RS

Business Context and Reporting Period

Company: Reliance Steel & Aluminum Co.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: March 31, 2010
Business Overview: Reliance is a large accelerated filer engaged in the distribution of steel and aluminum products. The company operates globally with significant domestic and international subsidiaries.

Key Financial Metrics

Note: Working capital calculated as Total Current Assets less Total Current Liabilities. Total Debt includes current maturities and long-term debt.

Material Changes vs. Prior Period

• Revenue Decline: Net sales decreased 6.7% to $1.45 billion, driven by a 2.5% decrease in tons sold and a 5.0% decrease in average selling price per ton. The shift in product mix toward lower-priced carbon steel (52% of sales vs. 58% in 2009) tempered the price decline.
• Margin Expansion: Despite lower sales, Gross Profit increased 6.7% to $378.1 million. Gross margin improved to 26.0% from 22.7% in Q1 2009. This was aided by the stabilization of inventory costs and the absence of the significant LIFO credit recorded in Q1 2009 ($75 million credit vs. $5 million charge in Q1 2010).
• Profitability Surge: Operating income increased 66% to $79.8 million. Net income attributable to Reliance more than doubled to $44.7 million, primarily due to improved gross margins and reduced SG&A expenses.
• Cash Flow Shift: Operating cash flow turned negative at $(54.3) million, compared to a positive $314.5 million in Q1 2009. This reversal was due to increased working capital requirements (higher accounts receivable and inventory) to support improved business conditions, whereas the prior period focused on deleveraging working capital.
• Debt Levels: Total debt increased slightly to approximately $1.02 billion, funded by net borrowings of $79.2 million to finance working capital growth.

Guidance, Outlook, and Risks

• LIFO Outlook: Management estimates a full-year 2010 LIFO adjustment charge of approximately $20.0 million, anticipating higher inventory quantities and costs by year-end. However, mill prices are expected to decline somewhat in the second half of 2010.
• Capital Expenditures: Budgeted at approximately $140.0 million for 2010, with $23.1 million incurred in Q1.
• Dividends: The company declared a quarterly cash dividend of $0.10 per share for Q2 2010, maintaining a 51-year streak of regular quarterly dividends.
• Debt Covenants: The company is in compliance with all covenants. The interest coverage ratio was 4.7x (minimum 2.0x) and the leverage ratio was 28.6% (maximum 50%). These ratios are subject to stricter terms (3.0x coverage, 60% leverage) starting June 30, 2010.
• Restrictions: Until June 30, 2010, restrictions on the use of cash for acquisitions, dividends, investments, and stock repurchases remain in place due to the credit facility amendment.
• Risks: Key risks include fluctuations in metal prices, foreign currency exchange rates, and general economic conditions. Management noted no indications of goodwill impairment as of March 31, 2010.

Investor Verification Checklist

• Working Capital Dynamics: Verify the sustainability of the $1.12 billion working capital level and the ability to convert increased receivables and inventory into cash flow in subsequent quarters.
• LIFO Impact: Monitor the actual LIFO reserve adjustment throughout 2010 against the $20 million charge estimate to assess its impact on net income.
• Covenant Compliance: Confirm continued compliance with the stricter debt covenants (3.0x interest coverage, 60% leverage) effective June 30, 2010.
• Debt Maturity: Review the schedule for $147.6 million of debt obligations due before the credit facility expires in November 2012.
• Product Mix: Track the proportion of carbon steel sales versus other products to understand pricing power and margin stability.