Stock Evaluation Project – Steel Industry
Steel is a part of metals and mining industry which is highly cyclical in nature, and when the economy at large suffers, this industry suffers with it. The most recent five years have been a struggle for this particular industry along with uncertain economic indicators, and steel companies’ stocks have trended downwards. The metals and mining industry is comprised of companies that engage in exploration, mine development, and ore mining. The industry includes precious metals mining for metals such as gold, silver, platinum as well as mining and processing industrial metals such as steel, copper, & aluminum. The industry is mature, cyclical, capital intensive and dominated by large companies. Some of the major names in the Steel Sector of this industry are Commercial Metals (CMC), Steel Dynamics (STLD), Reliance Steel (RS), AK Steel (AKS), ArcelorMittal (MT), U.S.Steel (X). The US steel industry is currently worth more than $50 billion with annual growth rates around 1% to 2%. Process chains are long with high production volumes.
Recently, large quantities of low-cost imports have impeded growth. However, the industry has seen enhanced productivity, energy efficiency, and higher yield due to restructuring, downsizing, and widespread implementation of new technologies. In the coming years, overcapacity and price instability may remain critical. Thereby, efficient production, better-suited products, enhanced capacity utilization and environmentally friendly practices are vital factors to future success. Demand comes from transportation, packaging, consumer electronics, construction, aerospace and power companies, which leads industry, overtly responsive to economic conditions. Companies are responding to pricing pressures through consolidation and vertical integration, which is aimed at streamlining the supply chain. Future growth for the US metals and mining industry also depends upon demand from BRIC nations, developing countries, and domestic consumers.
The industry has always faced a number of challenges including environmental concerns, deteriorating ore grades, overproduction, technological changes, and the global economy. Intense competition from nations such as Canada, Russia, China and Mexico pose threats to the US mining industry because those nations have lower labor costs, lax environmental regulations and lower operating costs. Sustainability of high prices, resurgent global demand, particularly from the Asia-Pacific region, and signs of increasing industrial output across Europe and the United States may boost industry performance. Conclusively, in anticipation of J-curve yield in the industry index, we can expect greater demand in near future due to a combination of rising GDP, another increase in auto sales, and inventory accumulation by distributors, which would further lead to an increase in the volume of steel shipped in 2013.
In the Figure 1.1 below, one could clearly see the downward trend of the Dow Jones US Steel Index for the last five years. And as we all know, what goes down comes back up therefore, we must rebalance our portfolios along with this cyclicality.
Figure 1.1 Dow Jones US Steel Index (Point and Figure Chart)
United States Steel was founded in 1901 and is headquartered in Pittsburgh, Pennsylvania. United States Steel Corporation, through its subsidiaries, engages in the production and sale of steel products primarily in North America and Europe.
The company has gone through a business cycle in the past 10 years and currently at its low yet a stable condition. This is due to several reasons, which are explained clearly by the ratios and the Z-score, as plotted by the help of Altman Z’s Model. The company’s liquidity has been fairly stable besides the times of 2008-2009 financial crises. If we smooth out an average for turnover measure, we could also conclude that the company’s management is doing fairly well in using the assets. Financial Leverage measure seems to be the only component affecting the Altman Z Score significantly, inflicting a bias in the usage of the model to solely depend on this method of deriving the company health. Also, if we draw a line at 2.0 ratio level, there is a bubble growth in the Z-score during 2005 and 2008, as shown in the figure 1.2 below.
Figure 1.2 Altman Z-score Model for U.S.Steel
ArcelorMittal engages in the production and marketing of finished and semi-finished carbon steel and stainless steel products worldwide. The company serves automotive, appliance, engineering, construction, energy, and machinery industries. The company, formerly known as Mittal Steel Company N.V., was founded in 1989 and is headquartered in Luxembourg, Luxembourg.
The stock performance has been quite interesting for this company over past 10-12 years. From $0.63/per share in 2001 to the highs of $97 just prior to its downfall, to $12/share approx. after 12 years, tells us a lot about the business cycle of steel sector. As plotted by the ratios derived by Altman Z-Score model below, it is very clear that besides Turnover and Financial Leverage ratios, no other ratio changed significantly in last 10 years and the company stock performed rationally if we consider business cycle but irrationally, if we consider the all other financial measures. Again the spike in the Z-score in the early 2000s reflects the spike in Financial Leverage of the company. However, at this point in time, the company looks as in congruence to the low levels of the industry, yet healthy and we could anticipate an upcoming up-trend in its performance.
Figure 1.3 Altman Z-Score model for ArcelorMittal