Russian steelmakers forge ahead in modernisation drive

By bne IntelliNews July 4, 2011

Tim Gosling in Moscow -

The bid to develop nanotechnology and other high-tech gizmos may steal all the headlines in Russia's bid to modernise its economy and cut dependence on the export of raw materials, but the country's huge landmass is still heaving with natural resources that can't be ignored. The key is to move up the value chain, and Russian steelmakers are starting to do just that.

The options for Russia to turn the massive deposits of iron ore it digs out of the ground into downstream products are limited. On the one hand, the country is not about to compete with developed economies to turn out sophisticated high-end products, or as independent investment advisor Eric Kraus puts it: "it's not going to compete by building Mercedes."

On the other, neither can Russia match the costs in China to start turning its steel into pots and pans. What its steelmakers are increasingly doing, however, is turning out a wider array of specialist and high-quality steel products to beat international competitors on the domestic market. As Kraus puts it: "They have to move up the value chain where they have a competitive advantage."

Import substitution

The likes of MMK and Severstal began the new century with old open hearth technology turning out basic slab steel. However, rising competition from more efficient steelmakers in lower cost environments around the world provoked an investment drive to upgrade that has continued to this day at some companies.

The strategy has also changed, points out Dmitry Smolin of investment bank Uralsib, with import substitution on the domestic market - "which currently offers a 10-15% premium over export markets" - the key goal, he says.

Barry Ehrlich at Alfa Bank agrees, saying: "We shouldn't expect, or want, to see these companies trying to export high-quality steels. They can't compete with Japan or the US on downstream products."

The likes of MMK are now successfully wresting market share away from foreign importers. Smolin points to MMK's $1.4bn Mill 5000, which was launched in July last year to turn out large-diameter pipes for a Russian energy industry that has previously been buying from the EU, Japan or Korea. He also notes the same company's 2m tonne per annum Mill 2000, which will begin producing super high-quality coil for the rapidly growing list of foreign carmakers working in Russia, who currently buy from Europe in the absence of domestic suppliers.

A host of potential customers are now reported to be inspecting the quality of output from Mill 2000 for use in their Russian facilities. According to the industry publication Steel Orbis, the company's test pressings have passed a technical audit with Renault, whilst it's producing test batches for Ford, and is due to do so for GM and Volkswagon, amongst others. It's also hoping to supply Samsung, Bosch and Siemens for their home appliance factories in Russia.

Nikolay Lyadov of MMK claimed last year: "Mill 5000 has strengthened MMK's foothold on the Russian market of rolled metal for pipemakers and secured [its] role in major oil and gas projects including the Sakhalin-Khabarovsk-Vladivostok and Bovanenkovo-Ukhta gas routes and BTS-2 and VSTO oil pipelines."

In April, Severstal announced plans to invest $83m to reconstruct its own Mill 5000 to produce the high-quality thick plate needed for energy transit projects.

It's clearly a strategy that fits far better with the Kremlin's drive to modernise the economy than the spasm of (largely unsuccessful) overseas acquisitions by the likes of Severstal and Evraz seen just before the global economic crisis hit. "Almost every Russian steelmaker is upgrading organically now, which is important as it adds new production into the economy, as opposed to M&A," says Ehrlich. "But that doesn't mean there will be no more acquisitions."

Kraus believes that if Russian steelmakers continue to invest at home rather than return to the acquisition drive seen in the US and elsewhere, "then they can remain profitable, and perhaps even compete globally one day."

However, for the moment, "the niche is unlikely to change," insists Smolin. "Investment will remain focused on the domestic market with its infrastructure spend and state support for suppliers to state companies."

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