OCTG market is going through unprecedented cycle, which is probably the most challenging in the last 30 years. Demand for OCTG has been slowing down in 2015 and contracted by around 38% (from 17.7m tonnes to 11m tonnes) and expected to slide further by 20% in 2016. Reduced drilling activity and de-stocking of existing OCTG inventory are the key direct drivers that lower the demand. Just think of it - 50% drop in OCTG demand in 2 years.
A number of mills announced significant losses and large revenue drops, by nearly half, both as a result of lower demand and reduced prices for OCTG. In addition, many of the mills are planning restructuring and closing of production facilities in 2016 and beyond. In essence, aligning themselves to a new market reality, that is going to be a lot more challenging and competitive.
Overall, utilization of production capacities of OCTG mills have always been below the 80% mark, reaching 40 % in some instances. Shutting the mills down is very costly, OCTG manufacturers may choose to work at an acceptable loss level, than shut off the furnaces, but not this time.
How to navigate in this environment if you are a buyer of OCTG? Let's start from basics. All OCTG are divided into groups as below.
Chinese companies have been the largest supplies of API connection and Group 1 & Group 2 OCTG in the Middle East dominating it for many years with more than 70% of the market share, followed by Russian and Brazilian mills. For premium connection segment and API Groups 3,4,5 and chrome OCTG, the market is heavily controlled by Vallourec,Sumitomo and Tenaris, with a recent successful debut of Chinese TPCO to the premium connection segment.
As a buyer of OCTG, the strategies you could be looking at are:
For Group 1 & Group 2
- Maintain highly competitive environment. Consider bidding on a quarterly basis or every six months to capture market dynamics and opportunities
- Aggregate requirements across business units to leverage on larger spend
- Manage and monitor freight costs. For Grades 1 and 2, freight cost contribution is significant and shipping costs has been declining recently. This index - CFFI shows a significant reduction in freight rates from China to Middle East
Group 3,4,5 & proprietary
Although long term frame agreements might be in place, a further integration with mills may be beneficial. Explore the option of reserving production capacity for certain type of OCTG, in particular chrome products. Giving visibility to OCTG suppliers such as Vallourec, Sumitomo and Tenaris in these challenging times, would allow the buyer to:
- Enjoy the lowest price
- Ensure security of supply
- Reduce inventory
- Flexibility in OCTG size and type