Nucor 2011 Annual Report Download - page 22

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raw material surcharge mechanism, which our customers understand is a necessary response by us to the market forces of supply
and demand for our raw materials. The surcharge mechanism functions to offset changes in prices of our raw materials and is
based upon widely available market indices for prices of scrap and other raw materials. We monitor changes in those indices closely
and make adjustments as needed, generally on a monthly basis, to our surcharges and sometimes directly to the selling prices for
our products. The surcharges are determined from a base scrap price and can differ by product. To help mitigate the scrap price
risk, we also aim to manage scrap inventory levels at the steel mills to match the anticipated demand over the next several weeks for
various steel products. Certain scrap substitutes, including pig iron, have longer lead times for delivery than scrap. Our raw material
surcharge mechanism works best when demand for the affected products ranges from stable to strong. Then, we are generally able
to pass through relatively quickly the increased costs of ferrous scrap and scrap substitutes and protect our gross margins from
significant erosion. The surcharge mechanism can be less effective when the demand for our products is weak.
Although the majority of our steel sales are to spot market customers who place their orders each month based on their business
needs and our pricing competitiveness compared to both domestic and global producers and trading companies, we also sell
contract tons, primarily in our sheet operations. Approximately 50% of our sheet sales were to contract customers in 2011 (40%
and 30% in 2010 and 2009, respectively), with the balance in the spot market at the prevailing prices at the time of sale. Steel
contract sales outside of our sheet operations are not significant. The amount of tons sold to contract customers depends on the
overall market conditions at the time, how the end-use customers see the market moving forward, and the strategy that Nucor
management believes is appropriate to the upcoming period. Nucor management considerations include maintaining an appropriate
balance of spot and contract tons based on market projections and appropriately supporting our diversified customer base. The
percentage of tons that is placed under contract also depends on the overall market dynamics and customer negotiations. In years
of strengthening demand, we typically see an increase in the percentage of sheet sales sold under contract as our customers have
an expectation that transaction prices will rapidly rise and available capacity will quickly be sold out. To mitigate this risk, customers
prefer to enter into contracts in order to obtain committed volumes of supply from the mills. Our contracts include a method of
adjusting prices on a periodic basis to reflect changes in the market pricing for steel and/or scrap. Market indices for steel generally
trend with scrap pricing changes. Since the selling price adjustments are not immediate, however, there will always be a timing
difference between changes in the prices we pay for raw materials and the adjustments we make to our contract selling prices.
Generally, in periods of increasing scrap prices, we experience a short-term margin contraction on contract tons. Conversely, in
periods of decreasing scrap prices, we typically experience a short-term margin expansion. Contract sales typically have terms
ranging from six to twelve months.
Another significant uncertainty we face is the cost of energy. The availability and prices of electricity and natural gas are influenced
today by many factors including changes in supply and demand, advances in drilling technology and, increasingly, by changes in
public policy relating to energy production and use. Proposed regulation of greenhouse gas emissions from new and refurbished
power plants could increase our cost of electricity in future years, particularly if they are adopted in a form that requires deep
reductions in greenhouse gas emissions. Adopting these regulations in an onerous form could lead to foreign producers that are not
affected by them gaining a competitive advantage over us. We are monitoring these regulatory developments closely and will seek to
educate public policy makers during the adoption process about their potential impact on our business.
OUR STRENGTHS AND OPPORTUNITIES
We are North America’s most diversified steel producer. As a result, our short-term performance is not tied to any one market. The
pie chart below shows the diversity of our product mix by total tons sold to outside customers in 2011.
DIVERSIFIED PRODUCT MIX
Total Tons Sold to Outside Customers in 2011
Sheet
Bar
Structural
Plate
Downstream products
Raw materials
Other
33%
20%
10%
10%
11%
13%
3%