Steel Dynamics, Inc. — Q3 2019 Form 10-Q
Business context and reporting period
Steel Dynamics is a U.S. steel producer and metals recycler, with steel fabrication operations. This unaudited quarterly report covers the three and nine months ended September 30, 2019; comparisons are with the corresponding 2018 periods. Dollar amounts below are in millions unless stated otherwise.
Financial performance and liquidity
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Net sales | $2,526.8 | $3,223.5 | $8,114.8 | $8,917.9 |
| Gross profit | $359.8 | $686.1 | $1,214.6 | $1,801.6 |
| Operating income | $228.0 | $531.6 | $804.9 | $1,356.9 |
| Net income attributable to Steel Dynamics | $151.0 | $398.4 | $549.7 | $988.4 |
| Diluted EPS | $0.69 | $1.69 | $2.47 | $4.17 |
| Operating cash flow | $444.2 | $420.4 | $987.2 | $924.4 |
Q3 gross, operating and attributable net margins were approximately 14.2%, 9.0% and 6.0%, respectively, versus 21.3%, 16.5% and 12.4% in Q3 2018. Nine-month margins were approximately 15.0%, 9.9% and 6.8%, versus 20.2%, 15.2% and 11.1%.
- At September 30, cash and equivalents were $1,146.0, short-term investments $69.5, and disclosed revolver availability $1,158.1, for total liquidity of $2,373.7. There were no revolver borrowings; $41.9 of letters of credit and other obligations reduced availability.
- Long-term debt, including current maturities, totaled approximately $2,437.4. The debt-to-capitalization ratio was 37.6%. Interest coverage and net debt leverage ratios were 12.22x and 1.20x, respectively; the company reported covenant compliance.
- Capital expenditures were $293.7 in the first nine months, up from $176.5 a year earlier, primarily reflecting the Sinton, Texas flat-roll mill project. Cash dividends paid were $148.5 and treasury-stock purchases were $292.4.
Material changes versus the prior comparable period
- Q3 sales fell 22%, operating income fell 57%, and attributable net income fell 62%. For the first nine months, sales declined 9%, operating income 41%, and attributable net income 44%.
- Management attributed the deterioration principally to lower steel selling prices, especially sheet products, which fell more than scrap costs and compressed steel metal spreads. Customers delayed orders and destocked amid falling prices. Steel operations operating income declined 59% in Q3 and 42% year to date.
- Steel mill external shipments declined 5% in Q3; steel segment shipments declined 4%. Steel mill utilization fell to 87% from 98% a year earlier.
- Metals recycling Q3 sales declined 28% and operating results moved to a $0.1 loss from $14.7 income, reflecting weaker scrap prices, lower shipments and narrower spreads. Q3 ferrous and nonferrous average selling prices fell 26% and 13%, respectively.
- Steel fabrication was a relative strength: Q3 operating income increased 169% to $35.3 as lower steel input costs expanded spreads. Nine-month sales rose 7% and operating income rose 84%.
- Cash from operations rose to $987.2 for the first nine months from $924.4, while investing outflows decreased to $227.5 from $724.0, largely reflecting lower prior-year acquisition spending. The company acquired a 75% interest in United Steel Supply in March 2019 for $93.4 cash, plus a $3.7 working-capital adjustment.
Outlook, management commentary, risks and unusual items
- Management said underlying domestic steel demand remained intact and cited continued strength in automotive, construction and other industrial markets, but described steel pricing as challenging and customers as hesitant to order while prices fell. Non-residential construction demand and fabrication orders remained strong; wet weather and other construction delays had restricted shipments.
- No specific earnings or revenue guidance was provided. Management believed operating cash flows and other available funding, including the revolver if needed, would be adequate for the next 12 months to meet debt service, working capital and expected capital expenditures.
- In October 2019, all three credit rating agencies upgraded the company to investment grade. The filing says senior-note guarantees were automatically released following the upgrade; the company also expected collateral securing its revolver to be released around November 12, 2019.
- Principal disclosed risks include economic and steel-market cyclicality, demand in steel-consuming industries, raw-material and energy price volatility and ability to pass through costs, imports and trade policy, acquisition or project execution, and plant outages or equipment failures. Commodity contracts had a cumulative unrealized loss of $2.5, substantially all settling within 12 months. Certain supplier contracts contain take-or-pay commitments.
- Routine litigation, regulatory and environmental matters were not expected to materially affect financial condition, results or liquidity. Recorded fines and penalties for environmental matters totaled $0.508. Management reported no material change in risk factors or internal controls.
- Lease accounting adoption on January 1, 2019 added $76.3 of right-of-use assets and lease liabilities, with no retained-earnings impact and no significant operating-results or cash-flow impact. USS purchase accounting remained preliminary, including valuation of identifiable intangible assets.
Important facts for investors to verify
- Whether steel prices and metal spreads stabilize, and whether customer inventory destocking and weaker scrap flows persist.
- Execution, spending and expected capacity or earnings contributions of the Sinton mill project, alongside the elevated capital expenditure program.
- Final USS purchase-price allocation, performance, and the terms or timing of any purchase of its remaining 25% interest.
- Post-upgrade release of revolver collateral and senior-note guarantees, and continued covenant compliance and liquidity.
- Use of remaining share-repurchase authorization ($106.8 at September 30) and the sustainability of dividends amid cyclical earnings and investment needs.