As we noted earlier this week, the Cleveland-Cliffs acquisition of ArcelorMittal USA came at a price tag of $1.4 billion.
This comes after Cleveland-Cliffs acquired AK Steelearlier this year (among other things, AK Steel is the lone remaining U.S. producer of electrical steel).
The deal includes nearly all of the ArcelorMittal subsidiary’s North American facilities (with a few exceptions, as we will elaborate on shortly). Cleveland-Cliffs expects to close the deal in Q4 2020.
Since the announcement, Cleveland-Cliffs shares are up over 12%.
So, what does the merger mean for the North American metals scene and relevant sectors, like automotive?
Initial reaction to Cleveland-Cliffs acquisition of ArcelorMittal USA
Overall, this seems to be a solid move for everyone involved.
ArcelorMittal offloads old assets that have a high cost structure for producing steel while still maintaining a mill with one of the lowest cost structures in the country.
On the other hand, Cliffs gains a large auto book of business with good margins. Furthermore, the steel market will see old, expensive capacity taken out. As such, that will make room for new capacity scheduled to come online in the near future.
Strengthening auto position
As noted previously, the acquisition makes Cleveland-Cliffs the largest flat-rolled steel producer in North America. The deal will also make Cleveland-Cliffs — the oldest iron ore mining company in the country — the largest iron ore pellet producer in North America, with 28 million long tons of capacity.
The deal further strengthens the company’s position in the automotive sector. The company likely controls 60%-65% of exposed auto sheet supply (think the steel used on the outside of a car).
These prices represent MetalMiner’s latest long-term outlook for the base metal complex (aluminum, copper, nickel, lead, zinc and tin), along with the four forms of flat rolled steel (HRC, CRC, HDG and plate).
Editor’s Note: MetalMiner has recently partnered with Raistone Capital to help manufacturing organizations claim and quickly obtain access to cash refunds for Section 301 tariffs paid on products that are on the exclusion list. Tariff refunds help buying organizations add actual dollars to their bottom line.
Tariff exclusions are published in the Federal Register (there is also a search portal). You can also search through the lists with your HTS code:
In the last two years alone, one site lists 10 major tailings dam failures alone; environmental damage from tailing ponds is only the thin end of the wedge when it comes to the wider remit of potential environmental consequences arising from mineral extraction.
Yet not one of those events listed was in China, despite half the world’s metals being refined and produced there, and a sizable proportion of the world’s mines being in China.
Vertical integration may play well in classic corporate HBR (Harvard Business Review) circles, but steel industry observers may have a hard time envisioning the synergies Cliffs outlined in its merger announcement and presentation Dec. 3, creating a best-in-class, EBITDA-maximizing combined Cliffs-AK Steel entity!
To us, the best rationale for the deal appears on slide 14, outlining AK Steel’s short-term debt position:
If you buy the notion that Cliffs can swallow AK and convert that company’s debts to its own and save on interest expense, then score one for the deal!
So why would Cliffs buy AK Steel?
A compelling reason appears on slide 11:
Despite AK Steel’s relatively improved financial performance under the leadership of CEO Roger Newport, if AK Steel represents ~30% of Cliff’s annual iron ore sales, Cliffs faces significant “customer concentration risk.” In other words, the health of AK Steel would significantly — negatively — impact Cliffs.
Forget about “renewal risk” — let’s just call it “customer risk.”
Cliffs would be hosed without a healthy AK Steel!
What about AK’s Ashland Works?
We continue to see different public announcements from AK Steel about the cost of Ashland Works. The Ashland Works facility today operates a hot-dipped galvanizing line (the blast furnace was idled nearly four years ago).
According to comments from AK Steel directly, “…the company announced it would close the ‘largely-idled’ Ashland Works facility by the end of 2019 to ‘increase utilization’ at its other U.S. operations. The plant employs 230 people and the closure would yield approximately $40 million in annual cost savings, according to the company.”
But by keeping it open, as detailed by Cliffs, the Ashland Facility, “Eliminates up to $60m of closure-related costs.” The Ashland facility will instead undergo a conversion, which it says, “Potentially provides a compelling, low-capex, high-return opportunity to be a significant merchant pig iron supplier in the Great Lakes.” (We presume U.S. Steel and ArcelorMittal will avail themselves of this compelling offering.)
So, we’re not sure if keeping Ashland Works open saves money or if closing it does.
We won’t pontificate over the “AK Steel best-in-class position in non-commoditized steel” for a variety of reasons that we have previously covered here in our GOES MMI series. (Or the fact that the rise of electric vehicles will start to make a dent in the need for the kinds of automotive exhaust grades, such as 439 and 441, produced by AK Steel.) We acknowledge AK does have a strong position in ultra-high-strength steels.
So, the real question comes down to the “synergies” outlined by Cliffs.
Does the margin Cliffs generates — approximately $30/$40 per short ton for every pellet produced and sold to AK — translate to an EBITDA jump of that same amount for steel products sold by AK, such that they leapfrog the EAF producers, as Cliffs suggests?
The tariffs had remained in place since June 1, 2018, when temporary exemptions for Canada, Mexico and the E.U. were allowed to expire.
Trade officials from the three countries had expressed optimism earlier this week that a deal was near to remove the 25% steel tariff and 10% aluminum tariff.
The move marks a major step toward approval of the United States-Mexico-Canada Agreement (USMCA), meant as the successor to NAFTA.
“I’m pleased to announce that we’ve just reached an agreement with Canada and Mexico and we’ll be selling our products into those countries without the imposition of tariffs, or major tariffs,” Trump told the National Association of Realtors, as reported by USA Today. “Big difference.”
President Donald Trump, Canadian Prime Minister Justin Trudeau and then-Mexican President Enrique Peña Nieto signed the USMCA during the G20 Summit in Buenos Aires late last year. However the three countries’ legislatures must ratify the deal before it can go into effect.
As such, both Mexico and Canada in recent months have indicated that they would be unlikely to approve a deal without removal of the tariffs. Likewise, members of the U.S. Congress, both Republicans and Democrats, also indicated a deal would not be approved unless the tariffs are removed vis-a-vis imports of steel and aluminum from Canada and Mexico.
U.S. Rep. Kevin Brady, the top Republican on the House Ways and Means Committee, lauded the move.
“Canada and Mexico are strong allies and have taken significant steps to assure that trade-distorting and subsidized steel and aluminum from third countries will not surge into the U.S. market,” Brady said.
“With this crucial issue resolved, now is the time for Congress to advance USMCA – delay means the United States continues to lose out on more jobs, more customers for Made-in-America goods, and a stronger economy. Congress should take up this updated and modernized agreement, which will produce strong wins for America.”
David MacNaughton, Canada’s ambassador to the U.S., hailed the agreement to remove the tariffs.
“This is a victory for both our countries and our highly integrated steel and aluminum industries,” he said in a tweet Friday.
According to a joint statement issued by Canada and the United States, in addition to removal of the tariffs the countries will implement measures to “prevent the importation of aluminum and steel that is unfairly subsidized and/or sold at dumped prices” and “prevent the transshipment of aluminum and steel made outside of Canada or the United States to the other country.”
The joint statement also addresses situations in which imports levels surge.: “In the event that imports of aluminum or steel products surge meaningfully beyond historic volumes of trade over a period of time, with consideration of market share, the importing country may request consultations with the exporting country. After such consultations, the importing party may impose duties of 25 percent for steel and 10 percent for aluminum in respect to the individual product(s) where the surge took place (on the basis of the individual product categories set forth in the attached chart). If the importing party takes such action, the exporting country agrees to retaliate only in the affected sector (i.e., aluminum and aluminum-containing products or steel).”
Canada will also rescind retaliatory tariffs on U.S. products imposed last summer. In addition to a variety of steel and aluminum products, the list of items targeted for retaliatory duties included coffee, yogurt and orange juice.
From the Analysts: Price Impacts of Removal of Section 232 Steel and Aluminum Tariffs for Canada and Mexico
With the removal of tariffs on imports of aluminum from Canada and Mexico, announced today by the U.S. government, MetalMiner anticipates the aluminum U.S. Midwest Premium may finally drop from the current level of around $0.19 per pound due to the easing of restrictions on the flow of prime material cross-border.
Source: MetalMiner data from MetalMiner IndX(™)
As of now, the LME aluminum price does not appear to show any impact from the news, with the price still sitting close to yesterday’s closing value.
Given the lack of major producers of semi-finished materials in both Mexico and Canada, MetalMiner does not anticipate a flood of materials to hit the U.S. market; therefore, buying organizations can continue to expect tightness for semi-finished aluminum commercial grade sheet and coil. Buying organizations will likely not see large price drops for semi-finished sheet and coil products.
On the other hand, given that the 25% tariff on steel effectively deterred imports of that metal to the U.S., MetalMiner does expect to see an impact on steel prices as imports of steel increase.
Canada serves as the largest exporter of flat rolled steel products, as well as long products, with Mexico taking the No. 3 position. For tubular products, Canada and Mexico take the No. 2 and 3 positions. For stainless steel, Mexico serves as the fourth-largest exporter to the U.S. and Canada does not export stainless to the U.S. in a major way.
Both volume of trading and open interest numbers showed improvement during 2018, as evidenced by increasing trade volumes throughout the year. Additionally, the London Metal Exchange (LME) introduced a new Hot Roil Coil contract.
As a result, there’s been quite a bit of excitement and coverage lately of the HRC futures market — is it warranted?
Looking at Chart 1, since January 2018 or so, the CME HRC finally experienced an uptick in regular daily trading volumes, as demonstrated by the bars along the bottom of this daily settlement price chart.
Chart 1: Trade volumes are increasing, finally hitting a regular stride during 2018. Source: Quandl.com
The next chart also shows a positive sign for CME HRC futures. Open interest shown by the red line in the chart continues to trend upward, charted along with the daily settle price.
Chart 2: Open interest in CME HRC futures continues to increase. Source: Quandl.com
Have HRC Prices Moved Similarly to Other Steel Price Indexes?
Taking a full look back at prices of CME HRC against our own MetalMiner IndX(™) price tracking since the inception of the trading product, we see only small amounts of variability between historical MetalMiner IndX(™) HRC prices and CME HRC prices.
Chart 3: The MetalMiner IndX(™) U.S. HRC price versus the CME HRC close of day price, February 2014 to February 2019. Source: MetalMiner IndX(™) and Fastmarkets
Taking a closer look, the next chart focuses on the year 2014 from the CME HRC’s inception date.
As shown in the first couple of charts, the U.S. HRC price was fairly stable around 2014. Comparatively speaking, the CME HRC price was less stable (although it may have offered a speculative opportunity, as it tended to fall faster than actual prices).
Chart 4: The MetalMiner IndX(™) U.S. HRC price versus the CME HRC close of day price, 2014. Source: MetalMiner IndX(™) and Fastmarkets
Generally speaking, volatility increased in 2015, as the price dropped into December 2015. Thereafter, the price became more prone to fluctuations, but still traded mostly sideways in a band around the earlier price highs from 2013 and never returned to quite as low a price as it hit in 2015.
In early 2018, the price of HRC increased. Actual prices tracked by MetalMiner’s IndX(™) seemed less volatile than CME HRC prices. However, prices trended very similarly.
Chart 5: MetalMiner’s U.S. HRC price versus the CME HRC close of day price, 2018. Source: MetalMiner IndX(™) and Fastmarkets
What Does This Mean for Industrial Buyers?
The CME HRC futures liquidity amped up during 2018, the product’s fifth year on the market.
Volume and open interest increased. CME steel prices tended to follow a fairly stable trajectory, similar to what the major indexes report (e.g. CRU, TSI, Platts, etc).
Furthermore, large organizations with significant planning needs that buy in sizable volumes may benefit from the arbitrage play these contracts allow, as well as the overall benefits of using hedging instruments to lock in margins.
As we reported soon after it happened last week, the Bureau of Consular Affairs under the U.S. Department of State has issued a warning of an increased risk of arbitrary arrest and detention when U.S. citizens, particularly those of dual nationality, come to leave China. According to the notice, Chinese authorities have asserted broad authority to prohibit U.S. citizens from leaving China by using ‘exit bans.’ The post states China uses exit bans coercively:
“To compel U.S. citizens to participate in Chinese government investigations,
To lure individuals back to China from abroad, and
To aid Chinese authorities in resolving civil disputes in favor of Chinese parties.”
According to the notice, U.S. citizens may be detained without access to U.S. consular services or information about their alleged crime. U.S. citizens may be subjected to prolonged interrogations and extended detention for reasons related to “state security.”
Why It Happened
Sounds serious, doesn’t it? But to be fair, the current notice is largely a repeat of one issued the same time last year and China retains a Level 2 caution, according to U.S. authorities — meaning two out of four travelers should “exercise increased caution” when in the country. This is a warning that has at times applied to parts of Europe due to a perceived risk from terrorism.
According to Conde Nast Traveler, the advisory follows high-profile cases in December in which two Canadian businessmen, Michael Spavor and Michael Kovrig, were detained for unspecified reasons, citing a Reuters report. Both Kovrig and Spavor remain in detention in China and are awaiting trial, with the U.S. and Canada calling for their release. In total, some 13 Canadians have been detained of late in moves said to be linked to the arrest of Huawei executive Meng Wanzhou.
Some put the restatement of the travel advisory down to increased trade tensions between the U.S. and China following President Trump’s trade war, but while such issues don’t help, the reality is China has always imposed strict censorship laws and still rigidly controls free speech. It uses such laws in situations that Western societies find arbitrary and unrelated, but the Chinese no doubt brought in the laws with the express intention of giving them a catch-all legal framework to bring leverage if they felt an individual, company or even country was not acting in China’s best interests.
What It Means for Metal Buyers
Buying organizations should, from time to time, be reminded that China is not a benign democracy, but an autocratic single-party state controlled by an increasingly powerful centrist elite.
The West’s view that China would become progressively more liberal and democratic over time has proved to be fundamentally flawed — and with that realization, our perception of risk for employees and contractors we send or employ there should change too.
While a few sub-indexes saw some gains from November to December — Copper, Global Precious Metals and Automotive MMIs, among them — the real story seemed to be the decline in Raw Steels and Stainless MMIs as we head into the new year.
Several highlights from this month’s report:
U.S.-China trade relations still have outsize influence on what’s happening in metals and commodities markets. The U.S. has agreed to hold off on a scheduled tariff hike — from 10% to 25% as of Jan. 1 on $200 billion worth of tariffs imposed in September — as the two parties have launched a 90-day negotiating period.
One of the biggest losers was the Raw Steels MMI, dropping 4.6% for the month. The recent slowdown in domestic steel price momentum led to the decline. Domestic steel prices recently decreased sharply on the back of slower demand and softer Chinese prices.
LME nickel prices traded lower in November, continuing the six-month downtrend that started back in June 2018, and driving the Stainless MMI down for the month of December.