U.S. Steel Earnings Preview: Weather-related Issues to Offset Impact of Higher Steel Prices

U.S. Steel (NYSE:X) will release its second quarter results on July 29 and conduct a conference call with analysts the next day. A better pricing environment for steel in the second quarter of this year, as compared to the corresponding period a year ago, will boost the company’s results. However, weather-related related logistical issues are expected to limit production and raise operating costs, which will offset some of the gains from higher steel prices. The company’s Flat-rolled and U.S. Steel Europe (USSE) segments are expected to benefit from the improvement in steel prices. However, results for the Tubular Products segment will suffer in the second quarter, as competition from imported oil country tubular goods (OCTGs) has diminished realized prices and margins for this segment.

See our complete analysis for U.S. Steel

Steel Demand and Prices

The principal consumers of steel products are the automotive, construction, appliance, machinery, equipment, infrastructure and transportation industries. The nature of business of these sectors is cyclical, with demand generally correlated with macroeconomic conditions. Thus, demand for steel products is generally correlated with macroeconomic fluctuations in the global economy.

Steel prices have fallen over the last few years, driven primarily by falling demand due to adverse macroeconomic conditions in the developed economies and an oversupply situation. This is indicated by trends in the London Metal Exchange (LME) Steel Billet Prices. ^[1] Over the course of the last year or so, steel prices have recovered somewhat, driven by an economic recovery in the developed economies, particularly in the manufacturing sector. The Manufacturing Purchasing Managers Index (PMI) measures business conditions in the manufacturing sector of the concerned economy. When the PMI is above 50, it indicates growth in business activity, whereas a value below 50 indicates a contraction. This metric has consistently registered values of over 50 for all months in 2014 for the U.S. ^[2]  While it has faltered somewhat lately for the Eurozone, it has still remained above 50 for all months in 2014. ^[3] The improved demand conditions for steel are reflected in the LME Steel Billet Prices. These prices, which remained below $150 per ton for most of Q2 2013, remained higher than $350 per ton throughout Q2 2014. ^[1] Higher steel prices will boost the results of the company’s Flat-rolled and USSE segments.

Weather-related Issues

The effects of the unusually harsh winter in North America this year have negatively impacted the company’s operations in he second quarter. Weather-related logistical issues have affected both raw material and finished products shipments. U.S. Steel transports its steel pellet shipments over the Great Lakes. Record-setting ice levels on the Great Lakes this year slowed the opening of the 2014 shipping season, which impacted the company’s operations in the second quarter. During the company’s Q1 2014 earnings conference call at the end of April, the company management had intimated that U.S. Steel’s shipments across the Great Lakes were taking 120 days to transport, which ordinarily took 70 days. ^[4] These disruptions are expected to result in a reduction in shipments and higher operating costs as compared to the first quarter, especially for the company’s Flat-rolled Products segment. ^[5] The Flat-rolled segment accounted for around two-thirds of the company’s net sales in 2013. ^[6]

Challenges in Tubular Steel

The Tubular Products segment of U.S. Steel is primarily involved in the production and sales of oil country tubular goods (OCTGs). These goods serve customers in the oil, gas and petrochemicals markets. Energy related tubular products imported into the U.S. accounted for approximately 49% of the U.S. domestic market in 2013. These imported OCTGs are priced significantly lower than U.S. Steel’s tubular products. U.S. Steel and other domestic steel producers had sought the imposition of anti-dumping duties (AD) and countervailing duties (CVD) against these imports, claiming that these products were priced unfairly low. ((U.S. Steel’s 2013 10-K, SEC))

Cheap OCTG imports have negatively impacted the fortunes of U.S. Steel’s Tubular Products division. Segment income from operations for the Tubular Products division fell nearly 48% from $366 million in 2012 to $190 million in 2013. ^[7] This was primarily because of a fall in the average realized price for this division. Realized prices for the Tubular Products division have fallen due to competition from cheap OCTG imports. The average realized price per ton fell from $1,687  in 2012 to $1,530 in 2013, and further to $1,479 in Q1 2014. Gross margins for the division have correspondingly fallen from 15% in 2012 to 11% and 7% in 2013 and Q1 2014. ^[8]

The company had recently announced the idling of two facilities producing tubular steel, citing difficult business conditions created primarily by the imports of tubular goods. ((U. S. Steel To Idle Two Tubular Facilities In Pennsylvania And Texas; Foreign Dumping Of Unfairly Traded Tubular Products A Contributing Factor, U.S. Steel Press Release))

The U.S. Department of Commerce (DOC) has recently ruled that additional duties will be levied on imports of OCTGs from eight countries, including South Korea. The inclusion of South Korean OCTG imports amongst those on which additional duties are to be imposed is a reversal of the DOC’s preliminary ruling, which exempted them from additional duties. ((U.S. sets duties on South Korean steel pipe in about-face, Reuters)) This is extremely significant as U.S. imports of OCTGs from South Korea were worth around $818 million in 2013, much more than the $630 million worth of tubular imports from the seven other countries on which additional duties are being imposed. ^[9] These include Turkey, India, the Philippines, Saudi Arabia, Taiwan, Thailand and Vietnam. Ukraine was exempted from duties under a suspension agreement. If the DOC’s ruling is upheld by the U.S. International Trade Commission (ITC), it could revive the fortunes of the company’s Tubular Products division. However, competition from OCTG imports is expected to negatively impact the division’s second quarter results year-over-year.

The Carnegie Way

With a subdued steel pricing environment prevailing in 2013, the company launched an initiative known as ‘The Carnegie Way’, which is focused on cost reductions and improvements in operational efficiency. The company is expected to realize $290 million in cost savings through this initiative in 2014. ^[4] Cost savings under The Carnegie Way initiative are an integral part of the company’s strategy to remain competitive and will boost the company’s profitability.

Expectations from the Conference Call

We would like the company management to give an update on its crusade against imported tubular goods. Further, details regarding initiatives to be undertaken under The Carnegie Way initiative will be of interest to us. The company management is also expected to give its outlook on shipments and price realizations for the next quarter. This will throw some light on the road ahead for U.S. Steel.

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1. Steel Billet Prices, LME [↩] [↩]
2. U.S. Manufacturing PMI, Trading Economics [↩]
3. Euro Area manufacturing PMI, Trading Economics [↩]
4. U.S. Steel’s Q1 2014 Conference Call Transcript, Seeking Alpha [↩] [↩]
5. U.S. Steel’s Q1 2014 10-Q, SEC [↩]
6. U.S. Steel’s 2013 10-K, SEC [↩]
7. U.S. Steel’s 2013 10-K, SEC [↩]
8. U.S. Steel’s Q1 2014 10-Q, SEC [↩]
9. U.S. Targets South Korea Over Steel, New York Times [↩]