This article first appeared in The Edge Financial Daily on January 2, 2018 - January 8, 2018

KUALA LUMPUR: The domestic steel industry had a bumper year in 2017. Against the backdrop of a production cut in China and rising domestic demand, the sector’s prospects look likely to remain rosy.

However, the potential hike on natural gas prices could dampen the outlook to certain extent, according to Ann Joo group managing director Datuk Lim Hong Thye.

Lim said the impact of the most recent gas price hike on industry players can vary significantly.

These factors, he said, are not just limited to the processes involved in the business, technology used and products manufactured.

With the new gas tariff in place, steel players’ ability to pass on the additional costs to consumers will be tested.

“A typical long product steel mill using full scraps as raw materials in its EAF (electric arc furnace) [in producing billets] and natural gas as fuel for its rolling mill will consume about 2.5mmbtu per tonne of rebars (reinforcing bars) produced,” Lim, who is also deputy president II of the Malaysian Iron And Steel Industry Federation (Misif), told The Edge Financial Daily over the telephone.

For Ann Joo, Lim said due to its investments in blast furnace (BF) which produces hot metal and BF gas, the group is able to significantly reduce natural gas consumption through the utilisation of hot metal as raw material in its EAF and utilisation of BF gas as fuel in its rolling mills.

“Whether 2018 is going to be good or bad depends on many factors, which also include the ability to pass on the impact of the increase in natural gas tariff, and price movements of raw materials. Domestic and regional demand also plays significant roles,” he said.

With China, the world’s top steel producer, slashing production in its bid to reduce winter pollution, the economic giant would have to rely on supply from other countries. The move is seen as a boon for Malaysian steel players, should there be no further hike in the country’s electricity and natural gas tariffs.

“The capacity cut in China and other measures taken by the Chinese government since 2016 definitely reduced China’s steel export significantly. This certainly helps efficient steel mills in Malaysia to resume export activities, especially to the regional market, which is still a huge net importer [of steel],” Lim said.

“However, if Malaysia’s electricity and natural gas tariffs were to continue increasing as compared with other nations, this will certainly negatively impact steel mills that deploy technologies relying heavily on these two energy sources,” he added.

Nevertheless, Lim noted Malaysia is strategically located in the centre of Asean, which means lower sea freights to any part of the region, as well as ample supply of iron ore (an essential raw material) locally.

Most analysts continue to overweight the building material sector in view of the government-led infrastructure projects, particularly the steel industry.

Ooi Beng Hooi, an analyst with TA Securities, shared in its 2018 Annual Strategy report dated Dec 8, that the steel price is still trading at above RM2,000 level since early 2017.

“According to Southeast Asia Iron and Steel Industries, the annual total steel consumption is about 10 million tonnes for the past four years from 2013 to 2016. Historically, domestic steel demand was mainly supported by local production and cheap imports from China.

Nevertheless, the scenario has changed since 2016 after China committed to performing structural supply-side reforms in its steel and coal sectors due to an overcapacity issue. As a result, steel prices are trending up due to capacity elimination,” Ooi said.

He added that domestic steel production will ramp up to close the supply gap as imports of steel products from China are expected to remain low, especially when the steel bar price is higher in China, which implies that China steel mills will be able to extract better margin by selling locally rather than rely on exports.

AmInvestment Bank also has an overweight recommendation for the sector, underpinned by the stronger demand for building materials based on record order books of construction players, thanks to infrastructure projects such as the MRT 2 (RM32 billion), Pan Borneo Sarawak Highway (RM16 billion), LRT 3 (RM12 billion) and large-scale property development such as the Tun Razak Exchange and KL118.

In its report dated Dec 13, the research house noted that local steel average selling price (ASP) has improved further with the imposition of safeguard duties by the ministry of international trade and industry (Miti) for steel rebars, steel wire rods (SWR) and deformed bar in coil (DBIC) until April 2020.

AmInvestment projected steel prices of RM2,140 per tonne and RM2,250 per tonne for 2018 and 2019 respectively. Year to date, steel ASP stands at about RM2,400 per tonne.

Both AmInvestment Bank and TA Securities’ top pick for the steel industry is Ann Joo Resources Bhd. Ann Joo controls 20% of the market share and is able to produce high tonnage steel. This gives it the advantage of maintaining better margin in comparison with its peers in the industry due to cost optimisation in production by adopting the hybrid blast furnace and BF-EAF technology.

Loong Chee Wei, Affin Hwang Investment Bank Bhd analyst, agreed that the pick up in infrastructure projects in Malaysia could support demand for steel products. He highlighted, however, that the demand for steel from infrastructure is only about one-third of the total demand, with the remaining two-thirds coming from property development.

“The slowdown in property development could affect the demand for steel players,” Loong noted.