China’s steel mills are refusing to rubber stamp price reductions hammered out by iron ore suppliers and other Asian buyers.
Zhang Boling and Yan Jiangning 11 June 2009
(Caijing Magazine) One week after Japanese steel mills and mining giant Rio Tinto struck a surprise agreement for 2009 iron ore prices, the secretary-general of the China Iron and Steel Association (CISA) assured the world that his members would not follow suit – at least not yet.
“We will continue to negotiate” with ore suppliers, declared Shan Shanghua. CISA wants mines to slash prices beyond the 33 percent cut won by the Japanese.
But China is going alone. After signing with Japanese mills, ore suppliers convinced Korean and Taiwanese steelmakers to agree to price reductions of 33 percent price for ore fines and 45 percent for lump ore.
China is relying on its bargaining power as the world’s largest iron ore importer. Through CISA, its steel mills have rejected price-cut offers similar to those accepted by its Asian rivals and have continued talks with the suppliers far past the traditional spring deadline for annual agreements.
“Most Chinese steel mills said they will continue losing money if they accept the (same) prices under current circumstances,” Shan told Caijing during a June 1 interview. “China has to reject the prices.”
CISA’s tough stance contrasts sharply with previous negotiating positions held by Baosteel, which for the previous five years represented China’s steel factories in price talks with ore suppliers. Baosteel’s negotiators were blamed for steadily rising prices, setting the stage for CISA’s emergence as lead negotiator.
CISA is insisting suppliers bring ore prices back to 2007 levels, which would cut Brazilian mine prices at least 40 percent and Australian ore prices at least 45 percent.
It’s hard to predict whether CISA can reach its goal. Australian ore suppliers have never given agreed to different, fixed prices for steel mills in the same market. However, the growing influence of the commodities spot market has weakened the effectiveness of the annual negotiations for fixed prices.
Flexibility Trend
Indeed, according to Australian supplier BHP Billiton CEO Marius Kloppers, the traditional long-term pricing mechanism has already broken down.
In a May 27 interview with Caijing, Kloppers said he expects the industry to combine spot market pricing and fixed prices based on negotiations. Small ore buyers favour fluctuating prices, while large steel mills want stable prices.
BHP is happy with either price mechanism, Kloppers said. In the first quarter 2009, 21 percent of BHP’s iron ore was sold on the spot market. Now Kloppers thinks all suppliers, including Vale and Rio Tinto, are increasing their percentages of ore sold on the spot market, and that more flexible pricing is coming of age.
Nevertheless, CISA does not plan to abandon current price negotiations. More talks are planned, Shan said.
China still has some bargaining chips, although big and small steel firms may be divided by separate interests at the negotiating table.
Rio Tinto and Japan’s Nippon Steel said May 26 they had struck a deal for the price of Hamersley iron ore effective April 1. Under the agreement, the prices for Pilbara Blend Fines, Yandicoogina Fines and Pilbara Blend Lump will fall by 33 percent, 33 percent and 45 percent, respectively, from 2008 levels.
The deal stunned some Chinese steel mills.
“We had sensed that the (Rio Tinto) price cuts would not meet the requirements of Chinese companies,” Shan said. “Therefore, we convened a meeting of the steel mills to hear their opinions.”
Many Chinese mills have stated that a 33 percent cut would be unacceptable and demanded further negotiations.
A high-level executive at Baosteel, China’s largest ore importer, told Caijng most of the company’s ore is currently bought according to fixed prices. A 33 percent cut would eliminate any advantage that fixed prices have over spot prices, the executive said.
An international trade manager at Chinese steelmaker Angang Group said his company would find it hard to break even if it accepted a 33 percent cut. Likewise, an executive with Baosteel’s investment branch said his firm would be forced to reduce production unless prices decline more than 33 percent.
Steelmaker Wugang Group also opposes the offer. “Wugang specializes in steel plates, and current production capacity is higher than market demand,” said a manager in charge of Wugang’s international trade. “The falling price of steel plates necessitates cutting the price of iron ore by a larger percentage.”
The manager said the price cut for Wugang should be more than 40 percent.
Tian Zhiping, deputy general manager of Hebei Steel and Iron Group, said if prices fall to 2007 levels, most Chinese steel mills would turn a profit. But earnings are already in jeopardy.
According to the data released May 31 by the National Bureau of Statistics, Chinese steel mill profits fell 97.5 percent year-on-year in April. CISA’s survey of 72 large and medium-sized steel enterprises found 29 lost money in the first four months of the year. Combined losses topped 5.17 billion yuan, including a loss of 1.87 billion yuan in April alone.
“Under such circumstances, it is impossible for a raw material supplier to earn a high margin when steel mills suffer loss,” Shan said, adding that CISA would formally reject the Rio Tinto price after CISA members reach a consensus.
Why can a Japanese enterprise agree to a 33 percent cut? Zeng Jiesheng, an analyst for the Web site mysteel.com, said all mills in Japan depend on fixed prices for ore; they don’t shop on the spot market.
“The iron ore supply mechanism for Japanese steel mills was the decisive factor that caused Japan to rush and reach an iron ore supply deal in 2009,” Zeng said. “They are eager to fix a price to stabilize their annual budgets.”
Xu Xiangchun, a steel industry analyst, told Caijing that Japanese and Korean steel mill products have higher added value than those made in China, which helps them accept a cut of only 33 percent.
“While Chinese enterprises can earn only US$ 30 per ton, Japanese steel mills can earn US$ 100 a ton,” Xu said.
Besides, annual pricing makes it easier for Japanese steel mills to control costs. “The annual pricing mechanism allows Japanese enterprises to calculate acceptable costs for the whole year,” Xu said.
Before reaching an agreement with Rio Tinto, Nippon struck a deal to cut 2009 steel prices for automaker Toyota by US$ 150 per ton, or 10 percent, from last year. The price set by Nippon and Toyota is an important benchmark for the Japanese market.
“The 33 percent cost reduction and the smaller cut in product price will still keep Nippon in the black,” Xu said.
Also, Japanese steel mills such as Nippon have an edge over Chinese counterparts because they pay less for coke.
In late March, Nippon reached a coke price agreement with a BHP-Mitsubishi Steel joint venture. Prices for hard coking coal, coal injection and semi-hard coking coal will fall 57 percent, 63 percent and 67 percent, respectively, from the level in 2008. Thus, Nippon’s coke costs will be 900 yuan per ton this year, compared with 1,100 yuan paid by steel mills in China.
Not to be overlooked is the fact that Japanese steel enterprises hold equity in foreign mines, which means their ore costs can be offset by dividends. Public information shows Japanese mills have direct or indirect investments in mines in Australia, Chile and India, as well as Vale in Brazil and the Canadian miners Robe River and Iron Ore Co. Japanese companies are important shareholders in eight of 24 major mines in Australia, and Japanese companies have invested in 16 other mines.
Although Chinese steel enterprises have been hit by sluggish demand since the second half of last year, the government’s 4 trillion yuan stimulus package led to increased steel production. That increase, coupled with declining interest in iron ore from Chinese mines, has benefited the major international ore suppliers.
According to CISA data, crude steel output rose 0.6 percent year-on-year to 170 million tons in the first four months 2009. Meanwhile, World Steel Association statistics show overall steel output fell 22.7 percent to 354 million tons in 66 major steel producing countries including China.
The stimulus-backed production boom pushed ore imports higher. In the first fourth months of 2009, single-month import volumes set new records. Chinese customs data showed January-April imports reached 188 million tons – up 22.9 percent year-on-year. In April alone, imports reached 57 million tons.
“The booming Chinese market relieved some of the financial pressure bearing down on the three iron ore tycoons,” Xu said, referring to Rio Tinto, BHP and Vale.
Now, major suppliers are no longer eager to negotiate prices. “They can wait,” Xu said.
China’s rising import volume also led to increases in seaborne transportation prices. By May 26, shipping costs from Brazil to China had climbed to US$ 31.57 per ton from US$ 15 per ton at the beginning of April. Meanwhile, prices for Australia-to-China cargo rose to US$ 13.90 per ton from US$ 6.
Rising transportation costs pushed up spot prices for iron ore. The CIF (cost, insurance and freight) price for iron ore imported from India has been rising for weeks, recently hitting 600 yuan per ton.
“Rising seaborne transportation fees will further boost the CIF price of iron ore, which will narrow the gap between or even out spot and fixed prices,” said Hu Kai, an iron ore analyst.
“Increases in import volumes and slight increases in spot prices are negotiating chips for iron ore companies,” Shan said. Large suppliers are now refusing to reduce prices further, he said, using the excuse that demand for iron ore is bottoming out.
However, Henry Liu, a Macquarie analyst, told Caijing that total domestic demand for iron ore has changed little. Some domestic companies have turned to importing ore rather than buying from Chinese mines.
Many small and medium-sized enterprises used to buy domestic ore, which is less expensive than imports bought on the spot market, Liu said. Domestic ore accounted for up to 50 percent of total consumption in China over the past few years.
But Liu said, “Domestic iron ore prices have surpassed those of imports by 50 to 100 yuan per ton since 2009. Small and medium-sized steel mills will turn to foreign iron ores, for sure.”
In Hebei Province, for example, most small and medium-sized steel mills now import ore. An executive at a medium-sized mill in Tangshan told Caijing foreign ore accounted for 70 percent of supplies in January. But now, the company relies completely on imports.
“It’s cheaper to buy foreign ore on the spot market,” the executive said.
Michael Zhu, president of Vale’s China unit, is a tough negotiator who once said China can choose either fixed pricing or the spot market, but not both.
Now, Zhu said Vale respects China’s decision to use the spot market to reduce the influence of long-term pricing.
At the same time, a CISA source said the trade group “signalled clearly at the beginning of the negotiations that it will keep the long-term pricing mechanism.”
An executive at a large state-owned ore trader told Caijing suppliers usually promise buyers that they will not negotiate lower prices with competitors. If Australian companies cut a deal with the Chinese that’s better than the negotiated prices with Japan and others, their reputations will be tarnished.
Nevertheless, China holds the position as the world’s largest ore consumer. “China will enjoy the lowest price as it boasts of the largest market.” Shan said. “Without China, the three largest iron ore suppliers would lose half their sea-transported sales volume.”
Xu predicted four possible outcomes for the ongoing price talks: the two sides could agree to larger price cuts; China could accept the Japan-Rio Tinto prices; China could accept the prices but hold the right to adjust future prices if the gap between spot and fixed prices widen later in 2009; or China could suspend the fixed price mechanism and turn to the spot market.
“China can try,” said Zhou Xizeng, chief steel industry analyst for CITIC Securities. “But chances for a cut of more than 40 percent are slim.”
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Iron Price Wrestling Peaks for Chinese Steel
China’s steel mills are refusing to rubber stamp price reductions hammered out by iron ore suppliers and other Asian buyers.
Zhang Boling and Yan Jiangning
11 June 2009
(Caijing Magazine) One week after Japanese steel mills and mining giant Rio Tinto struck a surprise agreement for 2009 iron ore prices, the secretary-general of the China Iron and Steel Association (CISA) assured the world that his members would not follow suit – at least not yet.
“We will continue to negotiate” with ore suppliers, declared Shan Shanghua. CISA wants mines to slash prices beyond the 33 percent cut won by the Japanese.
But China is going alone. After signing with Japanese mills, ore suppliers convinced Korean and Taiwanese steelmakers to agree to price reductions of 33 percent price for ore fines and 45 percent for lump ore.
China is relying on its bargaining power as the world’s largest iron ore importer. Through CISA, its steel mills have rejected price-cut offers similar to those accepted by its Asian rivals and have continued talks with the suppliers far past the traditional spring deadline for annual agreements.
“Most Chinese steel mills said they will continue losing money if they accept the (same) prices under current circumstances,” Shan told Caijing during a June 1 interview. “China has to reject the prices.”
CISA’s tough stance contrasts sharply with previous negotiating positions held by Baosteel, which for the previous five years represented China’s steel factories in price talks with ore suppliers. Baosteel’s negotiators were blamed for steadily rising prices, setting the stage for CISA’s emergence as lead negotiator.
CISA is insisting suppliers bring ore prices back to 2007 levels, which would cut Brazilian mine prices at least 40 percent and Australian ore prices at least 45 percent.
It’s hard to predict whether CISA can reach its goal.
Australian ore suppliers have never given agreed to different, fixed prices for steel mills in the same market. However, the growing influence of the commodities spot market has weakened the effectiveness of the annual negotiations for fixed prices.
Flexibility Trend
Indeed, according to Australian supplier BHP Billiton CEO Marius Kloppers, the traditional long-term pricing mechanism has already broken down.
In a May 27 interview with Caijing, Kloppers said he expects the industry to combine spot market pricing and fixed prices based on negotiations. Small ore buyers favour fluctuating prices, while large steel mills want stable prices.
BHP is happy with either price mechanism, Kloppers said. In the first quarter 2009, 21 percent of BHP’s iron ore was sold on the spot market. Now Kloppers thinks all suppliers, including Vale and Rio Tinto, are increasing their percentages of ore sold on the spot market, and that more flexible pricing is coming of age.
Nevertheless, CISA does not plan to abandon current price negotiations. More talks are planned, Shan said.
China still has some bargaining chips, although big and small steel firms may be divided by separate interests at the negotiating table.
Sticker Shock
Rio Tinto and Japan’s Nippon Steel said May 26 they had struck a deal for the price of Hamersley iron ore effective April 1. Under the agreement, the prices for Pilbara Blend Fines, Yandicoogina Fines and Pilbara Blend Lump will fall by 33 percent, 33 percent and 45 percent, respectively, from 2008 levels.
The deal stunned some Chinese steel mills.
“We had sensed that the (Rio Tinto) price cuts would not meet the requirements of Chinese companies,” Shan said. “Therefore, we convened a meeting of the steel mills to hear their opinions.”
Many Chinese mills have stated that a 33 percent cut would be unacceptable and demanded further negotiations.
A high-level executive at Baosteel, China’s largest ore importer, told Caijng most of the company’s ore is currently bought according to fixed prices. A 33 percent cut would eliminate any advantage that fixed prices have over spot prices, the executive said.
An international trade manager at Chinese steelmaker Angang Group said his company would find it hard to break even if it accepted a 33 percent cut. Likewise, an executive with Baosteel’s investment branch said his firm would be forced to reduce production unless prices decline more than 33 percent.
Steelmaker Wugang Group also opposes the offer. “Wugang specializes in steel plates, and current production capacity is higher than market demand,” said a manager in charge of Wugang’s international trade. “The falling price of steel plates necessitates cutting the price of iron ore by a larger percentage.”
The manager said the price cut for Wugang should be more than 40 percent.
Tian Zhiping, deputy general manager of Hebei Steel and Iron Group, said if prices fall to 2007 levels, most Chinese steel mills would turn a profit. But earnings are already in jeopardy.
According to the data released May 31 by the National Bureau of Statistics, Chinese steel mill profits fell 97.5 percent year-on-year in April. CISA’s survey of 72 large and medium-sized steel enterprises found 29 lost money in the first four months of the year. Combined losses topped 5.17 billion yuan, including a loss of 1.87 billion yuan in April alone.
“Under such circumstances, it is impossible for a raw material supplier to earn a high margin when steel mills suffer loss,” Shan said, adding that CISA would formally reject the Rio Tinto price after CISA members reach a consensus.
Japan’s Advantage
Why can a Japanese enterprise agree to a 33 percent cut? Zeng Jiesheng, an analyst for the Web site mysteel.com, said all mills in Japan depend on fixed prices for ore; they don’t shop on the spot market.
“The iron ore supply mechanism for Japanese steel mills was the decisive factor that caused Japan to rush and reach an iron ore supply deal in 2009,” Zeng said. “They are eager to fix a price to stabilize their annual budgets.”
Xu Xiangchun, a steel industry analyst, told Caijing that Japanese and Korean steel mill products have higher added value than those made in China, which helps them accept a cut of only 33 percent.
“While Chinese enterprises can earn only US$ 30 per ton, Japanese steel mills can earn US$ 100 a ton,” Xu said.
Besides, annual pricing makes it easier for Japanese steel mills to control costs. “The annual pricing mechanism allows Japanese enterprises to calculate acceptable costs for the whole year,” Xu said.
Before reaching an agreement with Rio Tinto, Nippon struck a deal to cut 2009 steel prices for automaker Toyota by US$ 150 per ton, or 10 percent, from last year. The price set by Nippon and Toyota is an important benchmark for the Japanese market.
“The 33 percent cost reduction and the smaller cut in product price will still keep Nippon in the black,” Xu said.
Also, Japanese steel mills such as Nippon have an edge over Chinese counterparts because they pay less for coke.
In late March, Nippon reached a coke price agreement with a BHP-Mitsubishi Steel joint venture. Prices for hard coking coal, coal injection and semi-hard coking coal will fall 57 percent, 63 percent and 67 percent, respectively, from the level in 2008. Thus, Nippon’s coke costs will be 900 yuan per ton this year, compared with 1,100 yuan paid by steel mills in China.
Not to be overlooked is the fact that Japanese steel enterprises hold equity in foreign mines, which means their ore costs can be offset by dividends. Public information shows Japanese mills have direct or indirect investments in mines in Australia, Chile and India, as well as Vale in Brazil and the Canadian miners Robe River and Iron Ore Co. Japanese companies are important shareholders in eight of 24 major mines in Australia, and Japanese companies have invested in 16 other mines.
Suppliers Can Wait
Although Chinese steel enterprises have been hit by sluggish demand since the second half of last year, the government’s 4 trillion yuan stimulus package led to increased steel production. That increase, coupled with declining interest in iron ore from Chinese mines, has benefited the major international ore suppliers.
According to CISA data, crude steel output rose 0.6 percent year-on-year to 170 million tons in the first four months 2009. Meanwhile, World Steel Association statistics show overall steel output fell 22.7 percent to 354 million tons in 66 major steel producing countries including China.
The stimulus-backed production boom pushed ore imports higher. In the first fourth months of 2009, single-month import volumes set new records. Chinese customs data showed January-April imports reached 188 million tons – up 22.9 percent year-on-year. In April alone, imports reached 57 million tons.
“The booming Chinese market relieved some of the financial pressure bearing down on the three iron ore tycoons,” Xu said, referring to Rio Tinto, BHP and Vale.
Now, major suppliers are no longer eager to negotiate prices. “They can wait,” Xu said.
China’s rising import volume also led to increases in seaborne transportation prices. By May 26, shipping costs from Brazil to China had climbed to US$ 31.57 per ton from US$ 15 per ton at the beginning of April. Meanwhile, prices for Australia-to-China cargo rose to US$ 13.90 per ton from US$ 6.
Rising transportation costs pushed up spot prices for iron ore. The CIF (cost, insurance and freight) price for iron ore imported from India has been rising for weeks, recently hitting 600 yuan per ton.
“Rising seaborne transportation fees will further boost the CIF price of iron ore, which will narrow the gap between or even out spot and fixed prices,” said Hu Kai, an iron ore analyst.
“Increases in import volumes and slight increases in spot prices are negotiating chips for iron ore companies,” Shan said. Large suppliers are now refusing to reduce prices further, he said, using the excuse that demand for iron ore is bottoming out.
However, Henry Liu, a Macquarie analyst, told Caijing that total domestic demand for iron ore has changed little. Some domestic companies have turned to importing ore rather than buying from Chinese mines.
Many small and medium-sized enterprises used to buy domestic ore, which is less expensive than imports bought on the spot market, Liu said. Domestic ore accounted for up to 50 percent of total consumption in China over the past few years.
But Liu said, “Domestic iron ore prices have surpassed those of imports by 50 to 100 yuan per ton since 2009. Small and medium-sized steel mills will turn to foreign iron ores, for sure.”
In Hebei Province, for example, most small and medium-sized steel mills now import ore. An executive at a medium-sized mill in Tangshan told Caijing foreign ore accounted for 70 percent of supplies in January. But now, the company relies completely on imports.
“It’s cheaper to buy foreign ore on the spot market,” the executive said.
Hard Choices
Michael Zhu, president of Vale’s China unit, is a tough negotiator who once said China can choose either fixed pricing or the spot market, but not both.
Now, Zhu said Vale respects China’s decision to use the spot market to reduce the influence of long-term pricing.
At the same time, a CISA source said the trade group “signalled clearly at the beginning of the negotiations that it will keep the long-term pricing mechanism.”
An executive at a large state-owned ore trader told Caijing suppliers usually promise buyers that they will not negotiate lower prices with competitors. If Australian companies cut a deal with the Chinese that’s better than the negotiated prices with Japan and others, their reputations will be tarnished.
Nevertheless, China holds the position as the world’s largest ore consumer. “China will enjoy the lowest price as it boasts of the largest market.” Shan said. “Without China, the three largest iron ore suppliers would lose half their sea-transported sales volume.”
Xu predicted four possible outcomes for the ongoing price talks: the two sides could agree to larger price cuts; China could accept the Japan-Rio Tinto prices; China could accept the prices but hold the right to adjust future prices if the gap between spot and fixed prices widen later in 2009; or China could suspend the fixed price mechanism and turn to the spot market.
“China can try,” said Zhou Xizeng, chief steel industry analyst for CITIC Securities. “But chances for a cut of more than 40 percent are slim.”
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