Could the government step in to save stricken British Steel?

Observer |

To see the Scunthorpe steelworks in action is to witness British manufacturing prowess at its most visually stunning.

Huge slabs of steel, glowing orange with heat, flow seamlessly through the plant, destined to become anything from paperclips to the steel ropes that support the Humber Bridge. Even from a safe distance, the searing 1,000-degree temperature created by this round-the-clock process is uncomfortable to bear.

Within a matter of months, though, this industrial wonder may well have gone cold. British Steel, which owns the site, collapsed into insolvency last week less than three years after it appeared to have been saved by private equity group Greybull Capital, which bought it for £1 in 2016.

Greybull, which can expect to face some bruising questions from MPs about its patchy record of business “rescues”, cited Brexit-related factors for the crisis, including a fall-off in orders from overseas.

Foreign customers have turned to rival steelmakers amid persisting uncertainty about the tariffs that will apply to the UK’s steel exports after Brexit. Orders, said a source close to the company, had simply “dried up”.

The official receiver, the state employee overseeing the company’s insolvency, is now in a race against time to find a buyer before the financial burden of running it becomes intolerable. Otherwise, the flames of one of Britain’s last two blast furnaces are at risk of sputtering out.

That prospect, according to local Labour MP Nic Dakin, “should be unthinkable to all us all”. There are compelling reasons to agree.

I am concerned the PM’s resignation will mean the government take their focus off of saving the steel industry

Nic Dakin MP

Blast furnaces such as the one at Scunthorpe make steel from scratch and, once shut down, are more or less impossible to replace. Greener, less energy-intensive electric arc furnaces, of which the UK has four, can make steel by recycling scrap. At present, though, they do not achieve the quality levels that a blast furnace can, at least not without incurring great expense in removing impurities.

And the ability to make such high-grade steel domestically is crucial to a nation’s defence capability. Steel is used in aeroplanes, ships, guns, tanks – more or less everything the military uses. If Scunthorpe were to close, the UK would be left with one blast furnace, at Port Talbot in Wales, which does not make the same products.

It isn’t just in wartime that steelmaking comes into its own. The IPPR thinktank has been relatively conservative in its estimate of how many jobs could go if British Steel goes under: including 5,000 direct employees and the supply chain, it pitches the number at 12,000 compared with some estimates of 25,000. But the IPPR’s chief economist, Carys Roberts, says that it is the kind of jobs at risk and their location, as much as the overall number, that should cause alarm.

“Our estimate is that it would take £2.8bn of wages out of the economy over 10 years, even assuming that those people find new jobs at the rate you’d expect,” she said. “If you concentrate that in particular areas, it has a huge impact on the local economy.

“What we see with a town like Scunthorpe is that people say it is built around steel, and if you take that out, the town will die.”

According to the trade body UK Steel, jobs in the industry pay 50% more than the average wage in areas such as south Wales and Yorkshire, where much of the industry is based. “It’s not so easy to replace these jobs: they are higher skilled and higher paid,” said Roberts.

The ripple effect of a collapse would also rock the boat for some of British Steel’s customers. Network Rail buys 97% of the steel used to build and repair the UK’s railway tracks from the company, to the tune of about 100,000 tonnes a year. It has contingency plans in place to buy from European suppliers, but steel industry sources have pointed out that this would result in increased costs, likely to be passed on to rail users and taxpayers.

Scunthorpe’s steelworkers also make particular grades of the alloy that are not easily sourced elsewhere. Some are used in the construction industry, others made to order for companies that produce steel fastenings, or the metal springs used in mattresses and furniture. Businesses in those sectors face higher costs – even supply shortages – if British Steel disappears.

Assuming that it is desirable to avoid such fallout, what are the impediments to a state rescue? Some commentators have sought to blame the EU’s state aid rules, which preclude governments from propping up failing businesses. Indeed, the business secretary, Greg Clark, said that pumping £30m into the company, as was requested under its former owner, would have been “unlawful” under EU rules.

Tempting as it might be to blame Brussels, there are holes in that argument. World Trade Organisation rules, which the UK would still have to abide by outside the EU, also place restrictions on state aid, and any free trade agreement signed with the EU post-Brexit would almost certainly have similar constraints attached.

EU-friendly observers also point out that the European commission, the EU’s executive arm, has defended Europe’s steelmakers from the threat of China – the world’s biggest steelmaker by far – flooding the market with subsidised products.

Further, it is not a given that a Conservative government with a free-market ethos would be ready to plough taxpayers’ cash into an underperforming private company.

Nor should it necessarily be the case that EU membership crimps state aid: in 2015, France spent 0.65% of its gross domestic product on state aid schemes, while Germany spent 1.2% of GDP. The equivalent proportion of spending in the UK was just 0.35%.

And some feel that the UK could be doing more within the existing framework of rules. Just 43% of steel bought by the government comes from the UK. Not all the grades required are made domestically, but UK Steel has said there is headroom for more.

The steel industry’s other great complaints are on energy costs and business rates. The government’s industrial strategy, which includes deals tailored to support specific sectors, has offered very little to lighten the load, according to a recent report by the business select committee. Now fears are growing that the political turmoil in Westminster will make it even harder to find a solution for British Steel.

“I am concerned the prime minister’s resignation will mean the government take their focus off of saving the UK steel industry and British Steel’s sites in Scunthorpe and Teesside,” said Dakin. “This cannot be allowed to happen.”

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer

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