Steel Dynamics, Inc. — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018. Steel Dynamics is a U.S. steel producer and metals recycler, with steel operations, metals recycling, and steel fabrication as its reportable segments. Financial amounts below are in U.S. dollars; monetary figures are in millions unless otherwise stated.
Financial performance and position
| Metric | Q1 2018 | Q1 2017 / prior date |
|---|---|---|
| Net sales | $2,603.9 | $2,368.2; up 10% |
| Gross profit / margin | $463.4 / 17.8% | $472.2 / 19.9% |
| Operating income / margin | $323.4 / 12.4% | $334.6 / 14.1% |
| Net income attributable to Steel Dynamics | $227.6 | $200.8; up 13% |
| Diluted EPS | $0.96 | $0.82 |
| Operating cash flow | $177.9 | $240.4 |
| Capital expenditures | $50.6 | $41.7 |
| Cash and equivalents | $985.8 | $1,028.6 at Dec. 31, 2017 |
| Short-term investments | $40.0 | None at Dec. 31, 2017 |
| Total debt, including current maturities | $2,363.3 | $2,381.9 at Dec. 31, 2017 |
| Total liquidity, including revolver availability | $2,213.9 | — |
The gross and operating margins contracted despite higher sales. Income tax expense fell to $70.5 million from $105.6 million, and the effective tax rate declined to 23.8% from 34.7%, primarily reflecting the 2017 Tax Cuts and Jobs Act and the lower federal corporate tax rate. Interest expense also declined 6% to $31.9 million, partly due to refinancing senior notes in 2017.
Operating cash flow was lower year over year, with working capital investment a significant use of cash: receivables increased cash use by $118.8 million and inventories by $80.7 million. The company reported $991.4 million of cash, cash equivalents and restricted cash at quarter-end; this cash-flow measure includes restricted cash, unlike the balance-sheet cash figure.
Segment results and material changes
- Steel operations: Segment sales were $1,981.8 million, up 12%, while operating income fell 4% to $334.6 million. Average selling prices rose 10% and shipments were broadly stable; metallic raw-material cost per net ton increased 21%. Management cited planned maintenance and other manufacturing costs as pressures on earnings. Mill utilization averaged 94%, versus 95% a year earlier.
- Metals recycling: Segment sales increased 5% to $752.8 million and operating income rose 38% to $24.7 million. Higher metal prices and improved spreads more than offset lower shipments, including the effect of selling non-core locations in March 2017.
- Steel fabrication: Segment sales increased 4% to $201.7 million, with shipments steady and average selling prices up 4%. Operating income declined 17% to $19.8 million as non-steel costs rose; steel input cost increased 7%.
Company-wide net sales rose, but gross profit and operating income declined as costs increased. Attributable net income and EPS nevertheless improved, chiefly because of the lower effective tax rate and fewer weighted-average shares outstanding. The quarterly dividend declared increased to $0.1875 per share from $0.155. The company repurchased approximately 1.54 million shares for $69.3 million during the quarter.
Liquidity, outlook, risks and unusual items
- Revolver availability was $1,188.1 million, with no revolver borrowings outstanding and $11.9 million of letters of credit and other obligations reducing availability. Total reported liquidity was $2,213.9 million.
- Long-term debt to capitalization was 40.8%, down from 41.9% at year-end. The company reported interest coverage of 10.76:1 and net debt leverage of 1.36:1, within facility covenants. Management anticipated continued covenant compliance and sufficient funding for the next 12 months based on current operations and available funding sources.
- Management described demand as strong across the three segments. It cited record steel-operation shipments, rising selling prices, and strong steel-fabrication order backlogs heading into seasonally busier months. The filing provides no quantified earnings or revenue guidance.
- Key disclosed risks include economic and end-market cyclicality, import competition, steel scrap and other input-cost volatility, the ability to pass through cost increases, operational outages, and challenges starting or integrating facilities. Certain supply arrangements include take-or-pay commitments, extending up to five years for some commodities and 11 years for air products; some air-product commitments relate to idle Minnesota operations.
- The company uses commodity futures and options to manage nonferrous-metal exposure. It reported a $5.7 million cumulative unrealized gain on related financial contracts, substantially all settling within 12 months, and stated that associated customer contracts were expected to be completed.
- 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 $432,000. Management reported no material change in risk factors from the 2017 Form 10-K.
- ASC 606 was adopted January 1, 2018 using the modified retrospective method, with no cumulative adjustment and no change in the amount or timing of revenue recognized. The company also adopted cash-flow guidance that includes restricted cash in the cash-flow reconciliation.
Investor verification priorities
- Whether steel selling prices continue to outpace scrap and other input-cost increases, and whether margins recover from Q1 levels.
- Whether working-capital investment moderates and operating cash flow supports capital spending, dividends and share repurchases.
- Whether metals-recycling spread improvement persists despite lower shipment volumes, and whether steel fabrication cost pressures ease.
- Whether the lower tax rate and improved EPS are sustainable, separating tax effects from underlying operating performance.
- Current revolver availability, debt maturities and covenant headroom, along with any changes to take-or-pay obligations or environmental contingencies.