Posco Stock Rallies 49% as Steel Is Now Less Than Half Its Story

  • Stock rebounds from decade low with gain in iron ore prices
  • Steel accounted for less than half of Posco revenue in 2015

Korea’s biggest steelmaker was reeling at the start of the year. Its stock was trading at the lowest level in more than a decade, credit default risk was at a four-year high and profit was at a record low.

Two months later, Posco is everyone’s darling. The shares have rallied 49 percent since Jan. 21, bond risk is falling, while JPMorgan Chase & Co. and Nomura Holdings have turned bullish on the stock.

There are two main drivers behind the rebound. First, the company locked in iron ore while the raw material was reaching record lows and is now selling the steel it made at higher prices, boosting profit margins. Secondly, Posco responded to a glut in the industry by restructuring and focusing on higher value products, with steel accounting for 49 percent of the company’s 2015 revenue, down from 57 percent in 2011.

“Posco has entered the up-cycle after experiencing years of downturn in the market,” Misong Kim, a Seoul-based analyst at IBK Securities Co., said by phone. “Posco has been raising selling prices for its steel products this year, while input costs have been falling, which has widened the margin spread."

Posco has diversified into trading, construction and new materials while investing in overseas iron-ore mines to ensure supplies, Bloomberg Intelligence analyst Yi Zhu wrote in a March report. The company expects to start receiving iron ore shipments of up to 15.1 million tons a year in 2015 from a Roy Hill Holdings Pty project in Australia in which it holds a 12.5 percent stake. 

The company is also seeking to stabilize its margins by cutting costs, restructuring less-profitable business units and promoting premium-product sales such as automotive steel, Bloomberg Intelligence wrote. In 2016, 48.5 percent of its sales may come from high-end world premium steel, up from 38.4 percent in 2015, it said.

Posco is also benefiting from rising prices. The iron ore they are using now to produce steel was bought three months ago, leading to widened margin spread, according to Will Byun, analyst at NH Investment & Securities.

Global Glut

Iron ore has risen 25 percent this year, reaching its peak of $63 per ton on March 7 as data showed China’s home prices climbed in most cities and Chinese policy makers signaled their willingness to curb the overcapacity. China plans to cut crude steel capacity by up to 150 million metric tons within the next five years, which could relieve the global glut, Kenneth Hoffman, a senior analyst with Bloomberg Intelligence, wrote in a report March 10.

As Chinese steelmakers raised their selling prices, exports to Korea have been slowed, Park Kwang-Rae, analyst at Shinhan Investment Corp., said in a report Thursday. Posco is expected to raise its average selling price by 16,000 won per ton in the first quarter from the previous quarter, and that trend will continue through the third quarter of this year, said Park.

One risk for Posco is whether its clients would accept the surge in steel prices, according to Byun at NH Investment.

"The biggest concern in Posco’s average selling prices is whether it could overcome protests from its big clients, like automakers or shipbuilders over rising steel prices," Byun said in report. "If clients don’t accept that, its profitability could worsen again."

The Pohang-based company posted an annual loss including minority interests of 96.2 billion won in 2015, the first ever negative number in that category, versus a profit of 556.7 billion won a year earlier. Analysts expect net income excluding minority interests of 215.7 billion won for the three months ended March, according to the average of 13 estimates compiled by Bloomberg. 

The company’s default risk has been easing. The cost to protect Posco against non-payment for five years spiked in February to 215 basis points, the highest level since January 2012, according to data provider CMA. It has since declined to 180 basis points.

Posco closed unchanged Friday, erasing an earlier decline of as much as 3 percent. The stock surged 5.7 percent Wednesday on JPMorgan’s ratings upgrade. It’s trading at 16.2 times estimated earnings, higher than the multiple of 11.4 for the benchmark Kospi index. The stock is still down 36 percent from a high in September 2014.

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