Characteristics

Current situation

Future trend

Main fixed costs

• Plant establishment;

• Equipment procurement and updating;

• Acquisitions of other companies (within horizontal or vertical integration);

• Managerial costs (relate to the increasing complexity of the firm and are considered as fixed since they will exist even there is no production).

It is high probable that main fixed costs will remain the same as time goes by, only their structure can change.

Main variable costs

• Iron ore, coke, scrap purchase;

• Electricity consumption;

• Transportation and other logistics costs;

• Labor costs.

Variable costs to a big extent are characterized by cyclical behavior.

It is high probable that main variable costs will also remain the same (the structure however can change significantly. For example, last years showed the importance of logistics costs and steel producers started to pay much more attention to supply chain management).

Economy of scale (scope)

Economy of scale is extremely essential for steel producers (the product is homogeneous and not differentiated). It is true both for minimills and large multinational producers. Effect is quite obvious and direct: more production a firm has, lesser average costs are. The last statement is moreover essential since fixed costs in steel industry are high.

Economy of scope is not substantial since steel producers have really homogeneous product line.

Economy of scale will be for certain of crucial importance in steel industry in the future as well. Economy of scope can’t be achieved since it is hardly possible that steel producers will manufacture something else than steel products.

Are there minimum efficient scale (MES)?

What is the efficient growth mode?

Minimum efficient scale in steel industry obviously exists and it is really high. The definite size depends on the technology used.

It seems that the efficient growth mode should be quite fast with try to operate at full capacity thus fully to utilize economy of scale (perhaps the only way to compete internationally is the strategy of mergers and acquisitions) and start from MES (so initial investment must be high).

MES can decrease as technology develops but it doesn’t suppose to be significant. Efficient growth mode also will not change.

Sensitivity of costs to capacity utilization

Costs are highly sensitive to capacity utilization, since steel industry is capital-intensive and role of fixed costs is high.

Since structure of costs will probably be the same in long-run sensitivity of costs to capacity utilization also will remain the same.

Behavior of marginal cost

Marginal costs of production extra output is low in the steel industry. They would diminish as output increases till some quite high point and after that starts increases (for a separate plant).

Obviously the situation will be the same in the future.

Exit barriers

Sizeable exit barriers: durable capital, low resale values, high closing costs, payments to employees.

Since main determinants of high exit barriers will hardly change in the future, exit barriers will also remain sizeable.

Characteristics

Current situation

Future trend

Segmentation of customers

Customers are segmented by region and industry.

1. Asia-Pacific accounts for 64.6% of the global steel market value. Europe - 21.7% of the global market. Americas - 12.1%, Middle East & Africa – 1.6%.

2. More than 50% of the total steel output is consumed by car manufacturers, especially the main companies as General Motors, Ford Motor Company, Toyota Motor Corporation and Honda Motor Company. The other key consumers of steel are shipbuilding, construction and engineering industries.

Segmentation by region can be changed slightly: Asia-Pacific will get bigger share (growth of China and India), while Europe and Americas will get a bit smaller shares. In industries there will be no significant changes, but customers will be more diverse within the industry (due to growing demands and changing preferences).

Does a buyer's purchase volume represent large fraction of typical seller's sales revenue?

Yes, steel producers and their buyers typically have agreements on which manufacturers produce a significant number of their sales to a particular customer.

There will not be any significant changes in the future, as buyers and producers in steel industry usually have strong relations and agreements, under which they operate with huge numbers of sales.

Switching cost

Switching costs are moderate. Buyers typically have contracts with producers, under which they buy certain types of steel to satisfy their particular needs. So, if a buyer decides to switch for another supplier, it will probably need to adjust its outputs to a new steel type offered by new supplier, as even minor changes in structure of steel can lead to serious changes in a product.

Future trend is the same to current situation. There is no trend. If a buyer is offered another type of steel, he/she will need to adjust its products to a new material, which is always costly.

Can buyers find substitutes for industry's product?

Generally, no. Though in automotive industry steel can be partially substituted by aluminum or some composites, car producers cannot fully replace steel with them, as switching costs are very high, and it is difficult to adjust all the facilities to use new material. Also, steel is cheaper. Moreover, steel is more environmental friendly because it can be recycled. In other industries, buyers cannot substitute steel with different products.

There will be no changes in future, perhaps until some brand new steel-like material is discovered.

Price elasticity of market demand

Very low. If the entire steel market increases price by some percent, there will be no noticeable changes in quantity demanded, as steel is always needed and can hardly be substituted.

If suitable substitutes appear, elasticity will be higher.

Price elasticity of demand for typical firm

Relatively high. If any individual firm increases price, customers may decide to switch to another supplier, as they need certain amounts of steel anyway. So, demanded quantity will decrease.

It can be even higher, if more diversified steel producers appear on the market.

Price elasticity of various customers

It can exist as in the following example. If a steel manufacturer increases price by 10%, shipbuilders will continue to buy it, but car manufacturers will decrease their consumption by 5%, so the demand will be changed by 2,5% (if not taking into consideration other customers).

There is no such trend; situation will be similar to current one.

Price discrimination (actual and potential)

Actual price discrimination exists in two ways.

1. Steel producers can charge different prices for domestic and imported goods. This is called dumping prices, and it is not legal, but some companies still do it, though they can be punished by anti-dumping laws of country to which they export.

2. Steel producers have a lot of contracts and collusions with their main buyers and government (as a buyer), there special prices are set for a number of buyer. For example, government may force manufacturers to set special prices for its ‘favorable’ companies.

In our case, there is no potential for other types of price discrimination, as steel is traded primarily on the basis of mutual agreements and contracts.

Illegal part of price discrimination can be decreased, as global and international legislations have been improving.

Versioning (actual and potential)

Actual versioning: on the global basis, customers may choose whether to buy cheap Russian steel of relatively low quality, or expensive Japanese steel of high quality. Also, in addition to regular steel, companies offer so called enriched steel, like zinc-coated steel, which is produced in almost the same way, but at the last stage zinc is added. This type of steel is more expensive. So, it can be considered as versioning.

We do not see any potential for versioning in steel market. Steel cannot be spoiled in order to maximize audience, as no one will buy frail steel.

There is no future trend; situation will be similar to current one.

Bundling and Tie-ins (actual and potential)

Due to specifics of the industry, steel cannot be sold in bundles or tie-ins. It is a truly separate product.

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Are prices negotiated on each individual transaction or set as take-it-or-leave-it" for all transactions?

Prices are typically negotiated on each individual transaction. Generally, parties sign a contract which determines prices for all the transactions.

Steel has started to be traded on a global exchange market recently, but on rather small scales. So, if steel is traded on a global exchange at sufficient volumes, it will be possible to buy it on exchange without negotiations.

Do buyers pose credible threat of backward integration? (for B2B)

No, most buyers cannot integrate backwards, as it is too complicated. Instead, steel producers can integrate forwards.

If some buyers broaden to a very sufficient extent, they may allow themselves to integrate backwards. Nevertheless, such threat is scanty.

Does product represent significant fraction of cost in buyer's business? (for B2B)

Obviously, steel represents significant fraction of costs for shipbuilding, construction and automotive industry.

This fraction can be decreased, as cars or ships tend to have more high-tech devices on board, which are rather expensive.