The steel crisis

In October 2003, when highway contractor Swank bid on a bridge project for the Pennsylvania Turnpike, the price of steel piling the company needed for the job was 16 cents per pound, delivered to the site. Swank ended up paying 26 cents per pound in March, and today the price is 31 cents per pound. The steel piling is just one of three steel products Swank needs for the bridge project.

“We were living in a cloud last December,” says John McCaskie, chief engineer for Swank. “We didn’t realize we were about to be hit on the back of the head.”

Unfortunately for contractors who depend on steel products, most economists and industry experts are predicting prices will continue to rise, at least in the near future. Worldwide, national economies are growing, particularly in East Asia. The annual growth rates, based on gross domestic product, in China, India and Japan have been 7 to 10 percent during the past several quarters, says Ken Simonson, chief economist for the Associated General Contractors of America. And in the United States, the economic growth rate has been between 3 and 4 percent during the past three quarters.

“When economies are growing like that, there’s just huge demand for steel,” Simonson says. The steel is being used for everything from appliances and automobiles to industrial equipment and new construction.

A variety of factors led to the drastic spike in steel prices that occurred suddenly in January of this year. Between 2000 and 2004, when steel demand in the United States was sluggish, many steel companies shut their doors for good. To help protect the wounded businesses that survived, the Bush administration imposed tariffs on foreign steel and U.S. companies stopped importing it. By the time Bush lifted the tariffs in December 2003, foreign steel producers had found other markets and many aren’t trying to get back into the United States, Simonson says.

Then you have the outlook for new construction in the United States. The annually adjusted value of construction put in place topped $1 trillion for the first time in August, representing a 10 percent increase in just eight months. And as always in economics, when demand is up and supply is down, prices go up.

According to the Bureau of Labor Statistics, the price of steel mill products increased 46 percent from August 2003 to August 2004.

McCaskie says he feels justified in calling this year’s rise in steel prices a crisis. While the cement shortage in the United States has led to price increases of about 8 percent, he says the cost of steel products used in construction has jumped 40 to 100 percent, depending on what raw materials are used and the supplier. “It’s the perfect storm,” McCaskie says. “Everything piled up all at once.”

Swank subcontracted the piling work for its bridge project, and its subcontractor advised in early January it couldn’t honor its commitment because of increased steel prices, even though an order had been placed. The 10-cents-per-pound difference in the price Swank paid for the steel versus what McCaskie thought the company would pay when it bid the job added up to $170,000.

The company also needs 2,200 tons of structural steel for the bridgework. After the first of the year, Swank’s steel fabricator sent a letter saying it would need $3.3 million to produce the order, which the supplier originally quoted for $3 million. The fabricator offered documentation to show the increased cost of raw materials.

Swank lucked out with the third steel item it needed for the project – 1,000 tons of reinforcing steel. Its fabricator said it would honor the price it quoted in October.

McCaskie sent a letter to the project owner – the Pennsylvania Turnpike Commission – saying he thought the unprecedented steel price increase warranted the commission’s recognition of a commercially impracticable situation. The commission responded the first week in October, expressing its sympathy, but saying it would wait to see what the Pennsylvania Department of Transportation’s policy would be regarding projects bid last year and executed after the steel price hike.

McCaskie says contractors were reluctant at first to ask for help. For most contractors, their word is their bond and they stand by it, he says. “The philosophy was that if you were a true contractor, you would let them nail the coffin lid down before you said, ‘Ouch, that hurts,'” McCaskie says.

But that was in February. By the end of March, members of both AGC and the American Road & Transportation Builders Association had prompted their organizations to ask the Federal Highway Administration to approve an emergency escalator provision on highway and bridge contracts awarded before March 1, 2004, with steel purchases made after January 1, 2004. The federal government rejected the proposal, saying states could enact retroactive price adjustments, but couldn’t use federal money to reimburse contractors. Going forward, however, the FHWA agreed to consider increased steel costs when awarding contracts. Several state departments of transportation have adopted escalator provisions for contracts bid last year.

Still, many contractors who rely solely on projects requiring a lot of steel materials are teetering on the brink of going out of business. “I have a friend who’s been installing guardrail for 15 years,” McCaskie says. “She called me and said she’s going to have to go out of business if she doesn’t get some relief. Because guardrail is typically the last thing done on a highway project, she has contracts she bid in 2002 she hasn’t completed. In some cases, she’s paying more for the steel guardrail than the prime contractor is paying her to furnish and install it.”

While projects bid before January of this year are the toughest to fulfill, steel prices continue to rise, making current bidding more than the usual gamble. “It’s very difficult to estimate your costs,” McCaskie says. “But you still have to have the low bid or you don’t get the work.”

Most departments of transportation are using the national scrap index to account for rising steel prices in current and future projects. But the scrap index doesn’t always correlate with the price of finished steel products. In April and May, for instance, there was a drastic reduction in scrap prices, leading economists to predict a reduction in the cost of finished steel products. In reality, the cost of steel products leveled off slightly, but never stopped rising.

So what does the future hold for steel prices? “Steel is not something the world is about to run out of,” Simonson says. The trick is getting the raw material out of the earth and processed at an economical price, he continues. There are plans to build more mills in the United States and increase capacity at existing mills in the United States and around the world. Shipping capacity will be increased as well.

But during the next two to three months, Simonson says steel prices will get higher because demand is still up and the additional capacity isn’t there yet. During the foreseeable future, Simonson says the market will run into periods of shortages and steel prices in general will be more volatile.

This is the first article in a two-part series about the effects rising steel prices are having on contractors. The second part of the series, which will appear on this site tomorrow, will look at how steel prices are influencing the price and availability of new construction equipment.