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Charles Colon

Amit Amin

STLD AT A GLANCE

P/E ► -29.4   EV/EBITDA ► 33.2 AVG ROA ► 0.5% AVG ROE ► -6.4% AVG Debt to Equity ► 1.59 AVG Current Ratio ► 2.30 AVG Interest Coverage Ratio ► -0.318 AVG

 

 

 

 

 

 

Steel Dynamics (NYSE:STLD) is the fifth largest manufacturer of carbon steel products in the United States. STLD operates steelmaking mini-mills in the Southeast and Midwest regions, and the company has an annual steel making capacity of 5.2 million tons and expects to increase this total to 6.7 million tons by 2009.^[1][2] The company produces steel for numerous industries, including the automotive, construction, commercial, transportation and industrial machinery sectors.^[3]

In October 2007, Steel Dynamics completed the acquisition of Omnisource, a steel scrap processor.^[4] Omnisource gives STLD a new source of income, and it offers growth and expansion opportunities into the highly fragmented steel scrap industry. Furthermore, the acquisition gives STLD vertical integration - Omnisource is one of the major suppliers of scrap for STLD's mini-mills, accounting for 14% of the company's 2006 scrap supply. ^[5]

As a mini-mill producer, the company produces steel using scrap metal as opposed to iron ore. This gives Steel Dynamics some advantages compared to integrated competitors, especially after the company's acquisition of its own steel scrap and iron ore sources, since it is not as sensitive to volatility in the price of iron ore. Compared to the integrated steel mill model used by competitors such as US Steel (X), the mini-mill model is traditionally less energy and labor intensive. Furthermore, there is usually less preparation time demanded from mini-mills, thus allowing quicker shifts to different projects as well as the exploration of niche markets.

Business Financials

Steel Dynamics produces a variety of different types of steel, with flat-rolled steel accounting for roughly 50% of 2006 shipments.^[6] The company shipped a total of 4.8 million tons of steel during 2006 and reported net sales of approximately $3.2 billion.^[7] By manufacturing steel in mini-mills through the recycling of steel scrap, the company saves significant amounts of capital compared to integrated competitors, such as US Steel (X). Furthermore, the mini-mill model allows significantly more flexibility than does the integrated model, allowing Steel Dynamics to pursue smaller, highly-specialized projects.

In October 2007, the company announced the acquisition of a major metal scrap provider, the privately-held Omnisource.^[8] By vertically-integrating the company's raw materials supplier, the company has gained important growth opportunities, as well as shielding itself somewhat from the volatility of steel scrap prices.

Steel Dynamics operates in three segments:

• The Steel Operations division manufactures a number of different types of steel, including flat-rolled, structural, rail, engineered bar products, merchant shapes, and other finished products.^[9] This division accounted for 89% of the company's 2006 net sales.^[10]
• The Fabrication Operations segment manufacture a variety of steel building components, including joists, girders, and trusses intended for the non-residential construction market.^[11]
• The Steel Scrap and Scrap Substitute Operations process metal scrap for sale and for use in the company's electric furnaces for steel making.^[12] The company's 2007 acquisition of Omnisource will contribute to significant growth in this segment.

Steel Dynamics has regularly posted year to year gains in both revenues and operating income, and more often than not reports an operating margin over 15%.^[13] Over the past five years, simultaneous with the unprecedented boom in the steel industry, Steel Dynamics has reported growing revenues and operating income, observable in the graph below.

^[14]

The company is relatively new, having been incorporated in 1993.^[15] What this means in practical terms is newer facilities than its competitors. Newer facilities require less lead time to fill orders, and use advanced technology that can be adapted to serve multiple uses, allowing Steel Dynamics to pursue high-margin niche markets more easily than some competitors. Additionally, it assists the company in serving a broad array of end markets, as can be seen below.

^[16]

Key Trends & Forces

Steel Dynamics' mini-mill model offers advantages over integrated competitors: Integrated steel producers, such as US Steel (X), manufacture steel primarily from iron ore, requiring immense amounts of energy and consequently making production generally more expensive. Mini-mill producers instead recycle steel and metal scrap in electric arc furnaces, usually a less energy-intensive and capital-intensive process which many times leads to a better operating margin for mini-mill producers. However, both iron ore and steel scrap are traditionally volatile materials, changing in price drastically from one period to the next.

In December 2007, STLD completed the purchase of a Minnesota iron ore mine from Cleveland-Cliffs (CLF), giving the company an alternate resource from which it can produce steel and protecting the company somewhat from an expected volatile market for scrap in 2008.^[17] This acquisition comes soon after the October 2007 acquisition of Omnisource, a major steel scrap distributor. The acquisition of the iron ore operations may allow Steel Dynamics to pursue other end markets, as certain industries utilize only steel produced from iron ore as it is considered purer.

The cyclical nature of the steel industry may negatively affect STLD's short-term revenues:Over the past few years, the steel industry has enjoyed unprecedented success, with many companies posting record profits from year to year. A large part of this success is due to increased international demand for steel from emerging markets, a force that has resulted in skyrocketing steel prices. However, the domestic steel industry is traditionally cyclical. Because its success is tied to some of the biggest industries in the nation, such as the automotive and construction industries, the state of the steel industry usually reflects the current state of the general U.S. Economy. The steel industry will have to cope with ongoing turbulence in the domestic automotive industry and the subprime lending crisis' effects on residential construction. Concerning the domestic automotive industry, George Bush recently signed a law requiring higher fuel economy for automobiles, a move which may hurt the domestic steel industry as the auto makers attempt to improve fuel economy in any way possible, including the use of non-steel materials that are lighter.^[18] Since 57% of Steel Dynamics' 2006 shipments were for the automotive and construction industries, further trouble in these sectors may prove detrimental to the company.^[19]

Emerging global competition in the steel industry may cut into STLD's market share: With the rise of the demand for steel in recent years, global production has increased dramatically as well. Indeed, from 2001-2006, worldwide steel production grew a reported 49%.^[20] Much of the growth in both demand and production has come from China and other emerging economies. This rising demand is not set to decline in the near future; expectations consist of increases of 4.9% annually through 2010.^[21] Along with this soaring demand, production is growing, with China expected to become a net exporter in the near future. However, the sagging dollar has insulated the domestic market recently from massive foreign imports and for many companies in the domestic steel industry has led to increased international demand for their products.

STLD depends on the domestic residential construction industry: Steel Dynamics is heavily exposed to the U.S. construction industry. In fact, customers in the domestic construction sector comprised 43% of 2006 steel shipments. ^[22] The company's products are focused mostly towards the commercial construction industry which was quite resilient during 2007 compared to the residential construction industry. Construction for new stores and offices grew 10% after inflation during 2007, but that level of growth is not expected to continue into 2008. ^[23]

STLD's Acquisition of Omnisource allows opportunities for growth and consolidation in the steel scrap industry:In 2007, Steel Dynamics completed the acquisition of Omnisource, a major steel scrap distributor.^[24] This acquisition vertically integrates some of STLD's raw materials supply and allows significant room for growth and expansion into the highly fragmented scrap industry.

Market Share

Competition

Steel Dynamics operates in the highly competitive domestic steel industry and is the fifth largest manufacturer of carbon steel products in the U.S.^[32] As a mini-mill producer, Steel Dynamics has notable cost advantages compared to certain integrated steel makers like US Steel (X). These advantages traditionally include lower energy and raw material input costs as well as lower labor costs. After the company's recent acquisition of Omnisource, a major steel scrap processor, the company may also have a more favorable market position compared to other mini-mill producers, such as AK Steel Holding (AKS), because of the resulting stability in Steel Dynamics' cost structure.^[33] Furthermore, because of the company's brief lifetime (it was incorporated in 1993), its steel facilities are generally newer than its competitors and thus require less lead time than competitors, allowing Steel Dynamics to explore high-margin niche markets.^[34] Steel Dynamics also has certain local and smaller advantages, such as its claim as the only producer of structural steel in the Midwest, which is one of the largest structural steel consuming regions in the U.S.^[35]

Source: 2006 Company Reports

References

1. ↑ Steel Dynamics Website
2. ↑ Steel Dynamics 2006 10k pg 2
3. ↑ Steel Dynamics 2006 10k pg 3
4. ↑ Steel Dynamics Website
5. ↑ Steel Dynamics Website
6. ↑ Steel Dynamics Website
7. ↑ Steel Dynamics 2006 10k pg 2
8. ↑ Steel Dynamics Website
9. ↑ Steel Dynamics 2006 10k pg 6-9
10. ↑ Steel Dynamics 2006 10k pg 3
11. ↑ Steel Dynamics 2006 10k pg 9
12. ↑ Steel Dynamics 2006 10k pg 9-10
13. ↑ Steel Dynamics Company Reports
14. ↑ Steel Dynamics 2006 10k pg 20
15. ↑ Steel Dynamics 2006 10k pg 4
16. ↑ Steel Dynamics Website
17. ↑ Steel Dynamics Press Release Dec 3, 2007
18. ↑ White House Press Release, Dec 12, 2007
19. ↑ Steel Dynamics Website
20. ↑ American Iron and Steel Institute
21. ↑ American Iron and Steel Institute
22. ↑ Steel Dynamics Website
23. ↑ Speech by Jeffrey M. Lacker, President of The Federal Reserve Bank of Richmond, February 5, 2008
24. ↑ Steel Dynamics Website
25. ↑ Steel on the Net - World Steel Review, August 2009
26. ↑ X, Q2 2009, 10-Q, Item 4, Page 58
27. ↑ NUE, Q2 2009, 10-Q, Item 2, Page 19
28. ↑ SCHN, Q3 2009, 10-Q, Item 2, Page 30
29. ↑ AKS, Q2 2009, Quarterly Earnings Release
30. ↑ AKS, Q2 2009, 10-Q, Item 2, Page 27
31. ↑ CMC, Q2 2009, 10-Q, Item 2, Page 25
32. ↑ Steel Dynamics Website
33. ↑ Steel Dynamics Website
34. ↑ Steel Dynamics 2006 10k pg 4
35. ↑ Steel Dynamics 2006 10k pg 14