The groundbreaking quarterly price contract between the Anglo-Australian BHP Billiton, the world’s largest miner and Japanese steel maker JFE Steel on coking coal is of consequence for us because of our growing dependence on imports for the metallurgical grade fuel. The new contract to run from April to June marks a triumph for BHP more for shortening the validity to a quarter from a year than for raising the price by 55 per cent to $200 a tonne from the prevailing $129 a tonne. BHP is the world’s largest coking coal exporter.
The new contract price comes at a discount to spot prices of $220 to $240 a tonne. As we are seeing over the last few years, contract price negotiations for iron ore and coking coal become acrimonious before settlements are reached. In the present instance, BHP, which for whatever reasons decided to strike the benchmark deal this time with JFE instead with Nippon Steel as was historically the case was asking for a price of $240 a tonne.
The trade off for the miner was to give a $40 discount to the originally pitched price for a much shorter tenure contract. All miners stand to benefit from quarterly contract since it has the merit of tracking spot prices more accurately than is the case under the present regime.
Now that the landmark agreement has been reached, the other steelmakers, including the ones here producing the metal through blast furnace route are likely to follow suit. This, however, does not mean that coking buyers on contract basis will not seek reversal to yearly tenure at any point in future. Immediately after conclusion of the quarterly contract for the first time in 40 years, a JFE spokesperson said “This does not mean we accepted their (BHP) call for a shift to shorter term contracts.”
Whether quarterly contracts become de rigueur will be known when new price negotiations begin in July. What should not be lost sight of is the resistance that the Japanese initially put up against contracts shorter than a year. This is because such shorter contracts are in conflict with long-term product sales commitments of Japanese steelmakers to their key customers such as automobile manufacturers. JFE says that it still wants to negotiate annual contracts.
Also to be reckoned is the observation of the mining analyst with Macquaire Securities that the BHP-JFE contract “doesn’t mean this is the death of the benchmark, but it certainly means that we are well down the path towards the evolution of pricing framework. It’s an important development of moving to prices that are reflective of the fundamentals and associated market rate.”
Who will deny that the fixing of the contract price four times in a year instead of once often accompanied by unseemly fights will usher in flexibility for the price to honestly mirror the “supply-demand characteristics and therefore, pricing of the day.”
The miners are now likely to try to bring iron ore, the most voluminously shipped commodity, within the quarterly contract fold again on grounds of more effective tracking of cash prices. Mark this statement from BHP, which claims to have reached terms for a “significant portion” of its hard coking coal volumes for 2010 based on a structural change to shorter term closely representing the market price.
It says: “These settlements show the company’s commitment towards achieving market clearing prices over time across all its bulk commodities.” What this holds for iron ore is not left to imagination.
Gujarat NRE chairman Arun Jagatramka says “The quarterly agreed price for coking coal is in line with our expectation. I don’t see the possibility of coal prices falling in the near term due to growing global shortages.”
As is the case with many other minerals, explosion in Chinese demand, thanks to the country raising steel production by 13.5 per cent to 568 million tonnes in 2009, and global shortages have sustained bullishness in coal. According to Jagatramka, Chinese clampdown on illegal and unsafe mines will explain the country’s imports of 30 million tonnes of coking coal last year. If anything, China will be importing more coal this year.
Coal deficits arising from growing demand from the steel sector and Chinese coal production rollback could perhaps be met from the US, Canada and Australia. But finding new deposits and opening of mines are a long gestation game. In the meantime, Morgan Stanley says a 60 per cent rise in annual contract price for iron ore is possible. After all spot ore prices on a landed China basis are around $133 a tonne, double the 2009 FoB benchmark.
SAIL chairman Sushil Roongta says sharp rises in raw materials prices will test the steel industry’s capacity to pass on incremental costs to consumers without upsetting the demand growth. The industry is likely to see its costs going up by up to 30 per cent.
