Steel Dynamics, Inc. — Q3 2018 Form 10-Q
Reporting period: Three and nine months ended September 30, 2018. Steel Dynamics is a U.S. steel producer and metals recycler, with steel operations, metals recycling, and steel fabrication segments. Amounts below are in U.S. dollars; financial statement figures are in millions unless stated otherwise.
Financial performance
| Metric | Q3 2018 | Q3 2017 | First 9 months 2018 | First 9 months 2017 |
|---|---|---|---|---|
| Net sales | $3,223.5 | $2,443.4 | $8,917.9 | $7,202.3 |
| Gross profit | $686.1 | $396.5 | $1,801.6 | $1,261.2 |
| Operating income | $531.6 | $271.0 | $1,356.9 | $870.9 |
| Net income attributable to Steel Dynamics | $398.4 | $153.3 | $988.4 | $508.0 |
| Diluted EPS | $1.69 | $0.64 | $4.17 | $2.09 |
| Cash provided by operating activities | $420.4 | $225.9 | $924.4 | $547.3 |
- Q3 net sales rose 32% and operating income rose 96%; nine-month net sales rose 24% and operating income rose 56%.
- Q3 gross margin was approximately 21.3% versus 16.2% a year earlier; operating margin was approximately 16.5% versus 11.1%.
- Q3 income tax expense was $109.2 million, with an effective rate of 21.5%, versus 35.6% in Q3 2017. For the nine months, the rate was 22.9% versus 35.1%, primarily reflecting federal tax reform and, in Q3, certain discrete tax benefits.
- Q3 dividends declared were $0.1875 per share; the company said its quarterly dividend was increased 21% in Q1 2018.
Liquidity, debt and investment
- At September 30, cash and equivalents were $884.3 million and short-term investments were $115.0 million. Reported total liquidity, including $1,188.1 million of revolver availability, was $2,187.4 million.
- Long-term debt was $2,352.0 million, with $14.8 million of current maturities. The long-term debt-to-capitalization ratio was 37.3%, down from 41.9% at year-end 2017, mainly due to higher equity from earnings.
- The renewed $1.2 billion revolving credit facility matures in June 2023; there were no revolver borrowings at quarter-end. Covenant ratios were 15.54x interest coverage and 0.92x net debt leverage; the company reported compliance and expected continued compliance over the next 12 months.
- Nine-month capital expenditures were $176.5 million, versus $127.7 million. Investing cash outflow of $724.0 million included $434.0 million for the Heartland acquisition and purchases of short-term investments. Financing cash outflow was $345.3 million, including $193.4 million of treasury-stock purchases and $125.1 million of dividends paid.
- Cash, cash equivalents and restricted cash totaled $890.1 million at period-end, down from $1,035.1 million at the start of the year.
Material changes and management commentary
- Steel operations: Q3 segment operating income increased 108% to $573.8 million. Shipments rose 10%, average selling prices rose $212 per ton (27%), and mill utilization averaged 98%. Higher selling prices outpaced higher scrap costs, expanding metal spread.
- Metals recycling: Q3 operating income declined 17% to $14.7 million. Higher shipment volumes and ferrous prices were offset by a 10% contraction in ferrous metal spread; nonferrous prices also declined 2% year over year.
- Steel fabrication: Q3 sales increased 19%, supported by 7% higher shipments and 11% higher average selling prices, but operating income fell 40% to $13.1 million. Steel input costs rose 27%, outpacing selling-price gains. Management reported strong non-residential construction demand and order backlogs.
- Heartland acquisition: Acquired 100% of Heartland Steel Processing on June 29, 2018, for an initial $396.4 million plus a $37.6 million working-capital adjustment paid in September. The acquisition expands higher-margin flat-roll processing capacity. Purchase accounting remained preliminary, including valuation of property, plant and equipment and any identifiable intangible assets.
- The company repurchased $193.4 million of shares in the first nine months, completing a prior $450 million program and beginning a new $750 million authorization announced in September.
Outlook, risks and contingencies
- No numerical earnings or revenue guidance is provided in the supplied filing text. Management said current operations and anticipated growth, together with operating cash flow and available funding, should be adequate for debt service, working capital and expected capital expenditures over the next 12 months.
- Key risks cited include uncertain economic conditions and cyclical steel demand; raw-material and energy price volatility and the ability to pass through cost increases; import-price competition; acquisition integration or start-up difficulties; and unexpected plant outages or equipment failures.
- The company disclosed fixed-price customer and supplier contracts for nonferrous metals and an associated cumulative unrealized financial-contract loss of $3.7 million, substantially all expected to settle within 12 months. Certain supply and transportation arrangements include take-or-pay terms.
- Routine litigation, regulatory, environmental and other proceedings were not expected to materially affect financial condition, results or liquidity. Recorded fines or penalties related to environmental matters totaled $436,000 at September 30, 2018. The company reported no material change to its previously disclosed risk factors.
- The company anticipated adopting the new lease standard on January 1, 2019, and expected assets and liabilities to increase for existing operating leases; the amount of the impact was not clear in the filing text.
Most important facts for investors to verify
- Whether steel selling prices and spreads remain sufficient to offset scrap and other input-cost movements, particularly in fabrication and recycling.
- Heartland’s final purchase-price allocation and its contribution to segment shipments, margins and cash generation.
- Working-capital absorption: trade receivables and inventories increased, and operational working capital rose $404.6 million excluding acquired Heartland working capital.
- Future capital allocation, including execution of the new $750 million repurchase authorization and sustainability of the increased dividend.
- Compliance with facility covenants and the company’s ability to maintain liquidity if steel demand, pricing or cash flows weaken.