Take Sims’ North American business, where the company reported that volatility steadily increased in the six months to December 31 due to “uncertainty surrounding tariffs, trade wars and Turkey’s position in the market”.
The latter is particularly important. Turkey is the biggest importer of ferrous (iron) scrap from the United States, but big problems in the Turkey’s domestic economy have created some volatility in terms of demand and selling prices.
At the same time, ferrous scrap purchase prices have been bouncing around too, with competition for purchasing scrap particularly strong at selected North American sites during the December quarter.
In October and November, purchase prices for scrap jumped, crimping Sims’ margins. While the company was able to recover some margins in December, it wasn’t as much as expected.
The Turkish issues had the biggest impact on Sims’ European business, where underlying EBIT plunged by almost 88 per cent.
Sims has traditionally had a strong position in the “deep sea” part of the Turkish market, where prices for scrap are generally better than the other sectors, such as the short-sea, container and domestic segments.
But the premium disappeared with Turkey’s economic malaise in the December half. And even worse for Sims, competition for scrap has meant that purchase prices haven’t fallen to compensate for the lower premium, resulting in another hit to margins.
There are also margins challenges in the non-ferrous scrap market (this scrap doesn’t contain iron, and includes scrap containing aluminium, copper, brass, lead, zinc, stainless steel) thanks to changes in the Chinese market.
In the last few years the world’s biggest economy has introduced a series of grandly-named initiatives – National Sword and Blue Sky – that have restricted scrap imports on environmental grounds.
Sims has responded by upgrading its facilities to produce higher quality and more refined scrap products, but the improvements driven by the investment won’t flow through until the June half of the 2019 financial year.
So while margins are being hit by higher investment on one hand, the National Sword initiative has seen earnings from sales of items such as insulated copper wire and electric motors fall.
China announced a further round of tightening on imported scrap in December, and while details are limited, UBS believes up to eight more categories of scrap could go on this restricted list. The bank sees this as another step towards a total ban of scrap by the end of 2020, which would of course put even more pressure on scrap prices.
Sims managing director Alistair Field will deliver the company’s interim earnings on February 20.
No doubt he’d love to deliver those numbers against the backdrop of a trade deal between China and the US. But such a deal will only relieve some of the pressures on this business.