Steel Inside!! The Korean Steel industry and POSCO
Steel is probably one of the most important production inputs that we have nowadays. Many other industries depending on steel as a main input like the car or construction sector. The developed countries have a lot of steel-intensive manufacturing and creating a strong demand for steel. In the Korean metal industry, the revenues of iron and steel selling are completely dominating the industry. Posco’s creation in1968 and its development in the 1970’s occurred at the same time as the development of the country.
There is a large range of steel products but for our case study it is more convenient to talk about the steel products (hot rolled, cold rolled products, plates, wire rods, silicon steel sheets and stainless steel products) as a whole.
Posco is traded on the London and New York exchange market since the 1990’s (under the name of Pohang until 2002). It has signed strategic contracts with Nippon Steel in 2001 in order to put together their effort in technological development and in raw material procurement. Since this year Posco agreed on other strategic collaborations with GM Daewoo, Hyundai Heavy Industries and Dongkuk Steel Mill to name only some of them. The company is strongly centered on research and development.
Today Posco employs around 30,000 persons and had net income of 4.35 trillion Korean Won in 2008.
Posco’s main competitors
The three main competitors are the three biggest steel makers in value: ArcelorMittal (Luxembourg), Nippon Steel (Japan), Boa Steel (China). Posco is the fourth biggest steel producer on the global market.
Since the consolidation of Arcelor and Mittal in 2006, they possess around 10% of the global steel production capacity and are the undisputed leader on the market far before the other producers.
It appears evident that the steel product produced by those companies are not very differentiated, therefore the competition takes plays on the price level. The markets served by the Asian companies are quite different to the European countries where the market reached maturity. Furthermore, exportation is limited by the production capacities of the companies. If Posco is one the most efficient and profitable among its competitors, Chinese still producers however are threatening the Korean company manufacturing much cheaper steel due to low cost procurement secured within China.
The steel market & POSCO The new Pricing System
Until recently iron-ore suppliers and steel makers referred to a benchmark price system where price was fixed once a year. The biggest iron-ore miners and steel makers settled the price in private deals. And the first deal set up was used as benchmark for the following negotiations. The recent change (on April 1st) was entailed by the impossibility to find an agreement in the 2009 meetings in which the Chinese Iron and Steel Association was involved.
Concurrently the spot market coexisted with the benchmark system and the disparity between fixed and floating rate made some miners pushing their customer to purchase the commodity on the spot market. Indeed, depending on the market conditions miners could lose revenue on their products when selling them to benchmark prices.
In the new system, the price will be negotiated quarterly and therefore allows to be more synchronized with the floating market rate and currently permits the iron-ore producers to make huge profits.
5-Forces-Analysis & Supply Strategy of POSCO
This chapter will apply a 5-Forces-Analysis on the Steel industry. By doing that POSCO’s global sourcing strategy can be analyzed and a strategic framework for strategic recommendations and global purchasing strategies can be developed.
Bargaining Power of Suppliers
The Iron-Ore-Market can be defined as one of the most challenging markets for international sourcing. Not only because the prices for raw materials are very likely increase by the new pricing system which is now spot market based- but because ore buyers have to deal with extern bargaining power of the top three ore and coal suppliers worldwide: Vale, BHP Billiton and Rio Tinto.
As figure 3 displays more than one third of global ore production is controlled by the big three of mining“. Figure 4 gives further insight to the global diversification strategies Vale, BHP and Rio Tinto are pursuing. With the biggest shares in worldwide coal and ore production and the most extensive mining network on the globe, these suppliers hold an oligopoly of the steel-supply-market. Since these three major suppliers are also cooperating and even trying to gain more power by merging like Rio Tinto and BHP tried in 2009, the huge group of competing steel producers is not able to organize an opposing alliance.
Their bargaining power applied to the new pricing system will lead to a dramatic price increase in commodities. Last week POSCO signed a contract with Vale to pay $100-$105 for a tone from April to June 2010. Therewith the price increased by 86% compared to the past year.
Threat of substitute products
As it is described right at the beginning at the Paper, Steel is one of the most substantial resources of mankind. Not only that most of our daily-life products contain steel but also the technical evolution would not have been possible without the development of high-tech steels. So the threat of substitute products is very little, since steel is also recyclable and there is no big need to develop alternative materials for mass produced goods. The only threat derives from other metals like aluminum and materials which are developed for more reasons of weight like carbon composite materials which is Boeing using for the new Dreamliner Airplane. The Threat of substitute products is in consequence low.
Threat of new entrants
By fueling the domestic steel production companies like Boa steel, China has become one of the biggest players of steel production. Further subventions may result in a growing number of Chinese steel producers. But since the establishment of a steel production site requires high investments, specialized knowledge and a good infrastructure to supply the production site, the entry barriers are very high. Still there is the danger of mining companies who persuade a strong M&A strategy of buying local steel producers, close by their mines. The Threat of new entrants is therefore moderate.
Bargaining Power of Buyers
More than 80 major steel producers worldwide provide crude steel and high-tech steels. So, steel buyers can choose from a big variety of steel producers worldwide. Since the network of producers is too expanded and in some cases highly specified the steel producers were not able so far to organize any kind of price agreement to improve their bargaining powers. But still steel buyers depend on their suppliers, since a backward integration of steel production is too costly. Especially POSCO with innovative Processes and high quality steel is stabilizing its bargaining power. POSCO has developed high-grade TMCP plates for shipbuilders and has become a preferred supplier of auto body steels to auto-manufacturers. The value-added steel comprises 80% of total product mix.By this strong differentiating strategy POSCO is to a certain degree immune against pricing pressures. But overall the Bargaining Power of Buyers in the steel industry can be define as moderate to high.
The competitive Rivalry within the Steel industry
Most of the major steel producers pursued the classic cost leadership strategy of commodity markets for a long time. But with maturing markets more and more companies try to develop high quality and special steels. POSCO is one of the best examples for such a differentiation strategy. Even if the output of steel production is characterized by a growing variety, the input side iron-ore, coal and nickel is remaining. Steel producers are now competing in terms of low cost sourcing strategies. The growing demand of the emerging markets like China and India are aggravating this problem. In Figure 5 we can see that since 2003 overcapacities of iron-ore production has decreased to zero. This further indicates that there will be an upcoming shortage of supply resulting in high prices.
It can be stated that the Rivalry within the industry is high.
POSCO’s International Sourcing Strategy & Recommendations
POSCO as the number four steel producers worldwide is trying to create a unique sourcing strategy to lower the dependency risks, supply shortages and upscale price wars. In the last part of this paper, we will have a closer looks at those strategy and see what recommendations can be made.
Wrap-up of established solutions
POSCO has developed three major sourcing strategies to secure raw material supply for the next years. The can be labeled by self-sufficiency-strategy, alliance-strategy and product-variety-strategy.
In contrast to high entry barriers of Steel production industry, entry barriers into the mining business are for steel producers relatively low. Still there are the capital costs of developing the logistical infrastructure required to support an iron-ore-mining enterprise which can be very high. In consequence one of the supply-strategies POSCO is pursuing is self-sufficiency. “POSCO is actively investing in various raw materials projects to secure resources to reach self-sufficiency rate of raw materials of 30% by 2012. POSCO participated in a mine development project in Posmac, Australia to secure an annual supply of three million tons of iron ore by 2028 and acquired stakes in Namisa mine, Brazil. For coal, acquiring stakes in mines and mining companies in Australia and Canada provided POSCO with a stable supply of over six million tons of coal per year. In addition, POSCO established an integrated STS production system, securing stable nickel ore supply from the New Caledonian nickel mine development project and completing the first ferronickel plant with 30,000 ton annual capacity in Gwangyang, for the first time in Korea.“By deep research one very critical factor for the self-sufficiency strategy was identified: „As a mine matures, the amount of ore for high quality types of steel may become less available, leading to a need for more exploration- and more investments of money and manpower. These investments are a core strategy for mining companies, but would require a major change in steelmaker’s directives to work. “
Another way of reducing costs and seeking stable supply is building alliances. As Table 6 shows POSCO is trying to build partnerships with suppliers, buyers and even competitors as Nippon Steel. Also with SAIL, India’s largest steel producers tried to „set up a steel plant under the joint venture route near state-owned company’s existing steel making facility at Bokaro in Jharkand. The talks have been initiated as POSCO is looking for new opportunities for steel making in the country as its proposed project in Orissa is repeatedly getting delayed over land acquisition and iron ore mining lease related problems.“At the same time it has to be noted that dependencies are increasing with the alliance-strategy.
The third identified strategy is besides process excellence by heavy investment in R&D to maximize iron-ore utilization the development of new Business units. „POSCO’s move buying into a new lithium producer PAL may send a strong signal as to where at least one steel producer sees not only improved demand but also new demand.“With diversifying the product variety the relative single input of raw materials may decreases if production capacity is not increased. At the same time the sourcing costs may rise by higher administrative costs and research costs for new suppliers. Especially the investment in lithium can be considered as risky since industry expects a dramatically rise in demand and price due to development of lithium batteries for the mass car markets.
Intregrating procurement in the information system
Getting on the 21st century, POSCO saw the opportunity of a fully integrated information system and started to work on its own EPR/SCP. The new system called POSPIA integrated e-sales and e-procurement, both primary parts of POSCO’s value chain. Doing that, the company was able to create direct connections with its suppliers and clients in order to ensure a win-win situation.
“To guarantee transparent and fair transactions, the suppliers participate in e-Sourcing. Our user-oriented purchasing process utilizes an electronic supply system to simplify purchasing administration and reduce the lead time of supply. This system can be applied to source materials, MRO, equipment installation, and services. “POSCO website.
The Korean company used a web-based procurement system that supports its entire procurement process: registration of suppliers, placement of orders, bidding and contracting, payment and delivery of products.
The e-Procurement System’s main functionsAT Kearney’s Supply Strategies applied to the POSCO Case
AT Kearney as one of the most sophisticated consulting companies worldwide has develop a strategic map for sourcing strategies which they call „Einkaufsschachbrett“. With picking three additional strategies we would like to provide POSCO a comprehensive recommendation on international sourcing.
Sourcing-Comitees
By enforcing strategic sourcing alliances POSCO can significantly increase is bargaining power. So far most of the competitors are reluctant to cooperate which indicates this statement of the Japan Iron and Steel Federation”There is absolutely no way we can act together on national level or industry to industry“. But with rising prices due to the new spot market pricing system the steel industry might experience a consolidation melt down resulting in M&A and strong alliances.
Contract Management
Empowered by strategic partnerships with competitors and cross-buying of resources like lithium POSCO can renegotiate existing contracts.
Global Sourcing
As the biggest competitor AcelorMittal expands its supply network to very exceptional areas like Libera and Mauritiania. POSCO obtains its supply almost only form main mining spots as Australia, Brazil, India and China.
However, as we can see on the Figure 9, there is much potential for exploiting new supply in Africa, Kazakhstan or Siberia.