Steel Stocks: Winners and Losers

James is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

During the last global bull market there were a few sectors that benefited even more than the overall market.  This was due to an insatiable demand for materials.  Oil, ores, and steel all became very popular as economies embarked on their largest expansion in modern times.

Fast forward to 2013, and demand for those materials is low, as are the prices.  We all know that the market operates in cycles and these materials are at the mercy of those cycles.  Therefore, it's not a question of if we will see another boom, but rather when will we see that boom?

With that in mind, we will examine three main players in the steel sector and pick a winner for our long term portfolio.  

The largest player in the steel sector is ArcelorMittal (NYSE: MT) with a market cap of just over $27 billion.  Currently it is trading at $17.50 (Figure 1), significantly down from its all time high of just over $100 during June of 2008.

Figure 1:

<img src="/media/images/user_14634/mt-10-year-chart_large.png" />

Initially you might think you're getting a bargain, but let's dig deeper to make sure that this steel producer isn't going to steal your money.  Some important valuations and statistics (Figure 2) are listed below.

Figure 2:

<table> <tbody> <tr> <td>Valuation</td> <td>ArcelorMittal</td> </tr> <tr> <td>P/E</td> <td>N/A</td> </tr> <tr> <td>Dividend Yield</td> <td>3.70%</td> </tr> <tr> <td>Dividend 5 Year Growth Rate</td> <td>-13.07%</td> </tr> <tr> <td>Net Profit Margin (TTM)</td> <td>-0.90%</td> </tr> <tr> <td>Sales 5 year Growth Rate</td> <td>-4.53%</td> </tr> <tr> <td>Return on Investments (TTM)</td> <td>-1.00%</td> </tr> <tr> <td>Return on Assets (TTM)</td> <td>-0.60%</td> </tr> </tbody> </table>

Right away we see a lot of red flags.  The non-existent P/E comes at the expense of -0.51 EPS.  With negative earnings, they are taking on more debt each quarter just to pay the shrinking dividend.  Decreasing long term dividends and negative numbers on key metrics are disturbing to say the least.  Strikes and labor disputes have undermined profitability and management is far from resolving all of those issues that plague them in various regions.  The only thing positive about this stock for a value investor is the approximate $35 book value.  However, that number is shrinking each quarter as negative EPS and dividend payouts chip away at value.  Conclusion:  Stay away.

United States Steel (NYSE: X) is currently trading at $24.50.  Taking a look at a ten year chart (Figure 3) we can see that current prices are similar to those of 2003.  So, are we getting a great deal here?  Or are the best days of U.S. Steel in the past?

Figure 3:

<img src="/media/images/user_14634/x-10-year-chart_large.png" />

Well, at first glance the numbers look absolutely horrible.  The table below (Figure 4) shows just how bad this stock is performing.

Figure 4: 

<table> <tbody> <tr> <td>Valuation</td> <td>U.S Steel</td> </tr> <tr> <td>P/E</td> <td>N/A</td> </tr> <tr> <td>Dividend Yield</td> <td>0.80%</td> </tr> <tr> <td>Dividend 5 Year Growth Rate</td> <td>-29.76%</td> </tr> <tr> <td>Net Profit Margin (TTM)</td> <td>-1.40%</td> </tr> <tr> <td>Sales 5 year Growth Rate</td> <td>1.84%</td> </tr> <tr> <td>Return on Investments (TTM)</td> <td>-3.70%</td> </tr> <tr> <td>Return on Assets (TTM)</td> <td>-1.80%<br /><br /></td> </tr> </tbody> </table>

Once again we see the same story.  The non-existent P/E number comes from the -$2.07 EPS.  Negative EPS and a desperate dividend are chipping away at book value.  Reading over the investor relations and recent call transcripts I don't see a real aggressive or coherent plan to turn this around.  What I do see are layoffs, terminated projects, disputes with the European Union, and selling of assets.  Conclusion: Stay away.

I must confess to a long term love affair with Nucor (NYSE: NUE).  Why Nucor you may ask?  What a great question.

Nucor has one of the best management teams in any industry anywhere.  My high opinion of them began during the 2008 market downturn.  I was expecting the steel market to get crushed, and it did.  However, Nucor maintained profitability, kept expanding, and paid a dividend that they had in place for about 140 consecutive quarters.  Finally, while most companies were slashing jobs to maintain their balance sheets Nucor's profits did not come at the expense of their workers.

Over the previous decade Nucor has doubled the amount of workers it employs to over 20,000.  It has 212 facilities with the majority in the U.S. and is just beginning serious global expansion.  With almost 1 billion invested in the last few years on acquisitions and new projects Nucor has a vision well beyond the most recent business cycle.  The growth that Nucor saw at a time when most were contracting leaves it in great position for the next bull market.

Looking at a 10 year chart of Nucor (Figure 5) we can see the solid channel that has formed over the last several years which appears to provide an element of safety.  In short: Steady long term numbers translated into a steady chart.  Maintaining consistent performance during the most bearish of cycles is a hallmark of superior companies.  This is why I'm suggesting an entry price of $38-40.  Currently Nucor is trading at $43.70.

Figure 5:

<img src="/media/images/user_14634/nucor-10-year-chart_large.png" />


With a solid dividend yield of 3.40%, a reasonable LT Debt to Equity of 0.44%, and a FY 2013 revenue estimate that is almost double that of FY 2012 we have a company that is safe, financially sound, and growing.  Taking a look at the same analysis we did for the previous two companies (Figure 6) we see a clear difference.

Figure 6:

<table> <tbody> <tr> <td>Valuation</td> <td>Nucor</td> </tr> <tr> <td>P/E</td> <td>27.30</td> </tr> <tr> <td>Dividend Yield</td> <td>3.40%</td> </tr> <tr> <td>Dividend 5 Year Growth Rate</td> <td>-9.04%</td> </tr> <tr> <td>Net Profit Margin (TTM)</td> <td>2.50%</td> </tr> <tr> <td>Sales 5 year Growth Rate</td> <td>1.96%</td> </tr> <tr> <td>Return on Investments (TTM)</td> <td>4.60%</td> </tr> <tr> <td>Return on Assets (TTM)</td> <td>3.40%<br /><br /></td> </tr> </tbody> </table>

In a sector that has been beaten down and ripe for a long term investment opportunity Nucor clearly is the winner.  Prime industry positioning, good value, strong growth, and smart management are all things that make this my number one pick in the steel sector.    The dividend should be safe and enough to keep the patient investor happy while they wait.  Conclusion: Strong buy and hold for the long term.

Lulupoopsalot has no positions in the stocks mentioned above. The Motley Fool owns shares of ArcelorMittal. Motley Fool newsletter services recommend Nucor. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus