Forum Archive Index - March 2003

["tennyson@caverock.net.nz" <tennyson@caverock.net.nz>]

First, an apology for postponing the February update for 'investors 
in steel' into March.  But  I think it was worthwhile waiting to 
digest the interim results of Steel and Tube, Onesteel and BHP Steel 
which were all posted by late February.

My second point is a subtle correction to my "Investing in Steel - 
January 2003 Update" attached graph.  I graphed a monthly 
average price of the hot rolled coil steel price in $US per tonne.   
The shape of the graph is correct but the actual numbers quoted are 
normalized to a base value of 100, based on the January 1997 sale 
price.  This 'mistake' doesn't make any difference to my conclusions. 
But I thought I had better point it out for completeness!  

I have recently been back to the website:

www.steelonthenet.com

and furthermore perused the interim results of the three companies I 
have mentioned (STU, OST and BSL).  Now I am in a position to give 
what may prove a critical update!

I have reproduced updated and focussed in (looking only at the last 
six months) on the share price graph of BSL (BHP Steel), OST 
(Onesteel) verses the hot rolled coil price.   The hot rolled coil 
price, a proxy for the raw material costs of the manufacturing arms 
of BSL and OST,  is expected to remain strong all through 2003. 
After that time, the dramatic increase in steel production from China 
(up 33% since year 2000) coupled with slowing worldwide markets 
should cause the worldwide hot rolled steel price to slump again.  
This reinforces my view that now is a good time to think about 
jumping out of the steel commodity business - while it is on a 
cyclical high.  The practical observation today is that prices for 
steel are indeed holding up well so far (see attached graph).

BHP Steel (BSL) are having a fantastic year with so much cash rolling 
in they have announced a share buyback (10% of the shares on 
issue) which will largely take place after mid July.  I don't like 
the idea of buying into a commodity business at its peak.  So I'm not 
with BSL management on this strategy.  But I guess the buyback will 
give those of us who want 'out' an even bigger window of time in 
which to act.  Meanwhile buyers of BSL are (myopicly?) eyeing up 
that fantastic yield which is over 8% (based on a market price of 
some $A3.20) if you are lucky enough to qualify for Australian 
franking credits.  BSL goes ex dividend on March 18th but with 
Canberra Day a national holiday (?) I suspect the last day of trading 
'cum dividend' for BSL is this Friday.  

The prospect of a trans tasman tax reform package which allows New 
Zealand investors to access Australian franking credits, (provided 
those Australian businesses have a New Zealand arm that pays tax 
locally), is an intriguing thing for NZers contemplating owning 
high yield Australian shares.  However, my judgement is that BSLs New 
Zealand arm, New Zealand Steel, is unlikely to be profitable enough 
over the whole business cycle to benefit from this new tax treatment. 
 By contrast Onesteel (OST), with their highly profitable subsidiary 
Steel and Tube, are in a box seat.  

Last year I predicted an eps/dps figure of 13.1/9.8 cents per share 
for Onesteel within three years.  According to the 2003 half year 
report it looks like OST are going to make that target this year!   I 
was predicting an OST share price of $1.96 based on these earnings, 
yet over the last 6 months the OST share price has barely moved (last 
Friday $1.75).   So why the anomaly?   I think the market is telling 
us that they do not expect this years OST earnings to be sustainable 
over the medium term.  Certainly we can't expect the residential 
building boom to be sustained (+18.5% this half!) but my feeling is 
that the big infrastructure projects, like the Alice to Darwin 
railway line, will keep things cranking along until the IT inventory 
control improvements kick in.  Even OST themselves are forecasting:

"major operational milestones to be delivered over 6 months"

from their IT expenditure

To give you some idea of how much room there might be for improvement 
Steel & Tube (STU), where a similar IT revolution has been largely 
completed, has a Sales to Inventories ratio of 6.9.   By contrast the 
Sales to Inventories ratio of Onesteel's distribution business is 
4.3.  Admittedly distribution is only half of Onesteel's business, 
but this nevertheless represents a large potential improvement in 
business efficiency.

Costs have increased, but all of these increases have been able to 
be passed on to the end line customers.  On the manufacturing side 
Whyalla has been performing perfectly.ahead of next years scheduled 
shutdown and buoyant trading conditions for the Onesteel group means 
that there will be no deterioration in the debt equity position of 
Onesteel as a result of the refurbishment

If you keep in mind that the Onesteel share price is approximately 
half that of BHP Steel, you will see from the attached graph that the 
daily dollar value of shares traded is approximately the same in each 
share.   Given that BHP Steel is the larger company, it is clear that 
any high volume trading with shareholders repositioning themselves 
after the listing of BSL, has stopped. 

The share price drop over the last month of both BSL and OST, while 
hot rolled steel prices remain high is, I believe, a reflection of 
the decline of the overall market and not a reflection of any drop in 
confidence for either OST or BSL.  Over the last six months BSL has 
been the better performed share, as you would expect as a higher 
proportion of its revenue comes from manufacturing of steel products.

If OST can maintain their level of earnings for the long term, and I 
think it can, then investors buying in today will benefit from a 
consequent increase in share price to around $1.96 plus the dividend 
stream on the way.  If NZ investors end up getting their share of 
franking credits, and I think they will, this means an annual 
dividend of some 10c per share, which at a price of $1.75 (what you 
would pay today) gives a pretax equivalent yield of some 8% 
not withstanding any capital gain cream.  OST is not a screaming buy 
at $1.75, but perhaps a worthwhile addition to an overseas share 
portfolio nevertheless.

Meanwhile back at home, Steel and Tube maintains its trading 
 price range of the last eight months between $3.05 and $3.25.  I was 
impressed that the previously announced share buy back has not been 
started yet!  Perhaps management will do the sensible thing and only 
buy back when the share price comes under pressure after all.  
Meanwhile the acquisition of the New Zealand arm of Hurricane Wire 
seems a good fit.   STU continues to pay out all of its profits in 
dividends so it is hard to get too excited about the growth potential 
of this share.  Nevertheless it remains a good solid income share 
that I like, but don't (directly) own.


SNOOPY
 
discl: hold BSL (and a very few OST) 
 
---------------------------------
Message sent by Snoopy 
e-mail  tennyson@caverock.net.nz
on Pegasus Mail version 2.55
----------------------------------
"Sometimes to see the wood from the trees, 
you have to cut down all the trees."


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