BRS, Koch to drive new steel, scrap price model

Big River Steel plans to partner with Koch Metallics LLC in an effort to overhaul how steel, scrap and other metallics are bought and sold, the steelmaker’s top executive said.

The pact between the electric-arc furnace (EAF) flat-rolled steelmaker and the subsidiary of Koch Minerals and Trading LLC means that Koch will act as the exclusive agent to Big River for procuring metallics, according to a news release dated Wednesday June 17.

“Koch is looking to broaden and deepen its involvement with BRS and in the metals space, so this is a perfect opportunity to marry the skills and experiences of BRS with the skills and experiences of one of the largest industrial companies in the world,” Big River Steel chief executive officer David Stickler told Fastmarkets in an exclusive interview.

Koch holds an approximately 15-20% stake in Big River Steel, down from the roughly 40% stake it held before U.S. Steel bought a 49.9% stake in the Osceola, Arkansas-based steelmaker last fall, Stickler said.

As part of the move, Martin Baker, Big River Steel’s metallics procurement manager, will join Koch as metallics procurement and conversion manager, Stickler noted.

The future is futures
The procurement of metallics – scrap, hot-briquetted iron and pig iron – is the largest single cost for Big River Steel. And Koch, also one of the largest commodity traders in the world, is uniquely positioned to help lower those costs, Stickler said.

Pig iron, for example, is typically sourced from Brazil, Ukraine or Russia and priced on the basis of delivery to US ports such as New Orleans.

“A large cost component of buying metallics is logistics,” Stickler said. “We now have the infrastructure – no matter where in the world – to buy metallics on a point of origin [basis] rather than a delivered basis.”

Big River Steel will also team with Koch in an effort to drive more steel and scrap trading onto electronic platforms. “Rather than doing everything by email and phone calls, we’ll be doing things electronically on electronic procurement boards, where it will streamline what remains a fairly antiquated system,” Stickler said.

The companies also will seek to drive more business onto futures exchanges. “There is no reason that you can’t hedge scrap very easily – yet you can hedge aluminium all day long, you can hedge copper all day long and you can hedge zinc all day long,” he said. “This isn’t going to happen overnight. But having an industry where you are not able to use hedging and electronic trading, it’s inevitable that it’s going to change – it’s inevitable.”

But not all exchanges will benefit equally from that additional volume, Stickler suggested. “We look at all the exchanges as far as helping to improve liquidity, and we will continue to do that. Ultimately there will be an exchange that gains the most momentum, and people will gravitate to that exchange,” he said.

And just as one exchange might ultimately triumph, so might one pricing index, Stickler indicated. “If you have one index and you develop an aggressive futures market – having both scrap and steel traded off of the same index – it provides that much more liquidity,” he said.

Basis risk: Seek and destroy it
The main goal is to manage the volatility – or “basis risk” in statistical jargon – that can occur, for example, between hot-rolled coil and scrap, given that they are priced on different indices and at different frequencies, Stickler said.

Steelmakers as well as steel consumers such as automakers face significant basis risk when buying and selling scrap via traditional means, he noted.

A steel mill might buy scrap based on one index, such as Fastmarkets’, and sell steel based on another index. And the opposite is true of a steel seller, who is buying steel based on one index and selling scrap based on another, he said.

Scrap is generally priced monthly, and HRC – a benchmark flat-rolled steel product – is priced weekly on some indices and daily on Fastmarkets. “And those two indexes, while they tend to generally be correlated, they are not perfectly correlated. So you have… basis risk, which is a different movement directionally or percentage-wise in the way an index moves against another index,” Stickler said.

In such a situation, the only party not exposed to basis risk is the scrap broker, because the broker buys and sells scrap based on the same index.

Take the case of a steel consumer that generates scrap as part of its manufacturing process. “Most companies right now, they’ll take that scrap and sell it to a third party [a scrap broker] for X dollars per ton. That third party will do nothing other than go and collect it and sell it to the steel mills at X plus. So a third party is making the plus… There might be more efficient ways to handle that,” he said.

Big River Steel wants to cut out the middleman – or at least narrow the list of middlemen – by encouraging closed-loop recycling akin to that practiced by automakers such as Ford with its aluminium suppliers and by promoting pricing based on what it costs to convert scrap to steel rather than on the price of scrap or steel itself, Stickler said.

“We convert that [customer-provided] scrap into steel, so our customer knows what it is going to cost month in and month out because they are not buying steel and they’re not selling scrap – they are simply paying a conversion fee,” he said.

Big River Steel intends to hold scrap suppliers accountable to high safety, environmental, quality and on-time delivery standards – just as automakers, energy companies and the construction industry hold steel mills accountable, Stickler said.

“What we don’t like is, one month we get good-quality scrap from one shipper, and then the next month we get less than good-quality metallics from the same shipper,” he said. “And what we’re going to do, working with Koch, is identify a smaller handful of shippers that will get an ever-larger amount of our business. But in order to be one of those selected shippers, you are going to have to go through a rigorous evaluation process, which will include quarterly and annual scorecard evaluations and audits – just like Big River Steel goes through with their customers.”

And scrap brokers – if they hope to work with Big River Steel – might want to upgrade their information technology. “To the extent that you’re a supplier that prefers the more outdated ways of conducting business – which is less than fully transparent, less electronic – those people, at least from Big River Steel’s perspective, will probably get less and less business.

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