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China's steel distribution set for change

Keywords: Tags  China distribution sector, steel, distribution, sales, financing

SHANGHAI — The steel price crash in China that rattled global steel markets earlier this year exposed just how turbulent China’s markets can become when the country’s growth slows and the government doesn’t step in with a credit and investment boost.

It also revealed the chaotic nature of the country’s steel trade, something that steelmakers are beginning to address more seriously by changing the way they work with traders and developing more channels of their own to sell steel.

China’s steel market began to weaken in April and then slumped during the third quarter amid deepening concerns about a slowdown in economic growth, as well as a sharp turndown in the construction sector after the government moved to deflate a property bubble. The bear run appeared to be exacerbated by the concentration of price risk in China’s sprawling and fragmented network of intermediary steel traders.

A large portion of China’s steel distribution and supply chain is made up of small-scale businesses that place annual margins with steel mills and pay up to a month in advance for material. But their own customers, the end-users, mighty pay up to one or two months later and can even delay or cancel delivery when market prices are falling. Such a model creates two key problems, which were highlighted during the recent downturn, sources said.

First, it creates large demand for bank loans from the trading community. But when the government tightens official lines of credit, trade is fueled by unofficial lending, often linked to bundles of steel as collateral. This worked in a bull market, but when demand and prices slump and traders struggle to maintain cash flow, it fuels the downward spiral in spot steel prices.

Second, it means Chinese steelmakers don’t have enough information or incentive to quickly adjust production.

"Steelmakers, rather than traders or (distributors), should take the loss of market price drops so that they will be serious enough to adjust production in line with real demand and changes in the economic situation," a major trader in Tianjin told AMM sister publication Steel First.

As a result, Chinese sources say significant changes to the system must be made.

Chinese steelmakers will likely have to adopt practices by Japanese and South Korean peers, a distributor in Shanghai said. There, mills work more closely with a smaller group of select traders to regularly adjust and prepare production level and sales.

Some traders have already quit the market as they fail to weather the storms of the past 18 months, sources said. Those who remain are looking to push a new way of cooperation with steelmakers that sees the mills carry some risk, some said.

"Traders and (distributors) who survived this first round have already reduced their monthly contract volumes with steelmakers, beginning early this year," another distributor in Shanghai said.

They will book even less from steelmakers next year, sources said, forcing producers to set more reasonable or favorable policies for a smaller number of stronger traders.

In addition to rethinking their relationship with each other, traders and mills are also mulling more sophisticated ways of supplying steel to end-users. Traders are setting up more strategic logistics hubs and coil centers, and mills are establishing bigger sales networks of their own to bypass traders, sources said.

For example, Xinyu Iron & Steel Co. Ltd. has been in talks with traders in Shanghai and Guangdong province to set up cooperative ties on sales to downstream customers, sources said. Baosteel Group Corp., which has long sold products direct to customers, has also operated its own online steel sales service for many years. Likewise, Rizhao Steel Co. Ltd. has recruited 200 people to make direct sales to end-users and Hebei Jingye Steel Co. Ltd. is said to be more active in building a direct sales team.

This is closer to the European model in which large steelmakers have substantial distribution networks of their own, but might have its limitations for now.

"The volume through steelmaker’s own direct sales channels may not be large. It will be hard to exceed 10 percent of total sales volume," a sales manager at Jinxi Iron & Steel Co. Ltd. said, citing most buyers’ need for financing.

A version of this article was first published by AMM sister publication Steel First.

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