Wednesday 22 August 2012

Southern Steel - Eleventh Hour Boost


Southern Steel managed to stay in the black with full-year earnings of RM8.7m for FY12, saved by its 4Q results, which were slightly ahead of our and street expectations. Meanwhile, we are keeping an eye on the probe on the dumping of steel wire rods, which may benefit the company should any duty be introduced. However, we prefer to retain our NEUTRAL call in view of the near-term industry headwinds, especially as steel prices are weakening.  After fine-tuning of our model and rolling over our valuation to FY13, we derive a slightly higher FV of RM1.75, based on 0.81x BV, or -1 standard deviation of the stock’s historical trading range.
4Q numbers spring back into the black. As we anticipated, the prices of various steel products recovered in the June quarter, helping Southern Steel to return to the black in 4QFY12. The RM23.4m net profit achieved in 4QFY12, which came in slightly above our and consensus expectations, was enough to offset its earlier losses and pull the company back to a full year profit of RM8.7m. 
Short-term reprieve for steel prices. Scrap metal prices had tumbled by about 15% at the beginning of summer, thus clouding the outlook for steel demand. While scrap metal prices have returned to above USD400 a tonne after staying briefly below that level, we expect steel bars to continue to come under selling pressure as international prices are sliding and construction activities, and in turn steel demand, had shifted to low gear during the Ramadhan month. Although the market is still holding high hopes on the rollout of projects under the Government’s Economic Transformation Programme (ETP) spurring steel demand, we think the momentum will only pick up after the widely anticipated General Election.
All eyes on dumping probe. The International Trade and Industry Ministry (MITI) has initiated preliminary investigations into the imports of steel wire rod after receiving a petition from domestic producers alleging possible dumping. In accordance with the Countervailing and Anti-Dumping Duties Act 1993 and its related regulations, preliminary determination will be made within 120 days from the date of initiation. If the final determination is affirmative, the Government might impose an anti-dumping duty at a rate that would rectify the situation. While we think MITI may take another month before the making the final decision, the imposition of any anti dumping duty may bring cheer to Southern Steel, by virtue of it being one of the key wire rods producers in the country.
Moving into flat steel segment? The Edge Weekly reported recently that Southern Steel plans to join the ranks of those seeking to build flat-steel plants in the country. Its  plan is said to involve setting up  a brand new compact strip production line (CSP, better known as a thin slab caster), plus a hot strip mill as well as integrate a skin pass mill into the company’s existing steel-making process. Although Southern Steel has not formally announced such a plan, we understand from our source that it may already be in the final phases of planning. Meanwhile, we expect the company to undergo a learning curve in relation to the new plant before it starts to make any meaningful contribution.
Reiterate NEUTRAL. While we project that Southern Steel’s financial performance may improve further in FY13, with profit contribution skewed toward 2H, its current valuation of 8.9x EPS and 0.9x BV on FY13 numbers is not appealing enough. Although the company is equally affected by the poor steel industry outlook, the potential imposition of an anti-dumping duty for wire rods may be an immediate rerating catalyst. Therefore, we are maintaining our NEUTRAL recommendation on Southern Steel, with our Fair Value (FV) revised slightly higher to RM1.75 as we roll over our 0.81x BV valuation to FY13. Our valuation is based on -1 standard deviation of the stock’s historical trading range.
Source: OSK

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