Why has Nucor performed so well in the past?
Kirrily Van Riel
Why has Nucor performed so well in the past?
The following section discusses the reasons that Nucor has been able to perform so well in the past. It examines the internal and external (industry) factors impacting success.
Industry Analysis
This section examines industry forces using Porters Five Forces Analysis (See Appendix 1). Porters Analysis illustrates that both Industry Competition and Barrier to Entry are HIGH. Threat of Substitutes and Buyer Power are Medium and Supplier Power is Low (See Appendix 1 for detailed analysis). However, even in the face of such stable and fiercely competitive market, Nucor was continually able to maintain its strong position within the industry. Thus we now look to Nucor's internal characteristics as a source for competitive advantage.
Internal Analysis
This section compares Nucor's superior resources and capabilities to its competitors, and discusses how it has exploited them for competitive advantage.
Resources
Capabilities
* Strong Financials Resources with forecasted growth in cash flows further strengthening its investment or borrowing capacity.
* Pioneering technology and technical sophistication in Thin Slab casting
* Critical Mass of existing Mills and geographic locations in proximity to customer base.
* Its reputation, brand equity and relationships with suppliers within the industry.
* Its large existing customer base.
* Its highly motivated workforce, build through a series of performance goals and "high powered performance incentives" (Nucor Case, 1990)
* Lower cost production through pioneering technology.
* Technological Superiority for greater efficiency in volume production
* Rapid supply to assist in low inventory levels for customers.
* Extensive experience in building Mini Mills efficiently
* Consistent investment in maintaining capacity of production.
* Long Term experience and success in the industry.
* Lean, flat, decentralised organisational structure for rapid decision making.
Michael Porter's resource-based view suggests that "the key to profitability is not through doing the same as other firms, but rather exploiting differences" (Grant,2002).
Aside from strong financial resources, Nucor understood its greatest resource was is its people. It utilised a combination of non unionised workforce, incentive systems, training and decentralised decision making to ensure "the more effective is (was) to communicate with employees" and the greater autonomy they had to "make rapid and effective decisions" (Nucor Case, 1990). This lowered production costs and improved employee productivity.
In addition, Nucor had other significant resources at its disposal such as "modern technology, advantageous locations, cheaper and more co-operative labour, entrepreneurial management, and narrow product lines," that let them "wrest away share from integrated steel makers in the segments they served" (Nucor Case, 1990).
Nucor also demonstrated superior capabilities by effectively using its resources to develop efficiencies in volume production, and bring products to market more cheaply and more quickly than its competitors. There were three components to this capability.
Firstly, Nucor utilised combination of research and development activities that refined speed and efficiency of the production process. Nucor had "invested steadily and heavily in upgrading its capacity, old as well as new," (Nucor Case, 1990) and leveraged this capability to lower production time and costs. In addition, Nucor was consistently able to defend itself against substitutes through its cost reduction capabilities and lower prices.
Secondly, Nucor was able to lower its investment/construction costs using their extensive experience in building and remodeling Mini Mills in ways other firms were unable to emulate. Nucor designed and built plants concurrently, reducing engineering costs to 2% of total costs, from the industry standard of 10%. With this experience, Nucor was able to make adjustments "on the fly," and reduce time to project completion, thus providing positive cash-flows more quickly.
Finally, it had speed of delivery to customers and suppliers by locating mills in similar geographic regions.
Nucor was able to leverage these competencies to create sustainable competitive advantage in the marketplace. From a positional advantage (Porter, 2000) perspective, Nucor used its resources and capabilities for cost advantage. It was able to utilise its superior MM technology to lower its cost structure by taking "advantage of the declines in integrated steel makers' demand for scrap" and "eliminating coke ovens and blast furnaces" (Nucor Case, 1990). No other competitor in the industry has used this focus to ...
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Finally, it had speed of delivery to customers and suppliers by locating mills in similar geographic regions.
Nucor was able to leverage these competencies to create sustainable competitive advantage in the marketplace. From a positional advantage (Porter, 2000) perspective, Nucor used its resources and capabilities for cost advantage. It was able to utilise its superior MM technology to lower its cost structure by taking "advantage of the declines in integrated steel makers' demand for scrap" and "eliminating coke ovens and blast furnaces" (Nucor Case, 1990). No other competitor in the industry has used this focus to create value for its customers and superior profits for itself as Nucor had. Nucor was the low cost leader in the market.
With this unique combination of resources and capabilities, Nucor's distinctive competencies enabled high levels of innovation and efficiency in Mini-Mill (MM) production technologies. Such technology had the effect of reducing the minimal efficient scale of production "from millions of tons to hundreds of thousands of tons, or less" (Nucor Case, 1990) as well as reducing the capital cost per ton of capacity by a factor of 10.
How attractive do the economies of thin slab casting look?
The following section assesses the market attractiveness of Thin Slab Casting (TSC). It also provides an analysis of the economic attractiveness of the proposed investment.
Market Attractiveness
The following table outlines key market characteristics and identifies how they contribute to market attractiveness.
Market Attractiveness
Supporting Information (Nucor Case, 1990)
Market Size
* 36,248,701 tonnes (Total Flat Sheets)
* 25,099,895 tonnes Hot and Cod Rolled
* Flat rolled about half domestic segment
Profit margin
(for new this slab technology)
* Cost of capital $400 tonne
* 25% average profit margin in TSC compared to 7-8% in integrated mills.
* Projected Labour Savings
* Projected Energy Savings
* Anticipated Higher Yields
* Price Sensitivity of Market
Growth Potential
* Declining Domestic Shipments (Down 30%)
* Declining Domestic Demand (Down 22%)
Resource Availability
* Increasing costs of scrap Metal
* High Labour Availability
* High availability of cheaper energy sources
Capacity Potential
* New Plant with 1M ton capacity
Vulnerability to Economic Conditions
* Steel industry significantly impacted by economic conditions
* Market Regulations
Customer base
* Vulcraft Customer Base
* Existing Mini Mill Customer Base
Competitive Threats
* Existing Market Saturation in Flat Sheet
* Longevity of First Mover Advantage
* Inability of integrated mills to adopt new technology
As outlined in the table, there are many elements that contribute to the attractiveness of the TSC market. The strongest element of attractiveness is the ability of this technology to produce flat steel sheeting at reduced cost. This adds significant potential profit to the market. Also "price, quality and dependability were the three most important buyer purchasing criteria" (Nucor Case, 1990) in the steel industry which manifested in the increasing level of cheaper imports. Nucor's pioneering "cheaper" technology would easily combat this and help them attain high levels of market share.
There are also characteristics that deduct from the attractiveness of the market. Firstly, market size and demand are in significant decline. In addition, the steel industry is heavily regulated and is readily impacted by changes in US economic conditions. There was no guarantee that that the same influences that caused "twenty five mills" to be "closed or sold between 1975 and 1986" (Nucor Case, 1990) would not have the same impact on the TSC project.
An organisational SWOT analysis is attached in Appendix 2. The SWOT summaries the internal strengths, weaknesses and TSC market opportunities and threats. The SWOT points out that whilst Nucor's strengths far outweigh the weaknesses, so to do the threats outweigh the opportunities.
Thus, by combining these factors, the market attractiveness can be illustrated in the BCG Growth Share Matrix (below). The analysis places the new market in the "Star" quadrant. Here the market is characterised by high earning potential and strong cash flows deeming the overall the market an attractive one.
Economic Attractiveness
An NPV model is used to assess the viability of expansion into the Thin Slab Market. A summary of the NPV analysis is attached in Appendix 3.
The model identifies the project as NPV positive after 11 years. It also makes some assumptions about the mix of cold and hot rolled produced and the capacity and utilisation rates attainable. With these assumptions in mind there are a number of points that should be noted about the economics of the model.
. The project is cash flow positive but only after 11 years. This is a long and unlikely lifecycle in an industry that is characterised by changing demands and technologies.
2. The discount rate 9.41% (from the case) is an unlikely one. In fact it is probably a lot higher than this, extending the payback period beyond 11 years.
3. It doesn't take into account tax implications, tax shields, or depreciation which would have a negative impact on the payback period if incorporated.
4. It assumes that revenue and cost forecasts remain constant over the payback period which is an unlikely scenario.
5. It also assumes current economic conditions (bond rate etc) remain unchanged.
6. It assumes competitor influence and customer demand remains constant over time, which is unlikely given changing technologies and consumer demands.
Regardless, further incorporating the influences above would produce a more conservative model, further reducing the viability of the project. Worse is that historically, the deficient profitability of integrated steel makers is derived from problems on both sides of the ROA equation. On the return side, such factors as periodic spasms of low-price imports, an imbalance of market power relative to principal customers, and the longevity of steel making assets work against U.S. competitors. On the asset side, industry profitability has suffered from excessively expensive capital projects, poorly planned capital investments, and a culture of production rather than market-orientation.
Based on these factors and this model it is not recommended that Nucor invest in this new technology even though the market analysis deems it to be an attractive one.
Is thin slab casting likely to afford Nucor a sustainable competitive advantage in flat rolled products?
If Nucor decided to take a position in this industry they would face some significant challenges. This section outlines four key threats, Imitation, Substitution, Slack and Hold Up Nucor would face in sustaining competitive advantage. The following figure illustrates how these threats can impact value.
. Imitation
The most likely threat to sustaining competitive advantage is competitor imitation as "Once established competitive advantage is subject to erosion by competition" (Grant 2001). Nucor's profitable entry into this market will ensure the market for steel plate products is highly contestable and subject both to new entry and significant capacity expansion of existing firms and overseas producers' in the US market.
Technological advancement will also continue to reduce barriers to entry. Technology improvements are likely to lower operating and capital costs, lower environmental impact, and lower optimal economies of scale. This will act to compound the threat of profit seeking competitors or start ups entering the market.
2. Substitution
Threat from low cost substitutes may also test the longevity of competitive advantage for Nucor entering the TSC market. Concrete, plastic and aluminium are cheaper and in some cases more effective. German company Mannesman-Demang had already promotes a 1 inch thick TSC sheet in the market. The more substitutes the stronger the fight for retention of customers. Greater effort may then be required to be placed on marketing and R&D to compete in such markets reducing the sustainability of competitive advantage.
3. Hold Up
History predicts an increasingly volatile cycle of poor performance driven by industry structure, company behavior and investor response. Investors may no longer see the TSC industry as a long-term investment but as an opportunistic speculation. The increased risk and volatility may raise the cost of capital for steel companies, making investment in more efficient manufacturing capability difficult.
Market conditions may continue to be subject to import surges, global excess capacity and market-distorting subsidies. This will put severe pressure on pricing which may drive Nucor's profits. This is an example of how suppliers. Companies are also likely to create greater supply-chain efficiencies using the Internet lead to the new knowledge- and information-based economy away from the old financial- and physical-asset based economy. These factors run the risk of "holding-up" the attainment of competitive advantage and diluting its sustainability.
4. Slack
Slack has the effect of diminishing a firm's profitability due to waste or inefficiencies. Given Nucor's management focus on low cost leadership it is unlikely that "slack" will be a detractor from competitive advantage.
Critical Success Factors
In addition there are a number of critical success factors that will determine the achievement of Nucor's successful entry into the market.
Access to Capital: One of the most critical issues facing steel makers is a lack of access to capital. The industry's reliance on mature private capital markets based analysis makes it must more difficult to weather turndowns in the market than it does for those companies with access to government funds. Extremely depressed stock prices prevent access to capital markets and banks will not lend because of perceived risk. For this project to be success, Nucor will be heavily reliant on such access.
Stable Steel Prices: Prices for most major steel products have a history of volatility. Large increases in low-priced steel imports led to a downturn in the US market and these trends may continue to have an impact on Nucor.
Maintenance Production Costs: There is no guarantee that high production costs affecting integrated mills will not continue to impact the TSC process. Best efforts may not be able to offset higher energy costs, high labor costs or the advent of restrictive labor contracts.
Fending off Imports: The size and openness of the market has lead to an increase in volume. It is not know whether importers own similar technology or would be in a position to compete. The success of TSC would be reliant on the continuing recent decline in imports.
Consolidation: Consolidation is necessary to restore the long-term health of the steel industry but some domestic producers do not have the resources. This places them under real threat of takeover by direct competitors. Nucor's success rests in their ability to retain market power through their economies of scale.
Environmental Regulations: Compliance with environmental regulations is a major cost. New provisions to the Clean Air Act are adding significant costs. Rules regarding toxic air pollutants from coke ovens have resulted in the closure of some coke ovens and additional shutdowns.
Recommendations
This certainly isn't a rosy picture. Overall the analysis identifies that whilst the market is attractive, the costs of entry are too high. In addition there are many factors working against sustaining competitive advantage and not many for this argument. However, the fact is that we know Nucor entered the TSC market and made significant profits through the early 2000's. But, given the economics of the model, and all the factors adding up to no-one would ever recommend to go ahead with the investment. Hindsight is brilliant though so perhaps Nucor had its disposal more information than was disclosed at the time of the case, or maybe Nucor just kept a strong focus on their strategy of, "building steel plants economically and operate them efficiently." (Nucor Case, 1990)
STRENGTHS
OPPORTUNITIES
* Size and Scale - Largest Mini Mill & 2nd Largest Steel Producer in US.
* Low Cost Leadership Strategy
* Quality and Reputation: Reputation for consistency in quality
* Technological Leadership - Pioneering of Thin Slab Casting for competitive edge
* Financial Strength - For growth and acquisitions
* First Mover Advantage - First plant in the world for thin slab casting
* Geographical Strength - Location of Mini Mills to customer base
* Organisational Culture - Strong focus on employee relations, training, reward and recognition
* Diversification Opportunities - Move into manufacturing to take advantage of vertical integration
* Technological Development - Advanced technical capabilities for new markets and products
* Financial Strength - ability to buy out small operators for further growth
WEAKNESSES
THREATS
* Resource Dependency - Scrap Metal
* Organisational Structure - Highly decentralised impacting its growth potential
* Resources and Capabilities - geared around narrow product range - risk to further diversification and growth
* Cost of Resources - Rising Price and reducing availability of scrap metal, rising costs of energy.
* Quality of Resources - Changing/Reduction in quality of scrap metal as resources deplete
* Competitor Activity - Technology uptake and emulation
* Competition for Resources - availability of high quality scrap
* Substitutes - Threat of alternative materials as aluminum and plastics
* Capacity - Overproduction in integrated steel mills
* Local Markets - changing customer demands for traditional steel based products (automotive industry)
* Foreign Markets - Slow growth in foreign markets
* Expiration of Tariffs and Patents
* US Economic Health - Highly Dependent on US economic health
Appendix 2 - SWOT Analysis
References
* Grant, R.M. (2002) Contemporary Strategy Analysis, Blackwell Publishing, Massachusetts, USA.
* Conveney, M (2003) The Strategy Gap : leveraging technology to execute winning strategies Wiley Publishers Hoboken, New Jersey.
* www.businessstrategy.com
* www.themanager.org
* www.quickmba.com/strategy
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