Is POSCO Capable of Maintaining its Growth Momentum in 2018?

Posted on 02 January 2018

Source: Zacks

Steel is crucial to economic well-being as it is used in construction, military application, infrastructure, machinery, appliances, transportation, agriculture, energy generation and many other end markets. This year has been outstanding for the steel producers of the United States, with a collective return of 22.4% yielded by these companies.

Today, we will discuss about South Korean steel producer – POSCO PKX . The company is the largest steel producer in its homeland, with a market share of 52.3% in the first nine months of 2017. It also holds the fifth position in the global ranking issued by the World Steel Association for 2016. Currently, its market capitalization is approximately $24.2 billion.

In the first three quarters of 2017, POSCO performed well, with steel production totaling approximately 28 million tons. Also, the stock’s American Depository Receipts (ADR) have surged nearly 49.6% year to date, more than doubling the gain of 22.4% recorded by the industry and well ahead of 20.2% gain of the S&P 500.

However, it is exposed to risks arising from higher costs and expenses, huge debt level, geopolitical issues and foreign currency fluctuations. Stiff competition from other players in the industry, including AK Steel Holding Corporation AKS , ArcelorMittal MT and Aperam APEMY , can also be considered a major hurdle.

Despite these headwinds, we believe that POSCO is well equipped to continue with its growth trajectory in 2018. A number of factors, as briefed below, will likely support this momentum.

Domestic & International Steel Demand: We believe that improvement in demand for steel will create solid business opportunities for POSCO. On the domestic front, any investment by the government in infrastructural development and rise in demand in the automobile, ship building and construction industries will work to the company’s advantage.

Also, the World Steel Association predicts the global steel consumption to grow roughly 1.6% in 2018 compared with 7% expected in 2017. The fall is mainly due to flat demand expectation from China versus 12.4% growth anticipated in 2017. Leaving aside the China factor, the company has solid growth opportunities in other countries.

In the United States, we believe the Trump government’s proposed infrastructure investment of $1 trillion, if implemented, will spur demand for steel. Other tailwinds are the country’s strengthening housing, automotive and commercial construction markets. Steel demand in this country is predicted to grow roughly 1.1% in 2018.

Another hot favorite destination is India. With the governmental initiatives, the country is progressing fast and has huge investments directed toward infrastructure development. Steel consumption is likely to grow 5.7% in 2018. Other regions anticipated to exhibit huge surge in steel demand are ASEAN and MENA regions.

Solid Business Portfolio: In addition to its steel business, POSCO has successfully strengthened its footprint in other growth businesses like energy, materials, infrastructure and trading.

Trading of steel and raw materials as well as investments in energy and mineral-development projects are accomplished through Daewoo International while engineering and construction related matters are carried out by POSCO E&C. Other subsidiaries like POSCO Energy, POSCO ICT and POSCO Chemtech Company Ltd. primarily deals with power generation, liquid natural gas production, network and system integration, logistics and magnesium coil and sheet production.

Scope of these businesses is very bright and POSCO seems well poised to benefit from these ventures. Notably, these growth platforms accounted for 50.3% of the company’s revenues in the first nine months of 2017. The rest 49.7% was derived from the steel business.

Expansion a Priority: Over time, POSCO has undertaken measures to improve its competitive edge in steel production, growth of other businesses and strengthen its financials and the managerial structure.

The company has worked hard for the establishment of steelworks in India and Brazil. Also, it has set up a continuous galvanizing line in Thailand (completed June 2016) and No. 7 continuous galvanizing line at Gwangyang Works (completed April 2017). Also, the company’s measures to increase non-oriented electrical steel capacity at Pohang Works were completed in February 2017.

In addition, POSCO Daewoo’s steps in resource development via Myanmar gas field and its venture into the food and forestry development business will be beneficial.

End Markets Key to Growth: Steel demand from the construction, automotive and shipbuilding end markets plays a vital role for POSCO. In the first nine months of 2017, roughly 35% of the company’s steel revenues were generated from automobile, home appliances and other markets while roughly 16% came from steel pipe, shipbuilding and others.

Business scope in the construction markets is high as both developed and emerging economies constantly engages in infrastructure development projects. Moreover, activities within the residential and non-residential markets also remain high. Demand in automobile market comes from new vehicle and replacement demands. Moreover, technological advancements require improved and sophisticated raw materials. Solid opportunities are anticipated from the electric vehicle market.

Earnings Estimates: POSCO’s earnings are projected to grow 5% in the next three to five years.

Notably, the stock’s Zacks Consensus Estimate is currently pegged at $8.38 per ADR for 2017 and $8.86 for 2018. The estimate for 2018 represents year-over-year growth of 5.7%.

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