This year has turned out to be much more challenging for US metals services than had been originally anticipated.
The US metals service center industry was actually in a relatively healthy spot for most of the first quarter, after having gone through a pretty large destocking cycle throughout 2019, Tyler Kenyon, a metals and mining research analyst with Cowen & Co., pointed out. He notes that as it entered this year service center inventory and demand was much better aligned and there was a lot of optimism that service center sales levels would at least be stable with a good chance for at least a moderate pickup. That, however, is before the Covid-19 pandemic reared its ugly head, he said.
Individual service centers were impacted differently, largely depending upon the metals they sell, the end-use markets that they service and where they are located. But Kenyon said that, more or less across the board, their demand started to decline in mid-March and started to bottom out in mid-May, when US pandemic-related stay-at-home restrictions began to be eased.
While other factors also had an impact, including previous issues in such end-use markets as energy and aerospace, as well as in the overall manufacturing sector, it was clearly the pandemic and the uncertainty that surrounds it that had, and continues to have, the biggest impact upon service centers.
Bob Weidner, president of the Metals Service Center Institute, said that the US metals service center industry is in unchartered waters, calling current market conditions a new abnormal that was the result of the combination of the Covid pandemic and the resultant self-induced economic coma. He said this is something that the industry must go through before eventually getting to a new normal.
He said that no one knows how long it will take to get to the new normal or what it will eventually look like. No one in the US has even seen a pandemic of this magnitude before. Also, never before in our history has the US gone into a self-induced coma, Weidner maintained.
Weve had economic recessions before, but we never had one that was constructed on purpose. So, we have no history about how to reopen the economy, especially during a time when there is also extreme social unrest, trying to right the wrongs of the past, he added.
These trends have affected all metals service centers, no matter whether they sell carbon steel, stainless steel or non-ferrous metals and whether they are a large, medium or small company, observed Lance Shelton, who is both president of the Copper & Brass Servicenter Association (CBSA) and vice president of Christy Metals. Tony Hammes, vice president for supply chain for Metalwest agreed, noting that Metals Service Center Institute (MSCI) data indicates that service centers carbon steel, stainless steel and aluminium sales were all down more than 30% year-on-year in both April and May, which were the trough months for most metals service centers.
The impact of this upon service centers, however, has been mitigated somewhat by the fact that they have been pretty well managed, John Anton, associate director of IHS Markits pricing and purchasing service said, noting that the negative influences have been largely factors that are beyond their control. If they were managed the same as they were in 2001, they would all be out of business, he maintained.
All in it together
It has also helped that everyone in the metals supply chain seems to realize that they are all in this together, Bob Mraz, vice president of sales and marketing for TW Metals Inc., pointed out: We have seen more cooperation between mills and distributors than ever before. Also, our customers have been understanding, supportive and loyal. We are all trying to help each other.
David Goad, vice president of the Industrial Metals division of Cambridge-Lee Industries LLC and a CBSA vice president, agreed, noting that the pandemic has shown service centers that segments of the economy can shut down. So, we need to be ready to respond to many scenarios with various solutions, including some that were a little bit outside of our normal playbook, to keep our customers supplied, including working closer than ever with industry partners. It has required us to re-evaluate our supply chains to keep our customers supplied with product even when the country was being shut down, he said, adding, It has become the job of service centers to help their customers mitigate risk.
Still it has been quite a struggle, Mike Lerman, president of Steel Warehouse Co., pointed out, particularly for companies that are mainly contract buyers from their mill suppliers and that, given current market conditions, they have been having problems meeting their minimum contract levels.
Certain regions were hit by the pandemic right out of the gate. Mike Young, president and chief operating officer of Klein Steel Service Inc., said at first there was a kneejerk reaction with no one knowing what to do until it became clear that essential business would remain open and that most metals companies, including service centers, would be considered essential businesses.
Even though starting in June there began to be some recovery, service centers are still not back to pre-pandemic levels and it is widely expected they will not be so for a while. We are still trying to get our sea legs back after being crushed from late March through the second quarter, while also keeping their eyes on the recent pickup in Covid-19 cases and the possible impact upon industrial production if some manufacturing plants in affected areas were to be forced to close, Jim Barnett, chairman and chief executive officer of Grand Steel Products Inc. said.
The key to success in this market environment is diversification, Rick Bacharach, president and chief executive officer of Lewis Brass & Copper Co., said. If you are just relying upon one market segment it is very difficult.
Impact by sector
While it is estimated that on average US service center sales volumes were down on average by 20-35% in the second quarter, Kenyon pointed out that service centers with more exposure to certain weaker end-use markets, such as automotive (where production plants were on lockdown from mid-March through mid-May), energy and aerospace, experienced volume declines of 50% or more year on year during that quarter.
Quoting Charles Dickens, Jeff Simons, Metalwests president and chief executive officer, called 2020 the best of times and the worst of times for metals service centers. Commercial kitchen equipment demand has been very weak, Simons said, given the impact of the pandemic upon restaurants, with some entirely closing and others only offering pickup and delivery. However, as things open up more there could be some transformation of certain restaurants that could require some investment, although he said that any such recovery will be very slow.
The business for service centers that are part of the medical equipment supply chains is off the charts, MSCIs Weidner pointed out, noting that it is somewhat split for those serving the commercial construction sector. While those supplying metal to companies building warehouses for the distribution of products to online companies like Amazon are doing very well, it is different for retail store construction, with very few consumers racing to go to the big shopping malls during the pandemic. Several retail stores have recently filed for bankruptcy.
Also, Kenyon pointed out that infrastructure construction remains a hot topic. While it is a bipartisan aspiration, the means to achieve it, and particularly how to fund it, has become very partisan. This comes as the FAST Act surface transportation bill expires in September and the US House of Representatives passed the $1.5 trillion comprehensive Moving Forward Act infrastructure spending plan, which is unlikely to be taken up by the US Senate.
Existing overall construction, and therefore service centers in the construction supply chain, has held up reasonably well during the pandemic. That, Jeremy Flack, chief executive officer of Flack Global Metals, said is because construction projects were able to proceed, albeit perhaps at a somewhat slower pace, in most states and municipalities, with the work being done outside and the space between construction workers often greater than that required by social distancing.
There are, however, concerns about what will happen over the next six months and beyond, Simons said, given that the American Institute of Architects Architecture Billings Index (ABI) has been in negative territory (below 50 points) for much of this year. Even though in May it moved up to 32 points from an all-time low of 29.5 points in April, that does not bode well for future non-residential construction activity. That could hit service centers in the gut, Anton said.
Automotive is coming back up somewhat, but not that much, Lerman said, explaining that the sector is so consumer driven. There is a question on how much consumers are willing to spend. Anton noted that, after being totally shutdown for two months US automakers are slowly ramping back up. But, at the time of writing, they only remain at about 50% of capacity. Consequently parts suppliers are buying less metals and are not requiring so much toll processing services from their service center suppliers. That, Simons said, has been further exacerbated by international disruptions in the auto supply chain, including the ability to get parts from Mexico.
Barnett said that while, at least in the short- to medium-term, there is uncertainty about auto demand, especially if there continues to be some temporary closures related to either pandemic or parts-related issues, it is a sector where service centers could see the most improvement going forward.
Mraz pointed out that while TW Metals had its best-ever first quarter, coming off a record- breaking 2019, even before the pandemic took hold and backlogs continued to prop up business it started to prepare during the first quarter for some strong headwinds it knew were coming its way in both the aerospace and some other commercial sectors.
He said that while aerospace had some problems previously, some of which were connected to the Boeing 737 MAX, he sees that as just a temporary lull in a long-term growth plan once that aircraft is fully certified. But the real problem with aerospace is the pandemic, specifically the fear of getting the virus when travelling on a plane. But once a vaccine is developed, we will see a rebirth of aerospace, he predicted.
Based on a survey conducted by Cowen & Co. in mid-June, Kenyon expected service center volumes to recover slowly through the rest of the year. He said that most of the survey respondents said they expect that second-half volumes would be down by about 15% year on year and full-year volumes down by about 10-15% year on year.
Overall, in this market environment metal service centers have been very cautious about what they buy and are looking to work down their inventories, and therefore increase their working capital, which Flack says is the most important thing for service centers. Also, there is no reason for service centers to hold on to a lot of inventories right now given the short mill lead times, he added.
Getting inventory levels right can be a fine line. If you dont have it, you cant sell it, Bacharach said. The question is how much inventories you are willing to carry, at what cost and for what markets. We dont want to finance an abundance of inventory until certain market segments start to recover, if they do indeed recover.
Cambridge-Lees inventories are in pretty good position now, although they had briefly gotten higher than desired, Goad said, explaining: During the shutdowns we had to scramble to make sure our customers were supplied with product in the event that we werent able to deliver metal as frequently as normal, but as it turned out, we were able to do so.
Industrywide, however, it seems as if service centers generally have about an extra month of inventories than they need across pretty much all metals product lines due to the pandemic-related business lockdowns, Metalwests Hammes said. He pointed out that while actually inventory volumes have remained somewhat stable, the months of inventories on hand are currently more than desired because of a general drop-off in demand or usage.
In this environment, sales between service centers has been picking up. Mraz said that in preparation for the pandemic TW Metals reached out early and often to all its distribution customers to let them know that they are there for them.
There are varying opinions about whether current business conditions are pushing service centers to increase the value-added services that they offer their customers. Young said that Klein Steel is continuing to invest in equipment that enables it to add value to its customers through the pandemic: We believe that offering such services is beneficial, isolating service centers from the super transactional cost-driven sales and keeping their customer base from having to invest in equipment they cant afford.
However, with business as weak as it has been, Lerman said that some customers are insourcing some of the services that service centers had previously provided for them, although he added that others are going the other way. It all depends upon the particular situation of particular customers, he said, explaining that the value-added services are not necessarily limited to processing, but also involve taking positions in inventory and hedging. With the right customer there is more openness to change what was considered the way to do business.
Looking forward, Bacharach said that there is too much uncertainty to determine how things will go from here. A lot depends upon if we get hit with a second wave and if certain businesses are shut down again, but I suspect that we will be okay, at least treading water, he said, although any recovery will likely take some time. You cant just bounce back quickly from this kind of event.
Hammes agreed, calling the past three months or so a roller coaster ride. He said that most likely it will not be until sometime in 2021 that business will return to the levels the industry saw at the beginning of this year. How soon will depend upon whether the current surge in virus cases continues. Barnett said it will also depend upon when a vaccine is developed, predicting that once that happens the economy, therefore the service center business, will ramp up fairly rapidly.
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