U.S. Steel (NYSE:X) is an integrated steel producer of flat-rolled and tubular steel products with major production operations in North America and Europe. The company competes with steel giants like ArcelorMittal (NYSE:MT), Posco (NYSE:PKX) and Nippon Steel.
U.S. Flat Rolled is the biggest division of the company, contributing about 54% to our $33 price estimate for U.S. Steel, which is about 60% ahead of the current market price. The company has seen huge slump in its stock prices as recent economic data and mounting euro zone concerns shake investors’ confidence. This prompts us to take a look at some upside and downside scenarios to our estimate.
Here, we highlight 2 of the most important drivers for U.S Steel’s stock and the upside/downside potential.
1. U.S. Flat Rolled Products Average Price: U.S. flat rolled division realized an average price of $759 for each ton of steel sold in 2011.
2. U.S. Flat Rolled Product Shipments: Total shipments from this division were about 15.5 million ton in 2011.
3. U.S. Flat Rolled Products EBITDA Margin: The division saw its margins jumping to 8.6% in 2011.
30% Upside Scenario | $43 Trefis Price Estimate
1. Higher Steel Prices (+8%):
Steel is commonly known as barometer of economy as its demand is highly correlated with economic activity.
The average prices per ton have witnessed a see saw pattern with prices per ton remaining close to $780 in 2008 to $759 in 2011. This can mainly be attributed to the 2008-09 recession following some recovery. Also, cheap imports from China kept prices under pressure.
As the demand for flat rolled steel products increases as the global economy rebounds we expect prices to increase for our forecast period. The increase will likely be gradual because of the excess capacity that exists within the steel industry and the slow growth expectations in the majority of the developed world.
But, if steel prices jump to about $900 per ton, 6% more than we originally expect, this could translate into an upside of about 8% to our current price estimate of $33.
2. Higher Steel Shipments (+11%):
Currently developing countries are also going through times as growth subsides in developing countries like China, South Korea, India, Thailand. But we expect them to recover soon and witness near-double digit growth. We expect there will be a greater demand for engineering and finished industrial and non-industrial products shipped out of the U.S. This will lead to an increase in the demand for steel in the North American region.
We expect steel shipments for this division to grow by 2-5% for our forecast period. But, if economic recovery proves to be stronger than we expect with an unforeseen demand taking the total shipments to 21 million ton, this could translate into an upside of about 14% to our current price estimate of $33.
3. EBITDA Margins Improve (+8%):
We believe increase in steel prices and decline in primary raw material iron allow the company to reduce input costs and boost margins. Further, use of low priced natural gas could also help the company boost the margins. Therefore, we expect margins to improve for our forecast period.
However, iron ore could decline more than we anticipate as upcoming additional supply in China could put pressure on prices. Also, significant fall in natural gas prices can give boost to the company’s efforts to control costs. If due to the same reasons company improves its EBITDA margins to 11.5% by the end of the Trefis forecast period, this will represent a 8% upside to the Trefis price estimate.
25% Downside Scenario: $25 Trefis Price Estimate
1. Lower Steel Prices (-6%):
Any unforeseen slowdown in Chinese economy and gradual but weak recovery in the U.S. economy, could lead to a decline in steel prices instead of an increase that many expect. It could drive steel prices per ton down to about $800 by the end of the Trefis forecast period, instead of the $842 currently estimated. In such a scenario, our price estimate will see a 6% downside.
2. Lower Steel Shipments (-8%):
If due to the reasons mentioned in scenario for “lower steel prices”, steel shipments declines to 18 million tons, this will translate into an downside of about 8% to our current price estimate of $33.
3. Lower EBITDA Margins (-11%):
Any significant bounce back in natural gas prices and/or increase in iron ore prices can significantly hurt the company’s margins. If EBITDA margins decline to 10.0% instead of improving by the end of the Trefis forecast period, this will represent a 11% downside to the Trefis price estimate.