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Masteel fares well in 3Q11

Written by Insider Asia
Wednesday, 07 December 2011 10:15

Malaysia Steel Works (KL) Bhd’s (Masteel: RM1.09) earnings in 3QFY11 ending December held up well despite challenging operating conditions for the steel sector, where larger peers such as Southern Steel Bhd, Ann Joo Resources Bhd and Kinsteel Bhd all reported weaker earnings quarter-on-quarter (q-o-q). We attribute this, in part, to Masteel’s relatively lean inventory holding policy that allows it to better match costs against selling prices.

Masteel’s turnover was 5.4% higher at RM300.3 million from the previous corresponding period due to higher average selling prices of steel products but was down 11.1% q-o-q as the result of lower volume sales. Operating margin improved from that of 3QFY10 and the immediate preceding quarter. Net profit rose to RM16.2 million in 3QFY11, up slightly from RM15.5 million in 2QFY11 and well above the RM4.8 million recorded in 3QFY10.

Fairly upbeat outlook going into 2012
We remain fairly upbeat on Masteel’s prospects, taking into account expectations for improving steel demand from the domestic construction and infrastructure sectors over the next few years.

Rollout of projects under the various government initiatives, including the Economic Transformation Programme, is expected to gather traction going into 2012. For instance, the mega MRT project is expected to break ground by 1H12, driving up demand for steel bars. Masteel believes that it is in a good position to supply this project based on the geographical advantage of its factories.

The company is in the process of expanding capacity to cater for the forecast volume demand growth.

The meltshop capacity will be gradually raised to 650,000 tonnes over the course of the next year, from the current 550,000 tonnes. Masteel is also planning to expand its rolling mill capacity by about 150,000 tonnes. The new plant is expected to be operational sometime in 2013. Once operational, the company intends to divert part of its expanded billet capacity as feedstock to this plant to extract better margins.

Capital expenditure is estimated to total roughly RM230 million for 2011 to 2013. The company’s balance sheet is fairly healthy with 49% gearing as at end-September this year, well below the industry average.

Selling prices retrace on uncertain global economic outlook
Selling prices of steel products, on the other hand, are likely to remain within a tight range, at least for the near to medium term.

Prices of steel bars have fallen over the last two to three months and are hovering around RM2,200 per tonne at the moment. This is due primarily to growing uncertainties stemming from the financial turmoil in Europe and the global economic slowdown.

Even though domestic demand is expected to be relatively robust going forward, we expect competition from imports to keep prices relatively in line with those in the global market.

At the moment, the outlook for the global steel market is one of caution. Demand growth is expected to slow in 2012 with sluggish economic growth in major developed countries and cooling emerging market economies.

The World Steel Association estimates global steel consumption growth at roughly 6.5% in 2011, after the strong 15.1% recovery in 2010. The pace of consumption increase is forecast to slow further to about 5.4% in 2012.

Indeed, some of the big steel millers, including those in China and Europe, have initiated production cutbacks in view of the uncertain economic conditions.

Raw material prices have also fallen well off their recent peaks. Major iron ore suppliers accepted lower selling prices for the raw material from the pre-determined 4QFY11 contract prices, in recognition of weakened demand.

Prior to this, the comparative resilience in prices of iron ore and coking coal have resulted in a margin squeeze for global steelmakers, even if they have kept a relative steady floor on prices of steel products. Having said that, few expect prices to go much lower for both key raw materials, taking into account the still rising demand, albeit at a slower pace of growth.

Most market observers believe that prices of iron ore will average around US$140 to US$150 per tonne in 2012, compared with the peak of about nearly US$200 per tonne early this year. Prices of coking coal too are expected to be lower. Shipments for 1Q12 are being priced around US$235 per tonne, down from about US$285 per tonne in 4Q11 and as high as US$330 per tonne in 2Q11.

Double-digit earnings growth in 2012
Assuming steel prices remain more or less at current levels and strengthening in volume sales, we forecast double-digit growth for Masteel for the next few years.

The earnings recovery, since hitting a trough in 2009, will continue to unfold. Net profit is estimated at RM46.1 million this year, up from RM28.2 million in 2010, conservatively assuming a weaker 4QFY11. Net profit for 9MFY11 totalled RM37.9 million.

Earnings are forecast to expand to RM54.8 million in 2012 and RM76.9 million in 2013. Masteel’s valuations remain attractive with price-earnings ratios of only 4.2 and three times for the two years, 6.1 and 4.4 times on a fully diluted basis.

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.

This article appeared in The Edge Financial Daily, December 7, 2011.