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How Steel Dynamics Wins In a Difficult Industry
Stock Analysis & Ideas

How Steel Dynamics Wins In a Difficult Industry

Steel Dynamics (STLD) is the big winner in the highly cyclical steel industry.

Its shares have outperformed its peers, and the S&P 500, over the last 10- and 20-year periods. I’m bullish on the company’s shares. (See Insiders’ Hot Stocks on TipRanks)

This week, the company reported record third-quarter financial results that beat analyst estimates.

“The team continued to perform extraordinarily well, achieving record quarterly financial results, including record sales, operating income, cash flow from operations, and adjusted EBITDA,” said Mark D. Millett, chairman and CEO. “Our third quarter 2021 operating income increased 38 percent sequentially to $1.3 billion, while adjusted EBITDA increased 36 percent to $1.4 billion. This is truly an incredible achievement and a testament to the passion and commitment of our team.

“We generated record quarterly cash flow from operations of $631 million and maintained strong liquidity, while supporting our working capital needs, growing our business through organic growth investments, and returning capital to our shareholders.”

What’s the formula of STLD’s success? The ability to maintain high levels of capacity utilization in good and bad times, strong financials, and a balanced capital allocation.

High Levels of Capacity Utilization

Steel is a tricky business due to the cyclical nature of the demand for steel products, and the high sunken costs associated with significant fixed capital investments.

That makes profitability a wild card, with robust profits during economic expansions followed by huge losses during contractions, meaning that only the fittest companies survive and thrive.

Thanks to a Differentiated Business Model (DBM), Steel Dynamics is one of them, which allows the company to achieve high capacity utilization in both good and bad times.

For instance, in the last decade, capacity utilization has hovered around 90%, allowing the company to deploy its fixed assets efficiently, keep costs low, and generate plenty of cash.

There’s also diversification into several market segments to cushion the impact of economic booms and busts, like construction, automotive, energy, tubular, appliance, and other manufacturing.

Strong Financials

In addition to having a suitable business model for dealing with economic fluctuations, Steel Dynamics has an appropriate financial model to minimize the cost of raising funds.

For instance, the company maintains a sound balance sheet and plenty of liquidity, which allows it to keep good standing with debt grading agencies, meaning a low debt cost financing.

Balanced Allocation of Capital

While maintaining a solid financial position, the company is balancing cash flow from operations between capital spending and shareholders.

Here’s how the company allocated $5.4 billion of operating cash flow in the last five years: $3.5 billion went to capital spending for internal and external expansion, while $1.9 billion went to stockholders in the form of dividend payouts and share buybacks.

Wall Street’s Take

The five analysts that followed the company in the last three months are bullish on the company shares, with four Buys and one Hold assigned.

They average Steel Dynamics price target is $83.10, with a high forecast of $104, and a low forecast of $66.50. The average price target implies 33.2% upside potential.

Bottom Line

Steel Dynamics has the right business, and financial model, to survive and thrive in good and bad times in a complex industry.

Disclosure: At the time of publication, Panos Mourdoukoutas owned shares of Steel Dynamics.

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