Weighty consequences of miscalculated Brazilian costs

The expectations of TKS strategists regarding an audacious investment plan turned out to have been vastly off the mark in two important respects, the demand for steel and production costs.

At Calvert, Alabama, TKS has constructed a 5.3Mt/y hot strip mill, a 2.5Mt/y cold tandem mill and four hot dip galvanising lines which started production in March 2011. In addition, the mill can roll up to 1Mt/y of stainless steel. No steel is melted at the site, 3Mt/y of carbon steel slab are supplied from a new integrated plant in Rio de Janeiro state which is also supplying slab to TKS’s European mill in Duisburg, Germany.

At present, any stainless rolled is supplied from Europe but a stainless melting and refining facility is under construction at Calvert.

The plant’s main customers are the domestic appliances, construction and tube-manufacturing industries as well as the automotive industry, in particular the large carmakers in the south of the USA. High strength steels are made for this purpose.

Lingering slow demand is no doubt one of the factors that doomed the TKS decision to add this high-quality sheet capacity. Nevertheless, at the time the decision was made, it seemed entirely reasonable. Forecasters had predicted the demand for high-grade sheet to rise steadily, especially from automotive producers looking for ways to boost the fuel economy of vehicles by using thinner gauge but higher strength steels. It was not the first time that an unforeseen market downturn created havoc with a bold investment project.

But, insufficient steel demand in USA is only one of the German company's problems. There is a good chance that TKS would be in trouble even if the market were able to absorb all of the new capacity's output. The reason is the high cost of slabs produced by TKS in Brazil. In a joint venture with Brazilian mining company Vale which increased its share from 10% to 27% to meet escalating construction costs, TKS established TKS-CSA (ThyssenKrupp Companhia Siderúrgica do Atlântico) a twin blast furnace integrated plant with port facilities, at Sepetiba in the state of Rio de Janeiro. The works started production in 2010 after over a year’s delay and can produce 5Mt/y of slab of which 3Mt is sent to the Alabama plant for rolling and finishing and the remainder to Duisburg.

Production costs would have been considerably lower, had TKS not sold its large Brazilian Ferteco iron ore mine and pelletizing plant a few years prior to making its fateful investment decision. Smaller cost reductions could have been achieved by locating the semis plant farther north in Brazil, which would have cut the freight of imported coal and of slabs shipped to the USA and Europe.

As early as 2007-- before work on the two plants had started – Dr Mueller had on separate occasions the opportunity to discuss the project with its chief promoter, Dr Karl-Ulrich Kõhler, then chairman of the TKS executive board. The conversations, which took place at steel-industry conferences in Bonn and Berlin, focused on Kõhler's assumption of low Brazilian primary steelmaking costs.

Based on several investigations Dr Mueller had made on the Brazilian steel industry's performance, he voiced strong reservations about the TKS project's likely success.

The sparse presence of equipment makers and other support industries as well as bureaucratic foot-dragging in the areas of licensing and permitting tended to raise the investment requirements per tonne of integrated capacity, while operating costs would be driven up by an exclusive dependence on imported metallurgical coal, iron-ore prices set by a few dominant enterprises, a spotty public infrastructure and rail system, and the likelihood that many of the new workforce would lack the skill to cope with the demands of ultra-modern technology.

Kõhler blamed the paradoxical sale of his company's Brazilian iron-ore mine on a business model that should have been changed earlier.

While the current difficulties on the demand side are likely to ease within a few years, the high cost of Brazilian slabs is unlikely to be amenable to drastic reductions, short of selling the plant at a price far below actual investment costs. The German company can be expected to suffer huge losses and, as a consequence, have to rely more heavily on its considerable non-steel operations.

There is no need to comment here on the plentiful speculation regarding potential buyers. It is not yet clear whether there will be even a single buyer possessing the ambition and the means to acquire both TKS facilities. One of the issues likely to emerge in the upcoming negotiations is the Alabama plant's large stainless segment.

Some Chinese steelmakers might have the ability to raise the necessary capital to purchase one or both plants. But they may no longer be interested in any US acquisitions following the political uproar in late 2010 that was triggered by Anshan’s intent to buy shares in Correnti’s Steel Development Co LLC proposed micro-mill. That purchase, had it been carried out, was widely proclaimed to represent a major security risk to the United States.

Dr Hans Mueller*

*Dr Mueller is a steel economist and Managing Director TN Consulting Murfreesboro, TN, USA and is a regular contributor to Steel Times International

For more information on the establishing of TK-CSA download the related pdf from STI’s Latin American Update November 2010 (Ed)