Rising steel prices hit contractors

13 July 2010

Margins are coming under pressure as rebar prices increase sharply, but it remains a buyers’ market for other raw materials in the region

The region’s contractors are starting to feel the squeeze again. In the past four months, the price of steel reinforcing bars (rebar) and structural steel in the GCC has soared. Although the costs of other key raw materials as well as labour costs have remained unchanged, margins are coming under mounting pressure as clients continue to push for lower prices.

Rebar prices up

The latest survey of construction costs in the region conducted by the Dubai office of UK consultant Davis Langdon shows that since February the cost of rebar in Saudi Arabia has soared some 55 per cent, reaching $850 a tonne in June. Prices had averaged $550 a tonne in February.

The main reason behind the sharp increase in prices in the kingdom was the decision by state-owned steel manufacturer Saudi Iron & Steel Company (Hadeed) to raise its prices by more than 30 per cent in April. Hadeed supplies the majority of the kingdom’s rebar and it had, on the instruction of the Commerce and Industry Ministry, kept its prices low during the financial crisis.

Key fact on construction costs

The cost of rebar in Saudi Arabia has soared some 55 per cent, reaching $850 a tonne in June

Other local steel manufacturers were not subject to the same constraints and charged higher rates, while imports, mostly from Turkey and Qatar, were more expensive. As steel demand in the kingdom strengthened, the gap increased between the prices at the top of the market and those of Hadeed at the bottom. In some cases, this is understood to have led to several steel traders selling locally acquired steel at international prices.

Realising that middle men were profiteering, Commerce and Industry Minister Abdullah bin Ahmad Zainal Ali Reza in March warned that such vendors would be fined, along with anyone stockpiling steel to destabilise the market. The government later relented to pressure from the steel industry and allowed Hadeed to increase its rates.

For its part, Hadeed said that it had to increase its sales prices due to rising raw material costs. It is believed the company was actually making a loss on production at the time.

The good news for contractors is that steel prices are not expected to return to the record highs of 2008

Structural changes earlier this year in the global pricing mechanism of iron ore has led to a doubling of the underlying cost of steel production worldwide.
“The demise of annual pricing mechanisms for iron ore [and coking coal] exposes the industry to much greater price volatility,” says Davis Langdon in its iron ore and steel cost briefing, published in April. “Steelmakers will no longer commit to long-term prices. Fabricators will also be unwilling to accept contract conditions that demand long period fixed prices, at least while spot prices for bulk materials are moving so rapidly,” the report says.

For 40 years the world’s largest iron ore producers entered into annual fixed price contracts with major consumers, but increased Chinese demand in particular led to a rise in spot prices and a large disparity between the two markets. As a result the major suppliers decided to shift to quarterly pricing for fixed contracts to ensure the rates remained closer to the rising spot prices. Iron ore prices for fixed contracts that were $60 a tonne in 2009 are now up to $120 a tonne. Meanwhile, spot prices peaked at $182 a tonne in April.

Other markets in the region have also seen sharp increases in steel prices. In the UAE, rebar cost $545 a tonne in February and is now hovering some 30 per cent higher at $708 a tonne. Higher prices of $817 a tonne have also been heard in the market. In Qatar, levels have risen more than 40 per cent from $595.50 a tonne in February to $843.50 a tonne in June. The increases have been made more severe in these markets by the strength of demand. By comparison Bahrain has seen climbs of just 25 per cent. Rebar consumption across the region is generally higher, increasing 18.5 per cent in the first quarter of 2010, compared with the same period in 2009, according to the Arab Iron and Steel Union.

The price hikes for structural steel have been less dramatic due to lower demand for these products. In Saudi Arabia, the average price has risen from $1,450 a tonne in February to $1,550 a tonne in June. The biggest increase was in the UAE, which relies on imports. Prices jumped from $732.5 a tonne to $1,090 a tonne. But further increases are on the cards. Industry experts are forecasting structural steel prices to climb some 10-15 per cent over the next nine months.
The good news for the region’s contractors is that steel prices are not expected to return to the record highs of 2008. Factors such as increased transport and energy costs that contributed to prices spiralling out of control two years ago are not an issue at present.

Stable markets

For now the costs of other key construction materials in the region are stable. Cement prices have remained flat for the past four months. UAE cement manufacturers report low demand and only Abu Dhabi continues to absorb the capacity in the market. Some suppliers have succeeded in redirecting volumes to Oman and Qatar, but others say the transport and logistics costs make exports unattractive. In the UAE, a 50 kilogramme bag of cement has been priced throughout the first half of the year at $3.7. Ready-mix, however, has fallen from $94 a cubic metre in February to $78 a cubic metre in June.

Qatar reports the same trend with prices hovering at $4.4 a bag for cement, while ready-mix has fallen from $104.5 to $98.5 a cubic metre. Bahrain has seen cement prices fall, mainly due to oversupply in the Saudi market benefiting its neighbour, which sources most of its cement from the kingdom. Prices in Saudi Arabia, the region’s largest cement producer with 12 major suppliers, remain depressed as the market is hampered by three key rules from the Commerce and Industry Ministry. The first is that they must sell cement domestically at SR200 ($54) a tonne. Secondly, all local demand must be met before exports can be made and finally each producer must keep a 10 per cent production capacity in reserve. Although local demand remains strong, capacity is growing fast and is expected to climb from 45.1 million tonnes a year (t/y) in 2009 to 50.2 million t/y by 2015. This is keeping prices low.

Labour costs

Given the protracted slump in the region’s construction markets it is no surprise labour costs have remained stable since February. Competition for staff has all but fallen away as firms now struggle to keep their workers busy. For many companies, their workforce is considerably smaller than it was two years ago.

The pressure on salaries that led to expatriate salaries peaking at $21,000 a month in the UAE in December 2008 is now a thing of the past, with salaries stabilising at $15,000 in the first half of 2010. Rumours that labour ministries were set to introduce a minimum wage for site labourers have been quashed as day rates remain stable at about $25-$30 in the region.

Cement prices and labour may be stable, but contractors report that rising steel prices are severely affecting their cost base. “Competition is becoming fierce in some markets, with a minimum of 10 firms bidding for a project,” says an executive at a major contractor “The winning company seems to be the one that reduces its margin the most and that is increasingly difficult as prices have gone up significantly.”

A rebound in steel prices was, however, anticipated following the steep declines in the wake of global financial crisis. Rebar prices dropped as low as $400 a tonne in the UAE in December 2008.

The renegotiation of the iron ore pricing mechanism means rates will now track the spot market more closely and it will become a more demand-driven market. This will give less certainty to steel producers, but at the same time it opens up the derivatives market to firms that wish to manage their overheads by hedging against the price of iron ore. International banks are understood to be working on Sharia-compliant derivative structures for commodities in the region.
Although price increases are under way, supplies remain plentiful and it remains a buyers’ market for construction commodities.

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