Lost hope? Future of UK steel doubtful

A steelmaking crisis gripping the U.K. has led analysts to question the long term viability of the industry in the country, amid government efforts to save jobs and broker a rescue deal.

Indian firm Tata has announced its intention to sell its U.K. operations due to heavy losses, prompting an emergency meeting between lawmakers. The debate has involved talk of nationalization and has added fuel to an EU membership referendum being held this summer.

But commodity analysts are quick to point out that any rescue could simply be prolonging the agony for a sector that has seen serious overcapacity by Chinese mills which are dumping cheap steel onto the global market.

Vapor rises above Tata Steel's plant in Port Talbot, south Wales, on January 18, 2016.
Geoff Caddick | AFP | Getty Images
Vapor rises above Tata Steel's plant in Port Talbot, south Wales, on January 18, 2016.

"China has far too much capacity in steel that has to be cut substantially before any real recovery can happen in steel prices over the longer term ... The Chinese have indicated that they wish to cut, they haven't yet done it. So we wait to see what happens going forward," Jeremy Wrathall, head of global natural resources at Investec, told CNBC Thursday.

"Any rise in steel (prices) prolongs that agony because people (think) maybe there's a chance of a permanent recovery."

Forty thousand jobs are estimated to be at risk in the U.K. with the main focus being Tata's steel mill in the Welsh town of Port Talbot. The ruling Conservative Party has said that a public sector takeover is rarely the right answer despite calls from leftists politicians and union members.

A Financial Times editorial this week urged against nationalization while leftist author Paul Mason believes it should become a mutually owned business, with permanent state support, and points out steel's usage in the U.K. defense sector.

Potential private buyers are a little lukewarm on the idea of a deal despite mills like Port Talbot having some strategic assets amid their loss-making business. Liberty House Group, which is in the process of buying some Tata plants in Scotland, told CNBC that the scale and timing of Tata's decision to sell was much more dramatic than anyone was expecting.

"While the downstream operations will be of interest we're clear that taking on the iron and steelmaking facilities present a huge challenge," Sanjeev Gupta, executive chairman of Liberty House Group, said in an emailed statement. "Our engagement will depend very much on what Tata and the government are prepared to do to help save these businesses."

Tata Steel says its U.K. operations have suffered losses of more than £2 billion ($2.9 billion) in the last five years. Abhishek Poddar and Kawaljeet Saluja, two analysts at Kotak Institutional Equities, estimate that 2016 will be even worse due to weak steel markets.

"The turnaround of U.K. operations will be a tall task even for a strategic buyer and may reflect in very low valuations, if a sale occurs. We do not rule out shutdowns or closures in case there is no deal," they said in a note on Thursday.

The analysts have a "reduce" rating on Tata Steel, despite highlighting that it still has a fairly profitable Dutch steel mill. It predicts a sale or closure of U.K. operations to be complete in the second half of 2017. Meanwhile, Investec analysts Ritesh Shah and Dharmesh Shah have maintained a "sell rating" on Tata and said in a note Wednesday that the U.K. sale "isn't a game changer" for the share price.