Nippon Steel Corp. and Sumitomo Metal Industries Ltd. agreed to merge in a deal that would create the world's No. 2 steel producer and will likely fire up further acquisitions in the industry.
Thursday's agreement signals a growing need for steelmakers to gain heft—and leverage—as prices for coal, iron ore and other raw materials of steel touch record levels.
The deal would unite companies that had combined revenue of 4.774 trillion yen ($58.54 billion) as of the fiscal year that ended last March.
The deal also marks the first major consolidation in the Japanese steel industry in a decade and comes as the nation's leading steelmakers struggle to regain their footing after the global recession.
"This will speed our global strategy and allow us to reduce costs and increase quality," Nippon Steel President Shoji Muneoka said at a news conference Thursday.
Nippon Steel had been the world's largest steelmaker for several years until it was eclipsed in 1998 by Korea's Posco as Japan struggled economically. A 2006 merger put Luxembourg-based ArcelorMittal at the top of the heap. Yet even with Thursday's deal, Nippon Steel isn't likely to recapture its former glory, as China outpaces Japan in economic growth and steel consumption. China's steel industry also boasts two of the world's biggest steelmakers, Baosteel Group Corp. and Hebei Iron & Steel Co., and Beijing has been pushing consolidation.
Nippon Steel and Sumitomo Metal—Japan's No. 1 and No. 3 steelmakers by output, respectively—said they would merge next year under a new, yet-unnamed holding company.
The announcement was short on key details such as the merger ratio and amount of projected savings from streamlining operations, which may be limited by the companies' existing close relationship and different product lines.
"We expect to generate a lot of cost savings from synergies but don't have any specific numbers at this time," Sumitomo Metal President Hiroshi Tomono said.
The pair produced a combined 37.5 million metric tons of steel in 2009, according to the World Steel Association, a trade group. That would make the combined company a distant No. 2 to Arcelor, with 77.5 million tons, but slightly above Baosteel.
Hemmed in by miners on one side and sluggish demand on the other, steelmakers have little choice but to grow, said Peter Marcus, an analyst with research firm World Steel Dynamics. "Steel mills have learned that if you are bigger you have more clout and that you can be more flexible when you have to lower production, which effects prices," he said.
Most consolidation likely will happen in China, where the government has encouraged larger players to buy regional producers, and South America, where steelmakers have said they're on the hunt for acquisitions.
"I think the Chinese want to do a lot of mergers" so that more production is controlled by the biggest companies said Charles Bradford, of Bradford Research Inc.
In Brazil, the country's two largest producers of flat-rolled steel have inched toward combining operations. Cia. Siderurgica Nacional, reported last month that it now owns over a 5% stake in rival Usinas Siderurgicas de Minas Gerais SA, better known as Usiminas, in a possible prelude to a merger.
Nippon Steel and Sumitomo Metal have a number of tie-ups already in place, as well as minority stakes in one another. But Nippon Steel is poised to play the senior partner in the combination, as it leads Sumitomo Metal in market value, output and earnings.At Thursday's news conference, Nippon Steel's Mr. Muneoka read a joint statement and took the lead in answering questions.
Japanese Industry Minister Banri Kaieda indicated that the government wouldn't seek to thwart the transaction.
Some Japanese customers were cautiously optimistic about the merger.
"Saying that they will become too strong and have more price negotiating power [with customers] is putting it too bluntly," said Kiyoshi Ozaki, chief financial officer of Mazda Motor Corp. His company would welcome the deal if "becoming more cost-competitive [with raw-material suppliers] means they can give back something to us," he said.
The connections between Nippon Steel and Sumitomo Metal date to 2001, when they announced plans to merge their welding operations and consider a broader tie-up.
Those early moves followed a decision in 2000 by rivals Kawasaki Steel Corp. and NKK Corp. to merge, which created what has been the No. 2 Japanese steelmaker since 2002, JFE HoldingsInc.
There has been mounting speculation that further mergers would be inevitable as Japan's steel industry grapples with a weak domestic economy and the rising value of the yen, which has hurt the competitiveness of Japanese exports. Nippon Steel's Mr. Muneoka said that while there are no plans to expand the merged company in the short term, he wouldn't rule out further consolidation.
The strong yen has helped mitigate the higher price of raw materials somewhat, but profits remain far below those reported even just a few years ago, when surging global demand meant higher sales at home and abroad.
Nippon Steel forecasts profit of 95 billion yen for this fiscal year, improving from a loss of 11.53 billion yen last year. But the profit fell well short of the company's earnings of 155.08 billion yen in 2008.
Sumitomo Metal forecasts profit of 60 billion yen for the fiscal year, up from a loss of 49.77 billion yen. It posted earnings of 97.33 billion yen in 2008.
—Kenneth Maxwell, Yoshio Takahashi and Kana Inagaki contributed to this article.