If I have a choice to buy Lion corp and CSC steel, definately I will choose CSC steel.
OPERATING conditions for CSC Steel Holdings (RM1.04) have brightened considerably over the past couple of months. Its stronger earnings results for the second quarter of 2009 (2Q09) underpinned the view that the worst is over for the company and the outlook going forward is upbeat.
CSC's shares appear fairly attractively priced for the cyclical recovery. The stock is trading at roughly 9.9 and 8 times our estimated earnings for 2009-2010. That's far lower than the broader market's average valuation — estimated at about 16-17 times.
The downside from hereon certainly appears limited. CSC has a strong balance sheet with net cash of RM250.7 million at end-June 2009 or a significant 67 sen per share. Its shares are trading 44% below net tangible assets of RM1.88 per share. Also, we estimate dividends to total 5.3 sen per share based on the company's 50% payout policy. That translates into a higher-than-market average net yield of 3.8% at the current share price.
Strong q-o-q earnings improvement
CSC Steel's earnings results for 2QFYDec2009 (2QFY09), while still down significantly year-on-year (y-o-y), showed good improvement over the immediate preceding quarter.
To be sure, turnover was down by about 7% quarter-on-quarter (q-o-q) to RM161.6 million. This was due mainly to lower selling prices during the quarter. Prices for cold rolled steel (CRS) fell below US$500 (RM1,765) per tonne at its lowest in April 2009, compared to the average price of around US$600-US$700 per tonne in 1Q09.
But volume sales registered improvement, which helped offset somewhat the price decline. Volume demand is recovering from the steep dropoff in 4Q08-1Q09, aided by both inventory restocking and some recovery in underlying demand. Many user companies had run down on inventory for the better part of 4Q08-1Q09 and have been gradually restocking. CSC's plant utilisation is estimated to have improved to over 70% currently, from under 50% early this year.
More importantly, despite the lower turnover, profitability improved considerably in 2Q09 compared with the immediate preceding quarter. Operating margin widened to 11.5% compared to just 6.5% in 1Q09. In addition to better plant utilisation, CSC also benefited from lower cost of raw materials, having run down on its high-cost stocks in the previous two quarters.
The company also wrote back another RM2.4 million in provision for doubtful debts in 2Q09, on top of the RM4.9 million in 1Q09. Excluding the writebacks, net profit improved to RM7 million in 2Q09, a significant jump from the RM800,000 in 1Q09.
Demand and prices pick up further in 3Q09
The flow of new orders has continued into 3Q09. End-user companies will likely keep stocking up in anticipation of improving consumer demand ahead of the upcoming festive season and end-of-year holidays.
Steel prices too have recovered from the lows registered this year, in April 2009. Sharp production cutbacks by the big steel millers have kept a tight rein on global stockpiles, which has helped support higher prices.
Prices are also being supported by pricier raw materials. The cost of raw materials has been creeping higher with growing evidence that the global economic recession is abating. For instance, spot prices for iron ore have nearly doubled, after falling below US$60 per tonne, after annual contracts between miners and steel makers were concluded with a smaller-than-expected 33% discount from last year's prices and bolstered by China's growing demand.
The price for cold-rolled coils has risen above US$600 per tonne currently, compared with below US$500 per tonne in April 2009. Hence, we expect CSC to report stronger revenue and profits in 3Q09, compared with 2Q09, on the back of both higher volume sales and selling prices.
Consumer demand will determine sustainability of recovery
Looking slightly further ahead, visibility is still somewhat hazy at this point. Much depends on whether the widely anticipated recovery in consumer demand materialises over the next few months.
If sales for consumer products, like cars, electrical and electronics devices, turn out to be softer than expected, we may see renewed weakness in global demand for flat steel products. There is also a question of how quickly big steel makers ramp up their production levels against the underlying demand recovery. There remains a risk of oversupply, given the significant excess steel making capacity around the world.
Nevertheless, even if the pace of recovery turns out to be slower than expected, it is unlikely that we will see a return of the global demand and price free fall witnessed in 4Q08-1Q09.
As such, we believe CSC's net profit in 4Q09 should still be much stronger than the RM800,000 recorded in 1Q09 (after excluding the RM4.9 million of doubtful debts writeback). Net profit for the full year is estimated at roughly RM39.5 million, which should expand further to about RM49 million in 2010.
Note: This report is brought to you by Asia Analytica Sdn Bhd, a licensed investment adviser. Please exercise your own judgment or seek professional advice for your specific investment needs. We are not responsible for your investment decisions. Our shareholders, directors and employees may have positions in any of the stocks mentioned.