Following close on the heels of the first 2009 trend to watch - Steel Industry Consolidation - is the continuing move towards Vertical Integration. Historically, many of the challenges steel mills faced in the past were due to their lack of control of supplies of raw materials. For example in the early 90’s, when raw material prices rose for US mills, they were unable to raise their prices due to competition (and deep discounts) from abroad. Getting hammered and narrowly escaping total collapse taught the mills a valuable lesson and they now see Vertical Integration as a way to protect themselves in the future.

As a result, the line between Suppliers and Buyers in the steel industry is becoming blurred. Steel mills have used the increased profits to vertically integrate themselves to hedge against market volatility. Driven by fears of supply and price volatility, vertical integration has been much more focused on upstream supply of raw materials rather than downstream considerations involving the supply chain of finished goods. Mills are quickly steadying their raw material supply by acquiring iron ore and coke mines as well as scrap suppliers. This move by the mills is a very shrewd and calculated effort to avoid supply instability associated with a global shortage of steelmaking raw materials.

A great illustration of steel suppliers’ desire to diminish price volatility is shown by Nucor’s recent announcement that they are installing blast furnaces and have purchased shares of iron ore mines in the Caribbean. This move is significant because Nucor, like all mini-mills, historically buys scrap and melts the scrap in electric arc furnaces to provide the starting materials for finished steel. Their dependence on scrap makes them highly susceptible to the intense volatility in ferrous scrap pricing. Nucor’s planned installation of blast furnaces will use iron ore as the initial charge material, thereby allowing Nucor to compare the price pressures of iron ore versus scrap and plan production in the most cost-effective manner.

*** This post is based on my feature article, Steeling Your Profits, in this quarter’s issue of SupplyWatch. The full article is here and you can sign up for a free subscription to the electronic version in the top right corner of this page. ***

Mike Petro is the Senior Category Manager for Metals in Ariba’s Global Services Organization. Previously, Mike analyzed supply chain options and competitive pricing for US Steel and Timken Latrobe Steel.