SMU Steel Summit Speaker - Chuck Bradford "Discussion Points"

As we all know, China is a very large country with more than 1.3 billion people, with infrastructure issues. This makes it difficult to gather statistics of all kinds even with the best of intentions. Until a few years ago, the process for putting national statistics together was built around getting data from each of the 29 provinces, two semi-independent cities and two special administrative regions. At some point, it became obvious to the authorities that some of the province data was suspect (in one province, the six major producers had greater output than the province as a whole). Thus the system was changed to collecting the data from the individual entities, possibly 700,000 in total. The process is somewhat akin to herding cats.

Our company by itself gets data each month from about 145 steelmakers and we know that our data is not complete, but neither is what we get from Washington, which often is revised as much as three years after the fact.

During the last eighteen months, Chinese steel, pig iron and steel product data has been revised upward for the year earlier period as additional data was received. Thus the growth rate in the most recent period was sharply reduced, which had the effect of making economic growth appear to slow. For example, crude steel production in June 2014 was reported to have been 69.3 million tonnes, up 4.5% from to the prior year. However, if the original figure announced for 2013 was used in the calculation, the growth rate would have been 7.2%. We clearly don’t know if there are similar difficulties with other materials and data since we don’t have access to all the data.

Raw Materials and Steel Company Profitability

This becomes quite important when the supply-demand balances for raw materials are concerned since steel company profitability and steel stock values usually increase when raw material prices are strong. There is a very high (0.9) correlation between higher scrap/iron ore prices with steel company profitability. We find it particularly interesting when some analysts have negative views on steel raw materials, but positive rating on steel equities. Clearly there can be difficulties of excess mining capacity (we expect a 40+% increase in iron ore output during the next four years, well in excess of the possibly 2-4% increase in steel demand growth).

The steel industry has a history of overbuilding both in raw materials, steelmaking/rolling and downstream processing, especially pipe production.

We expect Chinese crude steel output in 2014 to possibly be as much as 825 million metric tons (our official forecast was 810 million tonnes, (a 4% increase compared to the 779 million tonnes produced in 2013), but the output during the first half of 2014 was at a 824 million ton rate and June annualized was 830.

Issues U.S. Steelmakers Face

The steel industry has a history of overbuilding both in raw materials, steelmaking/rolling and downstream processing, especially pipe production. Part of the problem involves poor quality domestic data that is produced by the AISI, partially obtained from the government. They apparently try to get is right, but a lot of producers won’t supply data. Since the days of President Nixon, providing data to the various governmental agencies were no longer required by law.

Our major concern as far as the domestic (U.S.) steelmakers is concerned is the huge amount of new pipe (OCTG) making capacity that has been built or is under construction, This totals 4 million tons, a more than 50% increase in available supply. Thus even if all the steel pipe imports were to be blocked by the recent trade cases, the domestic producers are likely to face much higher skelp costs and only marginally higher pipe prices, at best. The approximate 10% anti-dumping duties against the Korean pipe makers are not enough, in our opinion, to stop their exports to the U.S.

Another big problem that concerns us is the age of the steelmaker’s work forces, which have a lot of personnel nearing or exceeding retirement age. Shortages of top quality management is also an issue.

We are especially concerned about the new advanced high strength steel products that have been developed for the automakers as they work to meet new automobile fuel efficiency standards. We believe that too much has been made of aluminum usage for the body in white, but the U.S. steelmakers may be their own worst enemy. The new steel weighs 20% less than the steels they are replacing, which means 20% less steel will be sold to the automakers. The question is whether or not the steelmakers will be able to offset the lost revenues by convincing the automakers to pay for value and not just tonnage. They have never been able to do this in the past.

Chuck Bradford, CFA, Partner, Metals Industry Advisory Group, LLC

Chuck Bradford has been a metals analyst for more than 49 years. Formerly partner and metals analyst with Affiliated Research Group.  Previously (and again), he was the President of Bradford Research, Inc. which marketed his research through Soleil Securities. He was the senior steel analyst at Smith Barney and prior to that with UBS Securities, a subsidiary of the Union Bank of Switzerland (6 years). He had been the senior metals analyst with Merrill Lynch for 14 years. Chuck and his partner, Jack Heffernan, have also formed a consulting group bringing together operating experience (Jack is a Metallurgical Engineer with more than 50 years experience) to aid operating companies with expansion and quality/profit enhancing opportunities. These talents also offer profit improvement opportunities to private equity investors with positions in metals companies. This firm has major strength in DRI/HBI.

Chuck is also president of Bradford Research, Inc., an international investment consulting firm, with a focus on hedge funds and other large investors in public securities. Chuck has been placed on the Institutional Investor magazine “All American” Research Team 26 times, covering (at various times) nonferrous metals, coal and steel. Chuck was named the #1 independent metals analyst for 2007 and #2 in 2005 by the Institutional Investor Magazine. On six separate occasions he was ranked as the #1 steel analyst on Wall Street.

He has also represented the United States at various United Nations metals conferences and has been an advisor to various companies (both domestic and foreign) and U.S. government agencies including the Office of Technology Assessment of the U.S. Congress, the Pension Benefit Guarantee Corp. and in March 2003 was asked to testify before the House Ways and Means Committee on steel trade. In 1985, Chuck gave the keynote speech in Beijing at the HSLA Steel conference, the first international conference ever held in China. He has an MBA in Finance from the Wharton Graduate Division of the University of Pennsylvania and a BS degree from the University of North Carolina.

SMU Note: We hope you will join us in Atlanta where you will have the opportunity to not only hear Mr. Bradford but to meet and speak with him and many of our other speakers during the conference.