Energy & Resources

Forging ahead

Government approves merger to create China’s largest steel company

Forging ahead

A process not without sparks

Currency appreciation and a fall in houses prices are two of the most remarked upon developments occupying China watchers. But if they come to fruition, the country’s steel sector will face challenges from all angles: domestic demand will crash as the housing market slows, while a rising renminbi will make exports less attractive overseas.

“I think the difficulties, the challenges, will be huge,” Xu Lejiang, the chairman of Baosteel, one of China’s largest steel makers, told reporters. And recent developments suggest that the government is responding to the challenge by creating companies of scale, the kind of firms that are capable of weathering the storm.

Last week, the government approved the integration of Pangang Steel into Anshan Iron and Steel Group. The deal will give Anshan, located in the northeastern province of Liaoning, a footprint in the southwest, Pangang’s base.

“Despite unparalleled mining resources, [Pangang] remains cramped in its development efforts,” an industry source told 21CN Business Herald. Pangang is rich in steel’s key input, iron ore, but it lacks capital and technical support. “Backed by Anshan, Pangang will achieve more in the southwest.“

At the same time, Anshan is working to complete its acquisition of Benxi Steel, another Liaoning-based company. Meanwhile, Benxi Steel has also agreed to purchase Beitai Steel, a company that will be eventually be absorbed into the Anshan Group. In the end, the beefed-up Anshan will be able to make 56 million tonnes of crude steel annually. That’s around 10% of China’s total output, making it China’s largest steel mill.

The approval of the Anshan-Pangang deal shows that the government is working towards its goal of consolidating the steel industry. The plan is the sector will be dominated by a handful of companies. Big companies, so the theory goes, have greater buying power – making them better able to negotiate with iron ore miners like BHP-Billiton (see WiC59).

Lakshmi Mittal, the boss of ArcelorMittal, argues that China stands alone as the last major market to concentrate its steel industry to a few companies. “China wants to have the top 10 companies producing 50% of China’s volume. I hope that will happen soon because it will create a system for the steel industry,” he told the UK’s Sunday Telegraph in April. He’s hoping that once the consolidation process is complete, China will relax its 35% cap on foreign ownership of steel companies.

The Anshan-Pangang deal is expected to be finalised relatively quickly, since both companies are owned directly by the central government. That’s a stark contrast to the Benxi acquisition, which has been in the works since 2005.

The problem: Benxi is owned by a local government. Owning a steel mill is especially lucrative for local governments, which benefit not only from the tax revenue mills provide, but also from the employment that they bring to the region. As such, officials are often highly reluctant to cede control of their steel companies, and do whatever they can to slow the process.

But as issues relating to overcapacity become increasingly serious, smaller companies are facing an uncertain future. The stimulus-driven construction boom is expected to lose speed as fiscal policy tightens and iron ore get more expensive. Many of the small-scale, privately-owned steel mills that expanded in recent years will feel pain.

If a substantial number of these companies go under, the longer term effects on the industry are expected to be largely positive. The market will no longer be flooded with steel, which will boost margins. Eradicating smaller, pollution-heavy plants may help government plans to build energy-efficient mills producing high-end steel. If the Anshan-Pangang deal is successful, more steel giants could soon be on the way.

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