100 BASIS, that is, the steel price one-fourth of the time of this year dropped below 1994 levels.

Steel prices “on low”, the key problem is the serious overcapacity in the steel industry in China. For many years, the growth of China’s steel production capacity has always been higher than the growth in demand. From the end of 2004, the capacity increased from 420 million tons to 970 million tons at the end of 2012, but domestic capacity utilization only reached 72%, far below the reasonable level.

Although capacity control has long been an industry-wide consensus, but the interests of separatists, allowed the steel industry over the years to embark on a “Governance Glut” of a vicious circle.

Mills are often ii the seat of the largest industrial companies, beyond the local total GDP, can contribute a lot of tax revenue and jobs. “GDP First” under pressure, local governments have a strong desire of the iron and steel industry to grow bigger and stronger.

Steel companies themselves find it difficult to restrain under the profit-driven impulse of self-expansion. In the eyes of many mill operators, this is a “Self Preservation” market, piled on the pursuit of competitive effects of scale that they believe “Bigger is Better”, as long as they can be better than anybody else, others bad fortune means life for them.

As a result, backward production capacity eliminated speculation, new project in full swing, as China’s iron and steel industry in the past few years moves to a large landscape.

The figures from the National Bureau of statistics show that 7 years, 2006 to 2012, cumulative reduction capacity of 76 million tons of crude steel, count capacity for the 404 million metric tons of crude steel. Some industry analysts, 2013 China’s crude steel production capacity will reach 1 billion tons, 200 million tons of excess capacity. Prior to an industry meeting, Chief Economist at the Agricultural Bank of China, Xiang Songzuo, even directed to current overcapacity in the steel industry as an “Indiscriminate Mass Destruction.”

For China’s iron and steel industry, capacity is a dangerous and urgent issue. On October 15, 2013, the State Council unveiled “Solve the overcapacity policy guidance” (hereinafter referred to as the opinion), said it would effectively push and dissolve iron and steel, cement, electrolytic aluminum, plate glass, ship industry overcapacity contradictions. Among them, as a large overcapacity in the steel industry, and will need in the next 5 years to compress a capacity of 80 million tons.

Judging from the distribution of iron and steel industry, in order to accomplish this goal, the key areas in Hebei as the first major steel-producing province in China, Hebei’s crude steel production has been ranked for 12 consecutive years as Top. At present, the province produced 180 million tons of crude steel, this capacity is more than one-fourth of the total national production.

In mid-September, Hebei province, issued “The air pollution prevention and control plan of action” for its implementation (hereinafter referred to as the program) is to be implemented by the end of 2017, the province’s steel production capacity will be cut by 60 million tons, that is currently one-third of Hebei province’s capacity to be eliminated. In addition, again by 2020 by 20 million tons.

Therefore, if such established production goals cuts can be completed by Hebei Province, then, there should a controlled and profitable steel industry.

In order to complete this historical policy of severe cuts, and also unprecedented determination in Hebei province, it will mean that the pressure of reduction of steel production capacity tasks are completed. Hebei Iron and Steel Industrial structure adjustment to the target for the performance appraisal system of Party Committees and Governments, provincial governments and the district municipality, Hebei Iron and Steel Group has a huge responsibility to strengthen the evaluation of this policy.

“The Central Government’s requirement along with public anticipation of Hebei Province, “The Governor of Hebei province, Zhang Qingwei said, in order to solve the overcapacity in the steel industry, the Government and the Market have a role to play in the success, both will have to digest some, some mergers, increase to export market and and a number of closures.

On the morning of November 24, at the sound of a huge explosion, Hebei province opened the prelude to address excess capacity. The same day, Chengde, Tangshan, Handan, concentrated dismantled 8 steelmakers and 16 converters for a total reduction iron-making capacity of 4.56 million tons and steel production capacity of 6.8 million tons.

Environmental Restriction have had the greatest impact on the Steel Enterprise leading to bearish performance.

If controlling the overcapacity had been the main melody of China’s Iron and Steel Industry, and the mills main tone for the environmental pollution in recent years, the momentum of would have eventually reached a climax in 2013.

Released by the State Department of environmental protection, “Air Quality in 74 major cities of the country,” 10 months prior to the monthly rankings and quarterly ranking showed that the country’s 10 most polluted cities, more than half came from Hebei, Tangshan, Handan, Shijiazhuang, Xingtai, Baoding and other cities are listed in a row.

Province of Hebei was in first as the largest steel producer, steel mills in front of this data is to blame. It was learned that the sinter and pellet plants are the main production processes in steel industry emissions, current for the link to the emissions standards are promulgated by the Environmental Protection Department in 2012, the iron sintering, pelletizing of industrial atmospheric pollutant emission standard, the standard for particulate matter, sulfur dioxide, nitrogen oxide emission caps were provided respectively. However, UBS Securities last August issued a research report by saying that, although the environmental standard has been promulgated for quite some time, but the current implementation is not satisfactory.

Insiders told reporters, also relevant to the practical difficulty of emission standards. Many mills equipped with environmentally friendly equipment, but the operations are difficult. Such as iron and steel sintering desulfurization technology complex, wet, semi-dry, dry multiple techniques coexist, and that there is no prevailing standards. In addition, blast furnace are required to install environmental equipment, do not install or Setup, but intermittent operation, but in the end emissions of polluting gases and dust in the air, and there is no way to check the statistics, this is convenient for many steel companies in implementing standards, shoddy work.

Steel companies themselves may have sorrows. January-October of this year, the average ton steel profit of 0.84 Yuan, which means that one ton of steel produced profits still can’t buy a bottle of mineral water. Under such profit levels, requiring steelmakers to increase environmental spending, they run out of money. Metallurgy industry planning research institute director Li Xin said that steel industry is going to be difficult the implementation of environmental policy. “Steel itself is not high corporate profits, and State subsidies do not have such precedent, likely won’t be in the future, taking part to strengthen environmental protection for enterprises is even more difficult. ”

But now, with growing public dissatisfaction with the Air Quality and Pollution, public opinion on heavy industrial pollution, given that steel has been unable to face up to the environmental issues, “They can’t hide anylonger”.

For the extended future, environmental management and compressed capacity will become the top priority for the steel industry. It need to be mentioned that, both of these events in the steel industry, a considerable extent go hand in hand. Significant cut in steel production capacity will help control polluting emissions, and compared to other means of resolving capacity, environmental standards will “Stick It To” the steel mills to be more fair and efficient.

However, it can be predicted that for the near future, and with more stringent environmental policies to be implemented, insiders at a Press Interview believe that facing a lot of stress from the steel industry in environmental protection, especially with the inevitable increase the operating costs of steel enterprises, the immediate changes should not be too radical in the advancement of the environmental protection and will give the industry a grace period.

In addition, the industry is also calling for the implementation of environmental protection policies to be “fair”. Some mills have done excessive environmental protection measures, but its profits compared to those who did not pay any attention to environmental protection such as the Medium Sized steel mills or Small steel mills, is a blow to the Environmental Friendly steel mills. Thus, the Executive power of the local governments is to implement Non “Light-Controlled Darkness” to ensure that the system is sound, from top to bottom.

Super low margins carry a 3 trillion dollar “steel kiss of death” debt.

Cisa’s latest data showed that October key steel enterprises realized profits of 1.716 billion yuan, dropped sharply to 47.46%, reversing the continuous March of earlier gains. Among them, 86 mills in 18 losses, losses had risen to 20.93%. Despite the continuous growth in July-September profits, 86 key steel enterprises accumulated profit of 11.3 billion yuan in the first three quarters, but their average net sales rates for 0.41%, still at the lowest levels in the industry–a figure even once in the first half of the year fell to 0.13%. Industry talk is that now selling cabbage is better than steel.

Even as the Steel industry leaders listed publically their steel companies, others had nowhere to go. Public earnings reports show that 11 of the 33 listed steel companies reported losses in the first three quarter. Among them, Chongqing iron and steel lost 1.699 billion yuan, up 45.24%; Shougang shares a loss of 390 million Yuan, up 26.86%. In addition, Anyang iron and steel losses of 370 million Yuan, MA steel 329 million Yuan, Valin 274.9 million Yuan, Shandong iron and steel a loss of 128 million Yuan.

In addition, for many steel mills high financial risk is a dangerous “time bomb”. CISA statistics, by the end of June, 86 key steel enterprises nationwide had total liabilities amounting to 3.02 trillion yuan, which amounted to 1.3 trillion yuan in Bank lending. 86 key steel enterprises averaged 34.88 billion in debt each!

In addition, the first half of this year, total assets debt ratio has reached 69.47% in the steel industry. Although industry attribute determines the ratio of debts to assets in the steel industry as a whole is high, but even so, when the ratio of debts to assets is more than 80%, alarms sound. In the key steel enterprises, which has 39 Mills ratio of debts to assets of more than 80% in the first half of this year, 15 Mills over 90%, 5 steel enterprises more than 100%. According to industry sources, key steel enterprises in China asset-liability ratio number is changed to 69.63% in late September, reached a record high in nearly 10 years.

In this regard, the China metallurgical industry planning and Research Institute Director Li Xin had even said that perhaps in less than a year, first falling dominoes in the steel industry, not overcapacity, but funding strand breaks.
It is worth mentioning that, performance of the iron and steel industry can be called the Les Miserables Theatre, in addition to leading steel mills, steel trading business also played a role which was deplorable.

In the steel industry we have such a Saying: When Mills eat meat, the Steel Traders get the bones, When the Mills gnaw the bones, Steel Traders drink the soup, When Mills drink the soup, Steel Traders can barely breath, When Mills can barely breath,Steel Traders are spitting blood.

At once the most prosperous era of steel trading business in Shanghai and surrounding areas were once grown to more than 6,000 companies employed up to 60,000. But now, these steel trading firms dropped by almost half, barely surviving and also struggling.

For many years, although China is the world’s largest iron ore consumer, iron ore pricing power still lies in the hands of a few oligarchs. Higher iron ore prices, China’s steel industry will remain as “The 3 mines to Purchase” argument. Even though steel prices dropped sharply in recent years, iron ore prices remained at high levels, decreases of prices in steel price decline was much larger than Iron Ore mines.

WISCO, after the 2008 global financial crisis, they went International on Iron ore and by 2012 became the world’s largest iron ore steel manufacturers owners, and expects its 2013 ore annual output of 15 million ton on overseas operations and by 2016 can achieve comprehensive iron ore self-sufficiency.

Minmetals Vice President Li Fuli expects that Chinese steelmakers which have interests overseas in iron ore mines will reach an output in 2015 of 150 million tons, which is expected to reverse the situation of iron ore prices are dominated by foreign mining giants.

At present, 80% of the international iron ores “Big three” production is based on pricing Platts index and Platts index is based on the big three’s bid prices. As the Platts index is a small sample size, the presentation does not open, the big three tendering process is not open, so its price transparency suffers from market disputes.

But in any case, whether it is a black cat or a white cat that catches the mice, it is still a good cat. For Steel Mills, in the face of growing and difficult predictions at the moment and how long the reshuffling will take, and only trying to survive to be able to say in the end, “The last ones left standing are Kings”.