Mining - A Return to Veritical Integration

The industrial metal industry is composed of two primary commodity groups - steel and aluminum. Historically, both industries used to be vertically integrated as they would both engage in everything from mining to distribution. Aluminum is still highly integrated, but steel companies sold off their mining and distribution resources in the distant past to reduce their operating leverage. Apparently though, the rise of iron ore and coal prices is leading many steel manufacturers to reverse integrate into mining...

World's Steelmakers Go Prospecting

Industry Plows Profits Into Buying Coal, Ore Mines To Reduce Vulnerability to Rising Commodity Prices

By ROBERT GUY MATTHEWS
June 20, 2008; Page B1

Soaring raw-materials costs are forcing the world's steelmakers to shift strategy. Now, rather than seeking merger partners in their own industry in hopes of gaining market clout, they are trying to protect their access to iron ore and coal by investing in mines.

Steelmakers often owned their own mines in the industry's early days because few other companies had the capital needed to operate them. But in today's climate their goal is to lessen their dependence on big mining companies, whose steep price increases are squeezing steel-making profits. The steel industry's race for minerals, however, pits it directly against those mining giants, who are equally eager to snap up any coal or iron-ore deposits that go on the block.

ArcelorMittal

An open-pit ArcelorMittal iron-ore mine in Canada

A consortium made up of Chinese steelmakers and China's sovereign wealth fund is entering the initial round of bidding for a stake in the iron-ore unit of Brazil's Companhia Siderurgica Nacional SA, people familiar with the situation said Thursday. The group's interest, though preliminary, shows the importance China places on securing supplies of ore and other natural resources amid the current commodities boom.

ArcelorMittal, the world's largest steelmaker, having recently purchased a series of iron-ore mines in Africa, Canada and Russia and coal mines in Kazakhstan, India and South America, now touts itself as the "world's fastest-growing mining group." Last month, it spent $631 million to buy a 14.9% stake in Australia's Macarthur Coal Ltd., the world's largest producer of pulverized coal, a type of coking coal used in steel making, thwarting Swiss miner Xstrata PLC's plans to take over Macarthur.

"Ensuring a reliable source of raw-material supply is more important than ever," Lakshmi Mittal, chief executive of ArcelorMittal, said in an interview. The steelmaker, whose mines supply about 46% of its raw-materials needs, has set aside $5 billion to buy enough of them to provide 70% of its needs by 2012.

Since 2003, the steel industry has been swept up in a wave of consolidation, with steelmakers bulking up to feed the developing world's growing demand for bridges, buildings, power plants and other infrastructure projects. Among other deals, Arcelor SA of Luxembourg merged with Mittal Steel Co. of India and another Indian company, Tata Steel Ltd., merged with Britain's Corus Group. But, now, that wave is decelerating.

Instead, steelmakers are plowing their profits into reducing their vulnerability to spikes in raw-materials prices. In the past year, coal prices have more than doubled, while iron-ore prices have risen about 70%.

"The structure of the steel industry is changing," says Peter Fish, chairman of MEPS International Ltd., a London-based steel research and consulting firm. "It used to be that raw materials accounted for 15% of selling prices. They now account for about 50% of selling prices."

Some analysts say steelmakers are buying at the top of the commodity cycle and overpaying as a result. But with both mining companies and steelmakers vying for the same limited assets, many steelmakers feel they have no choice. Moreover, they say greater self-sufficiency will pay off in the long run.

While China is a huge consumer of steel, it is largely bereft of quality iron-ore deposits, which is why several Chinese steelmakers are moving to secure their own supplies.

CSN, one of Brazil's leading producers of both steel and iron ore, has invited bids for all or part of Nacional Minerios SA, or Namisa, its unlisted iron-ore unit. Major Chinese producers including Baosteel Group Co., Shougang Group and Shagang Group, as well as China Investment Corp., a $200 billion investment pool run by the Chinese government, are interested in the unit, one person familiar with the matter said. But the final composition of the consortium isn't finalized yet, this person said.

CSN has hired Goldman Sachs Group Inc. as its financial adviser for the sale

Last Friday, Sinosteel Corp., a state-owned Chinese steelmaker said it boosted its stake in Australian iron-ore group Midwest Corp. slightly to nearly 44%, further boosting its efforts to take over Midwest.

Other, smaller Chinese steelmakers are also trying to line up more iron ore. Tonghua Steel, the largest steelmaker in northeast China's Jilin province, plans to buy or invest in eight mines near its mills. Company officials say Tonghua can supply only about 20% to 30% of its own iron-ore needs and has to turn to mining companies for the balance. The company hopes to increase its self-sufficiency in ore to more than 50% by the end of 2010. Taiyuan Iron & Steel, a carbon- and stainless-steel producer based in northern China's Shanxi province has said it plans to raise its self-sufficiency to 80% from 50%.

As Chinese steelmakers go on the prowl for resources, Marius Kloppers, chief executive of Australia-based mining giant BHP Billiton Ltd., one of the world's biggest iron-ore producers, said he wouldn't be surprised by a Chinese buy-up of his company's shares.

The race for raw materials is also heating up in other parts of the world. Brazilian steelmaker Usinas Siderurgicas de Minas Gerais SA, or Usiminas, said it will spend $750 million to invest in more mines over the next five years to nearly quintuple its iron-ore production to 29 million metric tons a year. Usiminas already has spent $1 billion this year to buy miner J. Mendes and its subsidiaries. In India, Steel Authority of India Ltd. and Tata Steel signed a deal earlier this year to form a joint-venture coal-mining company.

Write to Robert Guy Matthews at robertguy.matthews@wsj.com¹

Utilities - power distribution

The main processes in power delivery are, by order:

• Central generation
• Transmission
• Distribution
• And retailing

How it works...

THE BIG PICTURE –
How Electricity is Delivered When and Where it is Needed (In California)

Power Plants
Electricity is produced by a variety of resources, including natural gas-fired generators, hydroelectric units, nuclear stations, wind farms, geothermal fields, solar facilities and biomass plants.

Wholesale Power Market
Utilities and other energy service providers use their own power plants or negotiate short- and long-term contracts for power deliveries. Most of the state’s electricity is traded through these contracts prior to being scheduled on the California ISO grid.

Scheduling Coordinators
Companies that schedule their electricity deliveries through the California ISO are called Scheduling Coordinators.

The California ISO Grid
As the nerve center for the majority of California’s power grid (some municipal utilities operate their own transmission lines), the California ISO routes electricity from power plants to substations using the wholesale transmission system.

Substations/Utility Companies
Power is “stepped down” in voltage for distribution by local utilities to homes and businesses.

Consumers
End-users of electricity create the “demand” for power, which can rise and fall depending on weather, time of day and economic conditions. Consumers may be asked to conserve when demand is high or supply is low.

How the California ISO Operates the Wholesale Superhighway for Electrons

1 – Forecasting power comes first. Via the internet, the California ISO publishes a forecast for the power consumers will need 24 hours in advance and then refines the forecast every hour ...

2 – Never buying or selling electricity itself, the California ISO acts as an electronic clearinghouse for nearly 15,000 market transactions every hour between buyers and sellers, tracking prices and running sophisticated settlement systems ...

3 – Schedules for electricity delivery are submitted to the California ISO the day before the power is needed....

4 – The California ISO runs the schedules through a complex computer system to mitigate congestion and account for reserves necessary to make sure the “lights stay on”. Less than five percent of the state’s energy is traded in the California ISO markets; the majority by far is purchased via third party markets and contracts ...

5 – Because electricity is the only commodity consumed the instant it is created, the California ISO takes a pulse of the power grid every four seconds to ensure there are enough electrons flowing to meet consumer demand for power ...

6 – As controller of 20 transmission paths that crisscross the state, the California ISO acts as the gatekeeper to the grid, determining how much power can flow at all of the import/export points ...

7 – If the California ISO sees the demand for power climbing higher than anticipated, it can add additional power from plants located both in and out the of the state to meet the need ...

8 – Dispatched power comes from generating units that have bid into the California ISO’s electronic auctions, which automatically set a market-clearing price aimed at fostering reasonable wholesale costs.

Retail: Steve & Barry's not profitable?

In a entry back in May I had speculated as to how Steve and Barry could be out doing Wal-mart to such a large degree. Apparently they're not out doing Walmart - they're hardly profitable. In fact, a sizable portion of their revenue apparently comes from the malls that they're leasing stores in. To quote:

But some of the forces pushing Steve & Barry's growth were not tied to end-consumer demand, but the needs of mall owners in a softening commercial-real-estate market. Much of the company's earnings came in the form of one-time, up-front payments from mall owners. Those payments were designed to lure the retailer to take over vacated sites, say several people familiar with the company.

Steve & Barry's Faces Cash Crunch

Fast-Growing Chain
Seeks $30 Million;
Chapter 11 May Loom

As one of the country's fastest-growing store chains, Steve & Barry's LLC was billed as the future of discount retailing. It boasted of massive expansion plans, built on the back of fire-sale prices of clothes and shoes promoted by the likes of actress Sarah Jessica Parker and professional basketball player Stephon Marbury.

Don Lansu/WireImage for Steve and Barry's

Sarah Jessica Parker fans overflow into the mall waiting for their favorite star to sign autographs on Aug. 3, 2007, in Mount Prospect, Ill.

That future now looks bleak.

The closely held retailer is racing to find rescue financing of about $30 million. If it is unable to secure backing, it could seek protection from creditors sometime in the next month, say several creditors, bankruptcy lawyers and retail experts familiar with the matter. Steve & Barry's has hired Goldman Sachs Group Inc. to seek out financing and hired a bankruptcy lawyer to advise it on a restructuring, say these people.

A spokesman for Steve & Barry's declined to comment. Its attorney, New York-based retail-bankruptcy veteran Paul Traub, also declined to comment when reached Thursday.

The cash crunch comes even as Steve & Barry's expands across the country, with stores already in 40 states hawking exclusive fashion lines endorsed by tennis player Venus Williams and actress Amanda Bynes. Since May 15, it has opened nine stores, from upstate New York to Kokomo, Ind., and San Jose, Calif.

Steve & Barry's is just the latest retail player hurt by the economic downturn, and its demise would be a big blow to struggling mall owners. An ailing economy and $4-a-gallon gasoline have wreaked havoc upon the retail landscape, pushing the likes of Sharper Image Corp. and Linens n' Things Inc. into bankruptcy protection.

Getty Images

Sarah Jessica Parker is among Steve & Barry's celebrity collaborators.

With fashionable clothes priced below $10, Steve & Barry's deep-discount model was built to thrive in such an environment. In a 2006 interview with The Wall Street Journal¹, co-founder Barry Prevor said the U.S. market could support 5,000 stores. Its founders have dubbed their effort the "Google of retailing."

The company currently has 270 stores and projected 2008 revenue approaching $1 billion, with earnings before interest, taxes, depreciation and amortization of roughly $20 million, said two people familiar with its finances.

But some of the forces pushing Steve & Barry's growth were not tied to end-consumer demand, but the needs of mall owners in a softening commercial-real-estate market. Much of the company's earnings came in the form of one-time, up-front payments from mall owners. Those payments were designed to lure the retailer to take over vacated sites, say several people familiar with the company.

Without these payments, the stores are barely profitable, if at all, people familiar with the company's finances say. In recent weeks, the retailer has been seeking at least $30 million to fund operations through 2008. It has approached a number of financing sources, say these people.

Without additional capital, the company's fate will largely be determined by the commercial-lending unit of General Electric Co. It provided the company with a roughly $200 million credit facility in March, and the company is already in default on that loan, said three people familiar with the matter.

Steve & Barry's closing would be another blow for owners of malls and shopping centers, who have struggled to cope with the 6,500 store closures predicted for this year by the International Council of Shopping Centers.

Steve & Barry's eagerly snapped up big-box sites vacated by consolidating chains like Macy's Inc. At a shopping-center conference in May, several mall owners said Steve & Barry's was one of the answers to the industry's problems filling vacant space.

"They should be able to see through this," said Anthony Cafaro Jr., a vice president at Cafaro Co., a large Youngstown, Ohio-based mall developer that leases 10 sites to the company. "They still have that sensational 'wow' factor in terms of their prices—it's a great concept."

Part of the chain's attraction has been its low prices. Everything from sweatpants to jeans to down jackets cost less than $10. The chain has a miniscule advertising budget. Mr. Prevor is also considered a master "tariff arbitrager," carrying an encyclopedic knowledge of tariff codes so the business can reduce costs by manufacturing products in such far-flung locales as Lesotho and Malawi.

Steve & Barry's has received much attention for its celebrity-branded products. In 2006, it signed National Basketball Association star Mr. Marbury to endorse a line of $14 sneakers called Starbury, which were hailed as an antidote to the prices for Nike and other basketball shoes. It also made a splash with a line of clothing designed by Ms. Parker, who named the line Bitten because she was "bitten by the Steve & Barry bug," she has said.

Last year, Ms. Parker and Mr. Marbury appeared on the Oprah Winfrey Show to promote their lines and the trend toward "cheap chic."

Mr. Prevor and Steven Shore were childhood friends from Long Island, N.Y., and opened their first store in 1985 in Philadelphia, selling discount University of Pennsylvania apparel and undercutting the campus bookstore. They slowly opened outlets in college towns across the country before transforming Steve & Barry's into a big-box-mall retailer.

In 2005, the International Council of Shopping Centers honored the chain with its "Hot Retailer Award," given each year to stores considered by mall managers as the best at generating buzz and bringing more shoppers to the shopping centers they occupy.

Later that year, the duo fueled those ambitions with investment capital obtained during the credit boom. Private-equity firm TA Associates Inc. paid $320 million for roughly half of the company. About half of that went into the company, with the balance -- about $170 million -- being paid to Messrs. Prevor and Shore.

Write to Peter Lattman at peter.lattman@wsj.com² and Jeffrey McCracken at jeff.mccracken@wsj.com³

Utilities - power deregulation

I've become some what interested in the question of how electrical utilities operate. I've tracked down two articles that cover some of the basics. Interesting stuff...

• Competitive Era Fails to Shrink Electric Bills
• Another Friday Outage by Paul Krugman
• FAQs for the NY ISO
• wikipedia article on distribution
  
• electricity retailing
  

and then the following...

Ideas & Trends; Forget Deregulation. It's the Wires, Stupid.

By ALEX BERENSON

TEN days after the biggest power failure in American history, finger-pointing over the role that electricity deregulation played in the blackout is flowing at the speed of light.

Opponents of electricity deregulation say that this month's outage proves that the market cannot be trusted to supply dependable, cost-efficient electricity. Over the last few years, as deregulation has spread, the electric grid has grown steadily more unstable. More blackouts are inevitable unless states and the federal government reassert control over wholesale power markets, they say.

Supporters of deregulation say that there is no evidence that deregulation played any role in the blackout.

The outage, which began the afternoon of Aug. 14, plunged eight states and two countries into darkness that lasted for more than a day. Cities from New York to Detroit were left without power, as 100 power plants shut down and 62,000 megawatts of electricity were lost, about 10 percent of the total power supply east of the Mississippi. Although there were no major civil disturbances, several blackout-related deaths were reported, including at least two in New York and two in Canada.

The real problem behind the blackout, said William Hogan, a public policy professor at Harvard University, is that the effort to create wholesale power markets has not gone far enough. Some states, like New York, have fully deregulated, forcing utilities to sell plants and buy power from generators in wholesale power markets. In those states, the power grid is controlled by an ''independent system operator'' that controls the flow of electricity to make sure that the power being traded can actually get where it is supposed to go.

But the Midwest has a weaker system operator that does not truly control its grids, and some Southern states have essentially rejected deregulation, allowing utilities to continue to own their plants. The patchwork of rules and standards impairs communication and makes failures more likely, Mr. Hogan said.

''It doesn't make sense to have different rules in Ohio and New York, but we do,'' he said. ''We're in the middle, and that's a dangerous place to be.''

Some independent experts, though, say the controversy over deregulation is misguided.

Deregulation is doing what it is supposed to do by allowing electricity users to seek out the best price for power, even if that power comes from a plant hundreds of miles away. The real problem is that the transmission grid -- the substations and high-voltage wires that move power from plants to consumers -- was not designed for that purpose, said Richard Schuler, an economics and civil engineering professor at Cornell University who is also on the board of New York's independent system operator. Instead, the grid was intended to be a highly reliable way to move electricity relatively short distances.

The grid must be strengthened, and perhaps expanded, so that it can handle its new role, Mr. Schuler said. Unfortunately, the money and the political will to do that are in short supply. No one wants to live near high-voltage transmission wires, and few major lines have been put up anywhere in the last decade. States where electricity is inexpensive are even wary of increasing capacity on lines that already exist, since that will enable their generators to sell power outside their borders. For example, Connecticut is fighting to keep a privately owned power cable that runs under the Long Island Sound to Shoreham, N.Y. from operating, since it would tighten the supply of electricity in Connecticut and might raise prices.

Only a national regulator can force states to accept transmission lines that may not be in their interest, said Richard J. Rudden, chief executive of a consulting firm that specializes in energy issues. But for now, the Federal Energy Regulatory Commission lacks that power.

''We really need the FERC to have more authority in siting transmission lines,'' Mr. Rudden said.

Another obstacle is cost.

Mr. Rudden estimates that it will require $30 billion to $50 billion over the next five years to modernize the grid. But the question of who should pay that cost remains unanswered.

In New York and other states that have deregulated, consumers have seen few benefits from deregulation. They are not exactly clamoring for another surcharge on their bills, even if it is eventually supposed to produce savings. So getting more transmission will take years or decades, unless consumers demand that the grid be improved and accept that in return they may have to pay a bit more for power. But despite the flurry of outrage that the blackout caused, complacency about the reliability of the system will probably creep back in, as long as the lights do not go out again, Mr. Rudden said.

''People are not going to permit the construction of new facilities and pay for them until there's a major outage,'' he said. ''I'm not sure that even this blackout is the wake-up call -- I'm not sure that this is going to pull the nation together.''

Mr. Schuler echoed that sentiment.

''Infrastructure -- when it's first brought on, the public loves it,'' he said. ''Then it becomes almost an entitlement, and we forget how fragile it is, and so we fail to reinvest in it. There's a human propensity to leap over the 'Wow, whiz bang,' and to take things for granted.''