Steel companies still continue to operate in a difficult environment; however, there still are companies which managed their business well during the last two years and are well positioned to benefit from improving steel demand. Nucor (NUE) and Steel Dynamics (STLD) are two such companies. Both companies are levered significantly to end-markets which are showing continuous signs of improvements.
Nucor reported 4Q12 EPS of $0.45, beating consensus estimates of $0.31 by more than 45%. The results also came in better than NUE's mid-December guidance of $0.25-$0.30 per share. The beat was largely due to better than expected operating profits, primarily at its sheet, plate and beam mills, and a larger than expected last-in, first-out credit.
Similar to Nucor, Steel dynamics reported better than expected 4Q12 results. STLD reported operating EPS of $0.20, beating consensus estimates of $0.14 by 43%. Steel operations, which delivered stronger than expected volumes and lower than expected costs mostly, drove the beat.
Construction - According to the U.S. Census Bureau of the Department of Commerce, U.S. construction spending was estimated at a seasonally adjusted annual rate of $866 billion in November, a Y/Y increase of 7.7% from November 2011 estimate of $804 billion. During the first 11 months of 2012 construction spending was up 9.2% from the same period last year. Residential construction increased 0.4% sequentially, and nonresidential construction 0.8%.
In the public sector educational construction was flat sequentially; however, highway construction was 0.5% above the revised October estimate of $77.4 billion.
Similarly Architectural Billing Index (ABI) is also showing improvements. The American Institute of Architects (AIA) reported the November ABI score of 53.2, up from 52.8 in October (any score above 50 indicates an increase in billings). The new projects inquiry index was 59.6, up slightly from the October score of 59.4. Through November, the ABI had exceeded 50 for four consecutive months while the last two new project inquiries figures have exceeded 59.
"These are the strongest business conditions we have seen since the end of 2007 before the construction market collapse," commented AIA Chief Economist, Kermit Baker.
Approximately 50% of NUE's and 30% STLD's end market exposure is to construction, and both these companies are well positioned to benefit from improving demand.
2013 SAAR is expected to be 15.5 to 16 million units, a significant increase from its 2012 estimated total of 14.5 million units. X has a considerable exposure to auto market and is expected to benefit from the increasing demand in this end-market.
Cars and trucks in the U.S. are, on average, the oldest the country has ever seen and the domestic auto industry is benefiting from consumers replacing these old cars and trucks. Ford (F), General Motors (GM), and Chrysler Group all reported domestic December sales better than consensus estimates.
Approximately 20% of NUE's and 13% of STLD's end market exposure is to automotive, and both these companies should continue to benefit from strong demand from the automotive industry through 2013 and 2014.
Machinery orders have also been increasing, adding to the improving steel demand. US machinery shipments totaled $33.65 billion in November, up from $32.62 billion a month earlier. This represents a monthly annualized growth rate of 37.93%, compared to a long term average annualized growth rate of 4.69%.
Machinery market is the third largest end-market exposure for NUE and the fourth largest for STLD.
Based on preliminary Census Bureau data, December steel imports fell 15% M/M on days adjusted basis to 2.12 million tons from 2.41 million tons in November. The decline in shipments was largely due to smaller shipments of oil country tubular goods (OCTG), hot dipped sheets and strips, and plate products. On the other hand, hot rolled sheets' imports increased.
Decreases occurred primarily with Korea (down 55%), Japan (down 44%), and Turkey (down 56%). Increases occurred primarily with Russia (up 23%), and China (up3%).
Inventories Rose On Weaker Shipments, But Should Reverse In The Coming Months
As is always the case on a seasonal basis, steel inventories held at the service centers increased in December. However, looking ahead, January shipments almost always increase meaningfully suggesting the December increase will likely reverse in January.
On a daily average basis, total U.S. service center shipments of carbon steel fell 7.7% Y/Y and 14.4% M/M to 2.6 million tons in December. By product category, flat rolled declined the most M/M by 16.5%, followed by bars (-12%), pipe/tube (-10.3%), and plate (-8.8%). On a year-over-year basis, carbon bars shipments declined the most with 16%, followed by carbon plates (-7.9%), and flat rolled (-7.5%). However, on a full year basis, bars were the only category to have declined (-3.0%) while structural products posted the largest Y/Y gains of 4.2%. Total steel shipments, including stainless and carbon steel, declined 14.3% M/M and 7.5% Y/Y.
Steel inventories held at the service centers increased 2.4% Y/Y and 4.56% M/M to 8.5 million tons, marking the first sequential increase in absolute tons at service centers since August/July. Carbon steel inventories increased 4.5% M/M and 1.9% Y/Y. While flat rolled and plate inventories increased 7.4% and 2.8% M/M respectively, carbon bar and structural inventories actually declined M/M by 5.5% and 2.2% respectively. Bar inventories are at their lowest since May 2010, while structural inventories are the lowest in more than 20 years.
As said in the introduction in the present conditions both NUE and STLD remain the best positioned North American steel producers. We like NUE because of its effective management, strong balance sheet, exposure to the recovering end-markets, and further improving cost position as its DRI project begins to ramp up. We believe NUE is positioned to benefit from being an innovative leader among the steel producers. Moreover the growth projects including the DRI facility in Louisiana will contribute more to NUE's earnings as markets recover, and will help NUE perform better than its peers. In addition Nucor's downstream expansion and vertical integration into scrap processing should improve margins further in future.
STLD also has a plenty of things going in its favor. It's one of the best managed steel companies in the United States; it has a low, highly variable cost structure, which has helped it post superior margins throughout the last two challenging years for the steel markers. It has a diversified product mix, a secure supply of recycled ferrous metals, and an experienced senior management team. Steel dynamics has one of the lowest operating cost structures in the North American steel industry. Company's low operating costs are driven by high labor efficiency as well as a transportation cost advantage in the upper Midwest.
STLD like NUE is also well positioned to benefit from improving steel demand, with end-markets including construction, automotive, machinery all showing signs of improvement. Both NUE and STLD also have attractive dividend yields of 3.2% and 2.7% respectively.
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