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Blanket 232 would be bridge too far: Klenz

Jun 14, 2017 | 03:27 PM | Dom Yanchunas

Tags  Eric Klenz, KeyBanc Capital Markets, M&A, Section 232, steel trade, steel mills, Dom Yanchunas

NEW YORK — If President Donald Trump's administration pursues sanctions under a Section 232 action, the most likely option would be tariffs, and there is a risk that the levies could go too far, according to the head metals banker at KeyBanc Capital Markets Inc. 

Eric Klenz, the Cleveland-based bank's managing director and metals and mining practice leader, cautions against applying an arbitrary, untargeted tariff on imports, an approach he fears may come to fruition following the Trump administration's review of how foreign steel impacts national security. 

"I'm generally uncomfortable with significant actions trying to restrict free trade," Klenz told AMM on June 13. Dumping, currency manipulation and Chinese overcapacity "are all (problems) that we should take seriously, but for the industry here, this approach to blanket tariffs, I'm less comfortable with."

Klenz warns that such a rigid barrier to imports could create the wrong incentives for American steel producers and constrain their customers. 

"There is a risk of going too far with all of this," Klenz said. "You make other industries, the downstream industries, less efficient by propping up the raw-material price."

Klenz said Trump's associates are taking additional risk in threatening to rip up the North American Free Trade Agreement (Nafta). He said Nafta could use some updating but no wholesale changes are justified. 

Klenz said the U.S. Commerce Department, headed by Secretary Wilbur Ross, benefits from intimate steel-industry knowledge at the highest level, and likely would be competent in crafting a sensible-enough Section 232 remedy. 

"Having a commerce secretary like Wilbur Ross leading the discussion, I think he is going to come to a very clear-headed and strategic conclusion," Klenz said. If the decision is taken away from the Commerce Department and is instead made at the White House, "I'd be less optimistic that they'd come to the right conclusion."

Aside from the trade-action risk and an automotive sector that appears to have peaked, Klenz and his KeyBanc colleagues believe the end-user demand for steel products remains positive for the second half of the year. Any confirmation of infrastructure investment or other stimulus would provide an additional boost for overall metals consumption in construction or industrial sectors. 

"I think you see companies are cautiously optimistic right now," he said. 

Structural risks remain in the U.S. steel community, with ongoing overcapacity issues and older integrated mills suffering from "higher capital costs" and "simply less flexibility" than the more technologically advanced electric-arc mills. 

In an interview with AMM in September 2016, Klenz said steelmakers likely would pursue more acquisitions of downstream operations. That proved to be true, with Nucor Corp. buying multiple electric-resistance-welded mills, forcing Zekelman Industries Inc. to do the same to try to maintain its position as the market leader in welded tubing. Klenz also said the oil country tubular goods market might make a comeback. That, too, came to pass, and there was a notable acquisition in that space when SeAH Steel Corp. purchased the idled OMK Tube plant in Houston. 

While merger-and-acquisition (M&A) activity in the steel industry has slowed in recent months, Klenz said investors stand ready to open their wallets and fund more deals. The most profitable marriages would be those that help the acquirer expand its value-added offerings or increase efficiency with greater deployment of automation, 3-D printing and other cost-lowering manufacturing.

"Public companies that pursue a targeted M&A strategy will be rewarded in the public market," Klenz said. "There's good incentives for targeted M&A to occur. ... There is very definitely capital availability for good value-increasing transactions."

Right now, some of the would-be protagonists are concentrating on a redo of their strategies as the Trump administration trade actions potentially alter the landscape. Some are also busy integrating previous acquisitions and evaluating whether they should devote more of their attention to their sweet spot in the market and divert resources away from areas where they are less competitive. Soon, they will get ready to target other prey again. 

"The companies are getting more focused right now on their core assets, and we've seen divestment of non-core asset," Klenz said. For the rest of the year, the trend will be "not an acceleration of M&A activity, but a gradual pickup in M&A activity. We expect it to pick up in the second half of 2017 and the first half of 2018."

Dom Yanchunas

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