As overcapacity continues to squeeze steel makers' profits, Baosteel Group has begun manufacturing auto parts in search of new sources of revenue.

Two new Baosteel plants will make auto parts for lightweight, fuel-efficient vehicles, the steel giant said Tuesday on its website.

"As profit margins on traditional steel products drop in China on steel industry overcapacity, it has become more common for steel mills to expand downstream in a bid to boost profitability," steel analyst Nie Xiuxin with Pingan Securities told the Global Times.

Baosteel is already involved in downstream projects making auto wheels and throttle valves, and is now going a step further by investing more in research and development.

The firm said it would build a research center to develop new products to make vehicles lighter in a tie-up with Shanghai automaker SAIC Motor Corp.

China produced 1.61 million tons of steel on average, every day in September, while inventories of five major steel products in 26 major cities stayed at 14.78 million tons as of the end of last month.

Citi Investment Research and Analysis predicts domestic demand for steel will slow to single-digit growth next year.

Baosteel is not the only mill to explore business downstream. Shougang Group opened a shock-absorber plant in June, supplying BMW, Ford, Honda and Volvo.

Wuhan Iron and Steel (Group) Corp is also currently constructing an auto-parts-production base.

Magang (Group) Holding Co and Anyang Iron & Steel Group are also providing steel products to downstream users.

Wang Guoqing, a researcher with Beijing-based Lange Steel Research Center said that with more mills pumping out customized products, downstream firms will save on manpower and capital.

Downstream industries, including shipbuilding, auto manufacturing and the construction sector, normally reshape steel for their own purposes or outsource reprocessing to smaller firms.

"Right now, we stamp steel sheets bought from mills in our plants. Stamping machines are very expensive. If steel mills are equipped with very sophisticated machinery ... it will save us a lot on R&D," carmaker Geely's spokesman Yang Xueliang told the Global Times.