Tatenda Zengeni
On 17 November 2016, the South African Competition Tribunal (“Tribunal”) confirmed a settlement agreement reached between the Competition Commission and ArcelorMittal South Africa Ltd (AMSA) with regards to AMSA’s involvement in the long steel and scrap metal cartels. The settlement covered four complaints against AMSA, three of which involved collusion in flat steel, long steel and scrap metal markets and the other on excessive pricing of flat steel products. AMSA agreed to pay an administrative penalty of R1.5 billion, the largest penalty to be imposed on a single firm in South Africa. In addition, AMSA also agreed to a pricing remedy to address competition concerns relating to its pricing policy which included a five year limit to its earnings before interest and tax (EBIT) margin to a cap of 10% for flat steel products sold in South Africa and a commitment to R4.5 billion capital expenditure over the next five years.
Although the AMSA settlement is the biggest in the history of competition enforcement in South Africa, the fine appears small given the impact of AMSA’s conduct on the rest of the economy (12% of long steel turnover in 2008). The price of steel as an important intermediate product into sectors such as construction and metal fabrication has significant implications on the competitiveness and price of domestic production of a range of metal products in steel dependent sectors.
The R1.5 billion administrative penalty
The literature on settlement programmes indicates that they generate clear and significant benefits both to competition authorities and respondent firms. First, they reduce legal costs for both the respondent firms and competition authorities. This process allows for speedy resolution of the case outside the formal litigation route thereby saving both competition authorities and respondent firms financial resources. An added advantage for competition authorities is that settlement reduces the time period between case inception and final decision, and helps the authority gain additional information which can support the prosecution of remaining respondents. The process enables the respondent firm’s management, particularly when management and ownership may have changed since the period of the conduct, to conclude the matter. Competition authorities have strong incentives to settle since it reduces continued consumer harm due to continued anti-competitive conduct.
For settlement programmes to work all parties involved must see the benefits of settling rather than going through the formal litigation process. This is one of the reasons why fines under settlements are lower than administrative penalties charged when cases are formally litigated in court. However, to enable deterrence, the size of fines under settlement needs to also be sufficiently high relative to the gains from the conduct and not just in monetary terms, just as with penalties in contested cases, to ensure deterrence of future conduct.
However, fines are generally far lower than the actual harm that arises from the conduct. The R1.5 billion penalty in the AMSA settlement covered two cases in which AMSA admitted to its violation of the Act. In the long steel and scrap metals complaints AMSA admitted that it engaged in anti-competitive conduct that contravened section 4(1)(b) of the Act. AMSA is thus guilty of multiple contraventions, each of which is presumed harmful and would have warranted a high penalty on its own.
Steel is a crucial intermediate product into other sectors such as construction and manufacturing. Therefore its pricing has important implications for the competitiveness of other downstream industries. The high cost of steel due to import parity pricing was cited by mining capital equipment manufacturers as one of the challenges facing local manufacturers.1 It results in increased product costs which local firms have to either absorb, or pass on to the customer which further erodes their competitiveness relative to imported products.
Another important consideration in the case is that ArcelorMittal is a repeat offender (including outside South Africa) and in several markets over an extended period of time. In the European Union, there are specific provisions in the legislation for punishing repeat offenders. For instance in a 2011 pre-stressing steel cartel case, ArcelorMittal’s fine was increased by 60% above the normal fine since it was a repeat offender.
In South Africa, higher penalties may be applied on specific or affected turnover of the firm as long as the overall fine amount is not larger than 10% of the total turnover of the entity. The practice in recent cases and in terms of the Commission’s fining guidelines has been a penalty of around 15-30% of affected turnover before a multiplier for duration is applied. As such, the competition authorities could have sought higher penalties above 10% in the long steel and scrap metals matters. For example, AMSA’s long steel turnover in 2008 (case was first referred in 2009) was R12.9 billion based on annual reports. Therefore, a penalty even marginally above 10% of long steel turnover alone (say, 15%) would have been larger than the agreed penalty for multiple cases settled and well below 10% of total turnover of around R40 billion in 2008. This simple example suggests significant discounting of the settlement penalty agreed with AMSA.
Pricing remedy on flat steel products
On pricing commitments, AMSA agreed to maintain an EBIT margin of not more than 10% per year (which may be exceeded to a maximum of up to 15% if the raw material basket spread is more than $350/ton) for a period of five years on all flat steel products produced at Vanderbijlpark and sold in South Africa. Figure 1 below tracks EBIT margin performance for AMSA’s flat steel activities since 2005.
AMSA only had a positive EBIT margin averaging about 26% between 2005
Figure 1: Earnings Before Interest and Tax (EBIT) for flat steel
and 2008. It started experiencing a negative EBIT margin since 2009 and again from 2011. The main reason stated by the company for its poor performance was intense competition from cheap Chinese imports. China has experienced an oversupply of steel since 2009 which has led to a sharp drop in steel prices around the world. Furthermore, China is alleged to be exporting its products at below cost of production resulting in many countries around the world imposing duties to protect domestic industries. In South Africa, ITAC imposed a 10% duty in 2015 on all imported steel.
In this regard, it is worth noting that the 10% margin cap is significantly lower than the margins of above 20% that AMSA earned in the mid-2000s prior to the influx of Chinese imports, and significantly greater than margins earned from 2009. The imposition of a duty by ITAC may contribute to positive margins for AMSA going forward although now capped at the agreed level of 10%. An important question is whether AMSA’s margins could reasonably be expected to exceed 10% in the coming years, and as such whether the cap of 10% is potentially set too high.
Capital investment
AMSA also committed to R4.5 billion capital expenditure over the next five years as part of the settlement. This translates to about R900 million per year. An assessment of AMSA’s average capital expenditure for the past six years (see Figure 2) indicates that AMSA has been investing an average of R1.5 billion per year. The figure is about R600 million more than the average of R900 million that the firm has committed to in the settlement with the Commission.
The capital investment agreed to by AMSA already falls short of what the company is already investing to improve its efficiency. Therefore, while the commitment appears large in monetary terms, it appears to be generous on the part of the competition authorities. The commitment made is not indicative of an effort on the part of AMSA to mitigate some of the harm caused by the conduct on downstream consumers in particular, nor is it sufficiently punitive.
Figure 2: ArcelorMittal capital expenditure
Source: AMSA annual reports
Conclusion
Although settlements are generally seen as encouraging firms to admit anti-competitive conduct through the offer of a lower penalty, the case above shows that AMSA’s fine is low when considering the impact of steel prices on the rest of the economy. However, determining the level of fines in settlement cases is not easy and the authorities will have considered the strength of evidence available for successfully prosecuting AMSA in a contested hearing. Nonetheless, it is expected that the Commission’s case would have been sufficiently strong given information received from other firms that have settled the same cases prior to AMSA, and the confirmations provided by AMSA as well. If this was the case, it does not appear that the administrative penalties agreed in settlement and the additional investment commitments are sufficiently large to deter conduct and send a message that firms that contravene the Act will be punished severely. However, it is worth noting that the Commission would have considered the very poor financial performance of ArcelorMittal and the industry in recent years as a mitigating factor, perhaps at the expense of accounting fully for economic harm caused.