Steel prices unlikely to go up

The reduction in customs duties on certain forms of steel will exert pressure on steel companies' intentions of raising prices. However, the effect of this would be more prominent in times of cyclical downturns. With steel cycle already displaying signs of weakness, this is a negative.

In line with what we had expected last year, the steel cycle has displayed signs of weakness over the last few quarters. We continue to remain cautious towards the steel sector in the medium-term owing to various reasons. We believe that the steel cycle has peaked and with various domestic and global capacity expansion plans taking shape coupled with China, the biggest consumer of steel and driver of steel prices in the past having become a net exporter of steel, would continue to keep steel prices under pressure. Indian steel majors have already announced aggressive capacity expansion plans. While steel demand in India is expected to grow in the region of 5% to 6% in the long-term, it may not be able to absorb the capacity additions being planned within the country.

Finance minister reaffirmed the thrust on infrastructure development by announcing new infrastructure projects.

Peak customs duty reduced from 30% to 25%.

Decrease in freight rate by 5.3%. Confessional freight for short distance transportation.

Tax sops maintained for the housing sector.

Surcharge on corporate tax halved from the current 5% to 2.5%.

Excise duty raised on iron and steel from 8% to 12%.

Customs duty reduced from 15% to 10% on all primary, semi-finished and finished forms of iron and steel like ingots and billets, sponge iron, hot rolled and cold rolled bars/rods/coils of non-alloy steel (other than seconds and defectives).

Customs duty on industry raw materials such as catalysts and refractory raw materials reduced from 15% to 10%.

Excise duty on steel raised to 16%.

Customs duty on ferro-alloys and stainless steel and other alloy steel reduced from 15% to 10

Duty on coking coal with high ash content reduced from 15% to 5%.

Duty on primary and secondary metals reduced from 15% to 10%.

Customs duty reduced from 20% to 15% on ferro alloys, stainless steel and other alloy steel, excluding seconds and defectives.

The budget is silent on the restoration of the duty entitlement pass book (DEPB) scheme applicable to steel exporters.

A surcharge of 2% on account of education cess will be imposed on corporate tax.

Growth potential:  The per capita steel consumption in India is abysmally low at around 30 kgs as compared to 210 kgs of China and over 400 kgs in the developed countries. This wide gap in relative steel consumption indicates that the potential ahead for India to raise its steel consumption is high.

Continued demand:  Meteoric rise in steel prices since 2003 until early 2005 helped the domestic steel companies immensely as many of them managed to reduce their debt burden considerably, helping them either turn into profits or increase the same significantly. Going forward, the demand for the metal is likely to sustain on the back of continuing demand from the US and other South East Asian nations.

Domestic help:  A robust housing and infrastructure sector, with growth potential in the auto and the consumer durables sectors is likely to be a big positive for the domestic steel sector.

India advantage:   Indian steel producers are one of the lowest cost producers in the world, which provides them a hedge against fall in prices. Further, relatively efficient and vertically integrated companies like Tisco are likely to be in a better position to weather any steel downturn.

Fragmented industry:   While there have been concerted efforts to bring in control the fragmented nature of the industry through consolidation and closures, the problem continues to persist. Further, the biggest threat to the industry remains from the cyclicality of the sector, which could put immense pressure on steel prices if steel consumption shows signs of faltering or supply exceeds the demand considerably.

Capped benefits:   Indian steel companies have to bear additional costs pertaining to capital equipment, power and inefficiencies (low per employee productivity). This has capped the edge they would have otherwise enjoyed due to availability of cheap labour and raw materials.

Import threat:   Another possible threat to the domestic steel sector continues to be from dumping by international companies. With wide spread capacity expansions taking place across the globe and the protection to domestic steel companies being progressively reduced with consistent reduction in custom duties, international steel companies might look at markets to dump their products. In such a scenario, Indian companies stand to lose due to lack of competition in terms of size.