AISC Indicates the Need for Price Adjustment Clauses on Certain Steel Contracts
February 25, 2004 From American Institute of Steel Construction, Inc.
The recent unprecedented and unpredicted increase in the raw material cost of steel has resulted in a rapid and unforeseen rise in the price of all steel materials used in construction. As a result, according to Louis Gurthet, president of American Institute of Steel Construction (AISC), price adjustment clauses may be needed on certain contracts, both new and existing, to ensure that projects are completed without interruption and that the domestic construction industry remains vital and strong.
While unusual, such price adjustment clauses are not unique. For example, during the energy crisis in 1974 the Federal Highway Administration (FHWA) endorsed a material cost escalator.
The rapid changes in the price of raw material was not predicted by the market and in response steel mills have imposed “raw material surcharges.” Effective March 1, the surcharges on wide flange and other structural products, including rebar, is scheduled to rise to $93/ton. The surcharges, which change monthly, are different from normal base price increases in that they cannot be predicted or
accommodated at the time that a fabricator places a bid. Therefore, while the surcharges are in effect, an easy and equitable method to evaluate bids is through a price adjustment clause in contracts, Gurthet explained.
The recent sharp rises in the cost of both domestic and foreign steel have a number of causes, but the biggest impact has come from China’s rapid economic expansion and its hunger for raw materials. According to Andy Serwer, an analyst for Fortune magazine, China’s steel demand hit 257 million metric tons last year—up 22% from the previous year, and it could be up another 13% this year.
China’s demand for steel has had a number of serious effects, most notably a rapid run-up in the price of steel scrap, which is the major raw material used by electric-arc steel furnaces and a large component in all other steel making. Last summer, scrap was selling in the $120/ton range. By the fall, it had gone up by one-third, to more than $160/ton, and by mid-February it had exceeded $255/ton. (By comparison, throughout the 1990s, scrap prices fluctuated by less than $60/ton, from a low of around $80/ton to a high of about $140/ton.To see more detailed information on scrap prices, click here.) Even as far back as 1971, the average selling price for scrap was $60/ton. Because of this extraordinary, unprecedented, and unpredicted increase, it is reasonable to ask contractors to modify existing contracts with fabricators under Article 2-615 of the Uniform Commercial Code (UCC), which in essence states that a seller who does not deliver goods under a contract does not breach the sales contract if performance (delivery) was “made impracticable” by a radical change in the “basic assumption on which the contract was made.” Clearly, the unforeseeable nature of the sudden change in scrap conditions falls under this category and it would be unfair and inequitable to do otherwise.
The demand for steel has had the additional impact of increasing freight rates, which has the effect of raising coke and iron ore prices. This has been especially detrimental to the U.S. market, which already was facing coke supply problems as the result of a coalmine fire. According to the Financial Times (London), freight rates are up six-fold in the past six months. In addition, climbing energy costs have also exerted upward pressure on steel costs.
Most analysts agree that the current steel-pricing situation was not predictable and is unprecedented. More typically, rising steel prices are the result of demand exceeding capacity. But in this case, steel-making capacity is more-than-adequate—it’s simply that the cost of raw materials is rapidly climbing. In fact, annual domestic steel capacity for the production of wide flange still exceeds domestic demand by more than two million tons. The fluctuating price of raw materials, however, has resulted in a commercially impractical situation where suppliers cannot reliably anticipate material costs.
While there is no market certainty, some analysts are predicting further volatility by mid-year. “The latest surges in raw materials for steel have been caused by seasonal factors and business cycles,” LG Investment and Securities analyst Lee Eun-young was quoted as saying in a recent article in Asia Pulse. “But steel prices will see a correction this summer.” However, other analysts believe that despite seasonal readjustments in pricing, upward pricing will continue. “The high prices structures for raw materials will not change much, as long as expectations of an economic recovery in the United States and Europe are alive,” stated Samsung Securities analyst Kim Kyeong-jung.
For more information contact:
VP of Communications
American Institute of Steel Construction
The American Institute of Steel Construction, headquartered in Chicago, is a not-for-profit technical institute and trade association established in 1921 to serve the structural steel design community and construction industry. AISC’s mission is to make structural steel the material of choice by being the leader in structural steel-related technical and market-building activities, including: specification and code development, research, education, technical assistance, quality certification, standardization, and market development. AISC has a long tradition of service to the steel construction industry of providing timely and reliable information.
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