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Integrated Steelmakers






Integrated steelmakers had long operated as a stable oligopoly led by U.S. Steel. U.S. Steel was formed by merger in 1901 in a transaction that capitalized its value at $1.4 billion, or about 7% of U.S. GNP.2 The merged entity pursued a policy of price leadership that

2Thomas K. McCraw and Forest Reinhardt, " Losing to Win: U.S. Steel's Pricing, Investment Decisions and Market Share, 1901-1938, " journal of Economic History (September 1989): 594.

 

brought stability to a cyclical industry and healthy profits to its shareholders. However, that policy also encouraged entry and expansion by other integrated steelmakers. By World War II, U.S. Steel's share of the U.S. steel market had slipped from two-thirds at the time of its formation to one-third.

In the aftermath of World War II, U.S. integrated mills as a whole accounted for about half of the world's raw steel production. They were mostly clustered in the Great Lakes region in order to optimize the distance between their main market in the Midwest and their sources of coal and iron ore in Ohio, Pennsylvania, West Virginia and. Minnesota. They also' possessed leading-edge technology, efficiently-scaled plants, and the lowest operating costs in the world. These advantages produced healthy profits through the late 1950s. Since then, however, integrated U.S. steelmakers' after-tax return on equity (ROE) had exceeded the average for U.S. manufacturing in only one year 1974.

This decline in performance was attributed in large part to the failure of the integrated U.S. steelmakers to commit quickly to new technology (see Exhibit 4). They continued to invest in open hearth furnaces through the early 1960s despite the advent of the basic oxygen furnace, which reduced the cycle time for converting iron into steel from 10 hours to 30 minutes, and ended up, as one source put it, with 40 million tons of the wrong kind of capacity.3 They also trailed in adopting continuous casting, a process that permitted molten steel to be cast into slabs ten inches thick, eliminating the intermediate steps of casting it into much thicker ingots that had to be reheated to be shaped into finished products. Continuous casting thereby reduced the cost of manufacturing basic steel products by about 15%. Conservative customers shared some of the responsibility for U.S. steelmakers' tardiness in adopting this innovation: they had, for example, resisted U.S. Steel's installation of its first continuous casters by explicitly ordering ingot-cast steel because of their concern about the relatively minute internal differences between steel cast by the two processes.

In the 1960s, less expensive and increasingly higher-quality imports began to erode the integrated mills' domestic market share. Import penetration was accelerated by poor management-labor relations which, after deteriorating throughout the 1950s, culminated in a 115-day industry-­wide strike in 1959 by the United Steel Workers. That year, the United States became a net importer of steel for the first time in the twentieth century. Imports' share of U.S. domestic demand increased from 5% in 1960 to 17% by 1968 and fluctuated widely around the latter level through 1980 for reasons largely related to shifts in exchange rates and the imposition, removal and reimposition of trade restrictions. Since 1980, imports' share had edged up by another five percentage points. Their share of the flat sheet segment had been slightly lower, reaching 18% in 1986.

Integrated U.S. steelmakers initially responded to this surge in imports by increasing their investment rates and outspending their Japanese and European rivals in the 1960s and 1970s per ton of capacity installed or replaced. Much of their capital spending was absorbed, however, by " catch­up" investments such as basic oxygen furnaces and continuous casters; they continued to spend less of their sales on R& D. They also spread their capital expenditures thinly across existing plants instead of building new ones, locking into high electricity rates and creating " a mish-mash—100-year-old stuff fitted into two-year-old stuff." 4 The efficiency of their investments was also constrained by union contracts. The annual compensation premium for a U.S. steelworker relative to the average. manufacturing worker increased nearly tenfold since the early 1960s, to $13, 000 by 1979.5

3 Business Week (November 6, 1963): 144-146.

4The Wall Street Journal (April 4, 1983): 11.

5 William E. Fruhan, Jr., " Management, Labor, and the Golden Goose, " Harvard Business Review (September-October 1985): 137.

 

To make matters worse, inflexible work rules obstructed job redesign and technological innovation. Bureaucracy bore some of the blame as well: an integrated steelmaker might spend years studying an investment project and, if it decided to press ahead, another few months just processing the paperwork. Finally, rising debt-to-capital ratios curtailed and even choked off modernization programs in midstream. As a result/by the late 1970s, integrated steelmakers had only partially eliminated their cost disadvantage vis-a-vis imports, which were then being restricted by a system of trigger prices, and minimills which were rapidly expanding their share of domestic shipments.

As the 1970s ended, integrated U.S. steelmakers began a dramatic restructuring of their operations. They cut steelmaking capacity from 145 million tons in 1979 to 107 million tons by 1986, with the largest of them shouldering a disproportionately large share of the cutbacks. Their pattern of capacity reductions left them focused on flat-rolled products (82% of shipments in 1980), particularly flat sheet (75% of shipments). Over the same period, total industry employment declined from 450, 000 to 175, 000, while the compensation premium for steelworkers relative to manufacturing averages, after increasing from 72% in 1979 to 92% in 1982, fell to 62% by 1986. Labor productivity nearly doubled as a result. But integrated steelmakers' restructuring efforts continued to be hampered by some of the same factors that had previously constrained the efficiency of their investments as well as by linkages among their plants, political entanglements, and their desire to avoid write-offs that would wipe out their book equity. The seven largest integrated steelmaking operations lost $13 billion over the period 1982 - 1986. In 1986, their labor costs remained considerably higher than those of domestic minimills and competitors from newly industrializing countries: between $100 to $150 per ton of steel, compared to $35 to $70 per ton.

U.S. Steel, LTV Steel and Bethlehem Steel were the three largest U.S. integrated steelmakers in 1986, with 59% of total integrated steelmaking capacity and 49% of integrated flat-rolling capacity.6 U.S. Steel was renamed USX to reflect its acquisitions earlier in the decade of Marathon Oil and Texas Gas USX modernized its integrated mill at Gary, Indiana, and started to do the same at Fairfield, Alabama. It also entered into a joint venture with Pohang Iron and Steel of South Korea to procure hot-rolled sheet for one of its other mills. Its steel operations suffered, however, from an on-going strike that began on August 1, 1986. LTV Steel was created in 1984 through a merger of Jones & Laughlin Steel, a subsidiary of the Texas conglomerate, LTV (which had absorbed Youngstown Sheet & Tube in 1978), and Republic Steel. The merged company sought protection from its creditors under Chapter 11 of the bankruptcy laws in July 1986. Bethlehem Steel refocused its operations more closely on steel in the 1980s. Its integrated mill at Burns Harbor, Indiana (the last " greenfield" integrated mill built in the United States in the 1950s), was regarded as relatively efficient, and the company was in the process of modernizing its other large integrated mill at Sparrows Point, Maryland, although that effort had lifted its debt-to-capital ratio to 65%. Exhibit 5 summarizes some of the key operating and financial statistics for these three competitors in 1986.


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