Business Context and Reporting Period
Company: Reliance Steel & Aluminum Co. (Reliance)
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 1998
Reliance is one of the largest metals service center companies in the United States, operating a network of 20 divisions and 12 subsidiaries with 66 processing and distribution facilities across 22 states and France. The company distributes over 70,000 metal products, including carbon, alloy, stainless, and specialty steel, aluminum, brass, and copper, to more than 50,000 customers in manufacturing, construction, transportation, aerospace, and semiconductor industries. The 1998 fiscal year was characterized by aggressive expansion through acquisitions and record sales despite industry-wide pricing pressures.
Key Financial Metrics
| Metric (in thousands) | 1998 | 1997 |
|---|---|---|
| Net Sales | $1,352,807 | $961,518 |
| Gross Profit | $328,593 | $224,018 |
| Gross Margin | 24.3% | 23.3% |
| Income from Operations | $88,942 | $59,438 |
| Net Income | $47,675 | $34,176 |
| Earnings Per Share (Diluted) | $2.53 | $2.15 |
| Working Capital | $291,170 | $213,252 |
| Total Assets | $841,395 | $583,866 |
| Long-Term Debt | $343,250 | $143,350 |
| Shareholders' Equity | $345,802 | $313,164 |
Cash Flow: Net cash provided by operating activities was $30,935,000. Net cash used in investing activities was $172,406,000, primarily due to acquisitions ($152,350,000) and capital expenditures ($23,671,000). Net cash provided by financing activities was $113,920,000, driven by proceeds from borrowings ($363,000,000) and a secondary public equity offering in 1997 used for 1998 acquisitions.
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 40.7% to $1.35 billion, driven by a 47.2% increase in tons sold. This growth was primarily due to the inclusion of sales from seven acquisitions completed in 1998 and full-year contributions from 1997 acquisitions.
- Pricing Environment: Average selling price per ton decreased 4.5% due to lower raw material costs and a shift in product mix toward lower-priced carbon steel products. However, gross margins improved to 24.3% as raw material costs declined faster than selling prices.
- Acquisitions: The company completed seven acquisitions in 1998, including Chatham Steel ($68M), Lusk Metals ($22M), Phoenix Metals ($21M), and Durrett Sheppard Steel ($30.5M). In March 1999, the company acquired Liebovich Bros., Inc. for $60 million.
- Debt Levels: Long-term debt increased significantly from $143.4 million to $343.3 million to fund acquisitions. This included a $150 million private placement of senior unsecured notes in November 1998.
- Operating Expenses: Warehouse, delivery, selling, general, and administrative expenses increased 45.4% to $239.7 million, reflecting the scale of new operations.
Guidance, Outlook, and Risks
Management Outlook: Management does not anticipate the same rate of growth in revenues and net income in 1999 as seen in recent years. This expectation is due to lower selling prices and costs of materials, net of the impact of any future acquisitions. The company remains positioned to operate efficiently in less favorable economies due to tight cost controls and high inventory turnover.
Key Risks and Contingencies:
- Industry Cyclicality: The company serves cyclical industries (construction, aerospace, semiconductor). The semiconductor industry experienced a significant slowdown in 1998, impacting sales of high-margin electropolished stainless steel tubing.
- Leverage: Increased long-term debt resulting from recent acquisitions subjects the company to higher financial risks and covenants restricting dividend payments (limited to 35% of net income for 1998).
- Raw Material Volatility: While the company generally passes through cost increases, fluctuations in raw material prices affect sales volume and earnings.
- Integration Risk: Recent acquisitions may not perform as anticipated following the change in ownership.
- Year 2000 Compliance: The company estimates $1.5 million in costs to ensure Year 2000 compliance for its software systems, with completion expected by August 1999. Management does not anticipate a material impact on operations.
Investor Verification Checklist
- Verify the integration progress and financial performance of the seven acquisitions completed in 1998, particularly Chatham Steel and Lusk Metals.
- Monitor the impact of the semiconductor industry slowdown on the high-margin Valex subsidiary and overall gross margins.
- Review the company's ability to service its increased debt load ($343M long-term) and compliance with debt covenants regarding dividends.
- Assess the sustainability of gross margin expansion (24.3%) given the trend of declining raw material costs and selling prices.
- Confirm the status of Year 2000 software conversions for subsidiaries not yet on the Stelplan system.