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Update Gerdau (GGB)
03/09/2011 1:20 pm EST
When the company reported earnings on March 3, the Brazilian steelmaker announced that it would reduce discounts on some products now that a steel industry recovery is underway. That puts Gerdau right in the middle of a wave of price increases (removing a discount is a price increase, right?) that built up significant momentum in February and that looks likely to continue through the second quarter of 2011. Some industry analysts are looking for a 60% increase before the cycle is done.
Gerdau is simply looking to reverse discounts that resulted in an 8 percentage point decrease in operating margins in the fourth quarter of 2010 from the prior quarter. That drop in margin was a big contributor to the 35% plunge in net income from the fourth quarter of 2009. Even so the company’s net income of 2.5 billion reais came in ahead of analysts estimates of 2.2 billion reais. Revenue matched estimates at 31.4 billion reais.
Companies that make steel for the auto industry are likely to remain challenged in the first half of 2011 by the strong Brazilian real, competition from Chinese imports, and rising costs of raw materials.
The picture is different for Gerdau, Brazil’s largest producer of long steel for the construction industry. (If you combine Gerdau’s Brazilian and U.S. operations, the company is the largest producer of long steel in the Americas.) About a third of Gerdau’s sales come from United States so the company’s sales will increase with any recovery in the commercial construction market here. In Brazil government programs to expand infrastructure investment—long a laggard in Brasilia’s budgets—and construction to prepared for the Olympics and the World Cup should all create higher demand for the company’s construction products.
Gerdau also had a surprise for shareholders in its conference call. Unusually for an operator of mini mills, which make steel from scrap instead of iron ore, Gerdau owns big iron ore reserves. (They’re part of the company’s expansion into flat-rolled steel products in 2012.) The surprise was that besides the 1.8 billion metric tons of iron ore at the company’s first mine, Gerdau acquired an additional 1.1 billion metric tons of reserves in 2010. Once those two mines are running at full capacity, Gerdau will be producing enough iron ore to supply its operations in Peru and India—and to sell iron ore to other steelmakers. The company said it is working on how to monetize these iron ore assets—a spin off into a partially publicly owned company, for instance. That could provide a nice bump to the stock given the current near record price for iron ore.
As of March 9 I’m setting a target price of $20 by the end of 2011 to replace my earlier target of $20 by June 2011.
Full disclosure: I don’t own shares of any of the companies mentioned in this post in my personal portfolio. The mutual fund I manage, Jubak Global Equity Fund, may or may not now own positions in any stock mentioned in this post. The fund did own shares of Gerdau as of the end of January. For a full list of the stocks in the fund as of the end of January see the fund’s portfolio at http://jubakfund.com/about-the-fund/holdings/
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