Nucor (NYSE:NUE), the largest U.S. steelmaker by market value, recently reported 2Q13 and 1H13 results. The company reported second-quarter EPS of $0.27, falling short of consensus estimates by 3 cents. However, the reported EPS of $0.27 was within the pre-announced range of $0.25 to $0.30.
Lower-than-expected mill volumes as well as higher-than-expected SG&A costs of $123 million contributed to the earnings miss.
While total shipments of 5.84 million tons were 130,000 tons more than the first quarter, the estimated price per ton of $799 was flat Q/Q. Similarly average scrap cost per ton and total implied cost per ton of $377 and $720 respectively were both almost flat ($2 less than the first quarter) sequentially. The 2Q13 mill utilization rate of 73% was a percentage point higher than the first quarter.
Nucor's earnings are expected to improve sequentially in 3Q13 due to improved flat rolled pricing in recent weeks, a seasonal improvement in the company's downstream businesses, and benefits to scrap processing from higher scrap prices.
Shipments, which were affected by scheduled maintenance outages in 2Q, should also improve in 3Q. Moreover, as a significant number of projects are being completed in 2013 and early 2014, the company's capital expenditure is expected to peak in 2013, improving the free cash flow outlook.
Order entry and backlog has been improving modestly in the Fabrication segment, a positive indicator of construction spending. Projects that were delayed by weather in the second quarter impacted shipments negatively but some of these projects are now breaking loose, supporting an improved 3Q outlook.
DRI Louisiana - First Production by the End of 3Q
Construction is nearing completion on NUE's 2.5 million ton DRI facility in Louisiana. The company is on schedule for completion of construction and beginning of start-up late in the third quarter of 2013. Though the normal startup issues in the initial production would not come as a surprise, the company's history tells us that breakeven could come as soon as 4Q. Trinidad DRI facility reached profitability in the second or third month of operation.
Natural Gas Investment
NUE's natural gas investment is expected to secure a long-term, low-cost supply of natural gas, sufficient to cover the company's expected future steelmaking and DRI production needs for more than 20 years. The performance of wells completed over the past 2 years has exceeded the projections the company used to justify this capital allocation decision. That, of course, translates into lower gas cost and high returns from drilling investments.
Chief Financial Officer, James D. Frias, said during a conference call that the company expects its natural gas investments to be cash flow positive by 2016, which means the cash generated from sales will exceed the cost of drilling new wells.
Nucor has a very strong balance sheet. The company has a current ratio of 2.79, which is significantly better than the industry average of 1.64. It has a debt-to-assets ratio of 0.26, again better than the industry average of 0.31. It has debt-to-equity ratio of 0.49, almost in-line with the industry average of 0.47. Nucor's EBITDA-to-interest ratio of 8.1 is almost four times the industry average of 2.3. Similarly debt-to-EBITDA and CFO-to-total debt ratios of 3.1 and 0.3 respectively are also better than the industry averages of 4.7 and 0.2 respectively.
The company's liquidity position remains solid with $749.2 million in cash and cash equivalents, short-term investments, restricted cash and an untapped $1.5 billion revolving credit facility that does not expire until December 2016. In addition, cash flow from operations continues to be strong and was $485.0 million through the second quarter of 2013.
Conclusion and Investment Thesis
We have a buy rating on Nucor. NUE is well positioned to benefit from being an innovative leader among the steel producers. Nucor has consistently grown throughout the steel cycle, emerging stronger and more diversified each time. We believe the company's core operating results will continue to improve as the recovery in construction markets materialize. NUE's second 2.5 million ton DRI plant starts up in late 3Q13, and the company's bar and rod expansions near completion. These macro and company-specific drivers should deliver earnings growth for NUE going forward.
The company's raw material strategy and the unique ability to finance it also remains a key differentiator versus peers, specifically the first phase of Nucor's DRI facility, which should come online at the end of 3Q13 followed by the likely approval of a second phase expansion at a later date. Capital expenditures should also peak in 2013 and improve the free cash flow outlook as a significant number of projects are being completed in 2013 and early 2014.
Bears might say that NUE looks expensive on current earnings but Nucor's solid balance sheet, attractive 3.2% dividend yield, flexible cost structure, and continued focus on innovation merits premium valuations. Moreover, earnings are expected to grow as the DRI project ramps in 4Q and long product demand improves with the eventual construction recovery. In the meantime, a high dividend yield of 3.2% pays investors for their patience.