Business Context and Reporting Period
Company: Ternium S.A.
Filing Type: Form 20-F (Annual Report)
Reporting Period: Fiscal year ended December 31, 2007
Accounting Standards: International Financial Reporting Standards (IFRS)
Overview: Ternium is a leading steel producer in the Americas with operations in Argentina, Mexico, Venezuela, the United States, and Guatemala. The 2007 results reflect the full-year consolidation of Siderar (Argentina), Sidor (Venezuela), and Hylsamex (Mexico), as well as the acquisition of Grupo Imsa (Mexico) effective July 26, 2007. The company operates as a holding company incorporated in Luxembourg.
Key Financial Metrics
| Metric (in thousands USD) | 2007 | 2006 |
|---|---|---|
| Net Sales | 8,184,381 | 6,565,582 |
| Gross Profit | 2,388,341 | 2,268,603 |
| Operating Income | 1,586,408 | 1,636,569 |
| Net Income (Total) | 1,001,166 | 995,966 |
| Net Income Attributable to Equity Holders | 784,490 | 795,424 |
| Basic EPS (Equity Holders) | $0.39 | $0.41 |
| Cash and Cash Equivalents | 1,126,041 | 643,352 |
| Total Borrowings | 4,084,901 | 1,057,095 |
| Capital Expenditures | ~397,000 | ~405,800 |
Margins (2007): Gross Margin was 29.2% (down from 34.6% in 2006). Operating Margin was 19.4% (down from 24.9% in 2006).
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 24.7% to $8.18 billion, driven primarily by the consolidation of Grupo Imsa (contributing ~$976 million) and higher steel prices/volumes in South and Central America.
- Profitability Decline: Despite revenue growth, net income attributable to equity holders decreased 1.4% to $784.5 million. This was due to higher cost of sales (raw material inflation, Grupo Imsa's cost structure), increased SG&A expenses, and higher financial expenses.
- Debt Expansion: Total borrowings surged 287% to $4.08 billion, primarily to finance the Grupo Imsa acquisition and refinance existing debt.
- Liquidity Improvement: Cash and cash equivalents increased 77.9% to $1.13 billion, supported by strong operating cash flows ($1.56 billion) and financing activities.
- Cost Pressures: Cost of sales as a percentage of net sales rose to 70.8% from 65.4%, reflecting higher iron ore prices, freight costs, and labor expenses.
Guidance, Outlook, Risks, and Unusual Items
Outlook and Guidance
Management expects 2008 production volumes to be significantly lower than 2007 due to the nationalization of Sidor. The company plans to continue integrating operations, focusing on value-added products, and pursuing strategic growth opportunities, though capital projects face uncertainty regarding financing.
Material Risks and Contingencies
- Sidor Nationalization (Critical): In April 2008, the Venezuelan government announced the nationalization of Sidor (in which Ternium holds ~59.7%). A decree law requires Sidor to become a state-owned enterprise with the government holding at least 60%. Ternium faces risks of losing control, reduced production volumes, and potential inadequate compensation. Negotiations are ongoing, but expropriation could occur by July 12, 2008, if no agreement is reached.
- Tax Assessments: Venezuelan authorities initiated a tax assessment against Sidor for fiscal years 2003-2007, alleging omitted payments of approximately $669 million. Sidor disputes these claims.
- Raw Material Costs: Significant volatility in iron ore and coal prices (up 65-87% in 2008) and natural gas shortages in Argentina pose ongoing cost risks.
- Goodwill Impairment: The company recorded $850.7 million in goodwill related to Mexican acquisitions. Future impairment charges could materially affect earnings if performance expectations are not met.
Unusual Items
- Asset Sales: In February 2008, Ternium sold non-core U.S. assets (Steelscape, ASC Profiles, Varco Pruden, Metl-Span) for $727 million to BlueScope Steel. Proceeds were used to prepay debt.
- Dividends: A dividend of $0.05 per share ($0.50 per ADS) was approved and paid in June 2008, totaling approximately $100.2 million.
Investor Verification Checklist
- Sidor Compensation Terms: Verify the status of negotiations regarding the fair price for Sidor shares and the timeline for potential expropriation.
- Tax Liability Exposure: Assess the potential financial impact of the $669 million Venezuelan tax assessment and related labor lawsuits exceeding $100 million.
- Debt Covenants: Confirm compliance with financial covenants (leverage and interest coverage ratios) given the significant increase in indebtedness.
- Goodwill Valuation: Review the assumptions used in the annual goodwill impairment test, particularly regarding the cash flow projections for the Mexican subsidiaries.
- Argentina Energy Supply: Monitor the impact of natural gas shortages and supply restrictions on Siderar's production capacity and costs.