Steel Dynamics Inc

NASDAQ:STLD

Earnings Call Transcript 2019-Q1

[Operator]

Good day. And welcome to the Steel Dynamics First Quarter 2019 Earnings Conference Call. At this time, all participants are in a listen-only mode. After management’s remarks, we will conduct a question-and-answer session and instructions will be following at that time. Please be advised this call is being recorded today, April 22, 2019, and your participation implies consent to our recording this call. If you do not agree to these terms, please disconnect.

At this time, I would like to turn this conference over to Tricia Meyers, Investor Relations Manager. Please go ahead.

[Tricia Meyers, Investor Relations Manager]

Thank you, Brenda. Good morning, everyone. And welcome to Steel Dynamics' first quarter 2019 earnings conference call. As a reminder, today’s call is being recorded and will be available on the company’s Web site for replay later today.

Leading today’s call are Mark Millett, President and Chief Executive Officer of Steel Dynamics and Theresa Wagler, Executive Vice President and Chief Financial Officer. We also have leaders from some of our operating platforms, including our Metals Recycling Operations, Russ Rinn, Executive Vice President; our Steel Operations, Chris Graham, Senior Vice President, Long Products Steel Group; and our new Flat Roll Steel Group; and our new flat roll steel mill and Southwest strategy we have, Glenn Pushis, Senior Vice President, Special Project; and Miquel Alvarez, Senior Vice President, Southwest U.S. and Mexico.

Some of today’s statements, which speak only as of this date, may be forward-looking and predictive, typically preceded by believe, expect, anticipate or words of similar meaning. They are intended to be protected by the Private Securities Litigation Reform Act of 1995 should actual results turn out differently. Such statements involve risks and uncertainties related to our steel, metals recycling and fabrication businesses, as well as the general business and economic conditions. Examples of these are described in our annually filed SEC Form 10-K under the heading forward-looking statements and risk factors, found on the Internet at www.sec.gov and is applicable on any later SEC Form 10-K. You will also find any reference to non-GAAP financial measures reconciled to the most directly comparable GAAP measures in the press release issued this morning entitled Steel Dynamics reports first quarter 2019 results.

And now, I’m pleased to turn the call over to Mark.

[Mark Millett, President and Chief Executive Officer]

Thank you, Tricia. Good morning, everyone. Welcome to our first quarter 2019 earnings call. We appreciate and value your time with us this morning. At this point, Tricia normally provided performance insights, but I'd like to instead pause for a moment to acknowledge the recent workplace fatality that occurred in our structural and rail division. We are saddened and our thoughts and prayers reside within the family and friends. Although, we have some of the best safety specifics in our industry, it brings little comfort at times like this.

The reason I always begin our calls on safety is because it's simply cannot be stressed enough. This is our number one value and our first priority. Nothing is more important than staying in a safe environment. We must all be continuously aware of our surroundings and the team members around us. We must actively think about safe at all times, keeping it an ongoing conversation and top of mind.

That being said, Theresa, will you provide us some insights with our recent performance.

[Theresa Wagler]

Thank you. Good morning, everyone. Our first quarter 2019 net income was $204 million or $0.91 per diluted share, within our guidance range of $0.88 to $0.92 per share. First quarter 2019 revenues were $2.8 billion higher than first quarter 2018 sales, but 3% lower than fourth quarter sequential results as average flat-rolled realized steel prices decline. Our first quarter 2019 operating income was $292 million, 20% lower than sequential fourth quarter results, driven by flat-rolled steel metals price compression.

As we discuss our businesses this morning, you will find we are optimistic about 2019 from a macro perspective and even more so because of our unique earnings catalyst. More specifically, our first quarter steel shipments increased 4% sequentially to 2.7 million tons with growth achieved at each division, excluding our structural and engineered bar division. Steels metals price compressed as our average quarterly realized sales price decreased $38 per ton to $902 in the first quarter and average scrap cost consumed only decreased $5 per ton.

The sales price decline is driven by lower flat-rolled steel prices. In general, aside from merchant steel, most of our long product steel prices actually increased in the first quarter. The result was first quarter steel operating income of $312 million and although, lower than fourth quarter results historically is strong performance. On March 1st, we acquired 75% controlling interest in United Steel Supply, a leading distributor of painted Galvalume flat roll steel used for roofing and siding applications. We paid cash of $93 million and assume debt of $41 million. The cash payment is still subject to working capital adjustments later in the year.

With our recent flat-roll acquisitions, production enhancements and our investments to cost effectively access the excess melting capacity or rolled over the structural steel divisions, we have diversified and increased our product capability. We now have an estimated annual steel shipping capability of over 13 million tons, including over 8.5 million tons of flat-roll steel and over 4.5 million tons of long product steel. And because of our emphasis on value-add steel, we also have 4.5 million tons of higher margin annual flat roll steel coating capability. And with third galvanizing line is running at Columbus mid-2020, we'll have almost 5 million tons of coating capability.

For announced recycling platform, first quarter operating income was $20 million, an 18% sequential improvement based on increased non-ferrous shipments specifically aluminum and higher realized pricing. We continue to effectively leverage the strength of our vertically connected operating model, which benefits both the steel mills and the scrap operations. Over 65% of our metals recycling platform ferrous shipment serve our own steel mills, increasing scrap quality, melt efficiency and reducing company-wide working capital requirement.

First quarter 2019 operating income for our fabrication business improved sequentially to $21 million, representing a 39% increase. Earnings improved and realized product pricing increased, and average steel input costs decreased. We continue to see strong order enquiry and customer optimism. We're entering the traditional construction season with a strong project backlog, and expectations for continued solid non-residential construction activity. Our March fabrication backlog is as strong as it was this time last year.

During the first quarter 2019, we generated $182 million of cash flow from operations, offset by operating working capital growth of the same amount as there were several annual payments, which are required to be made in the first quarter of this year. For example, our company wide profit sharing payments to our teams was $140 million in March due to our record 2018 earnings. First quarter capital investments were $54 million. We currently estimate 2019 fixed asset capital investments to be in the range of $300 million to $350 million, excluding the new mill, which I’ll address later. This comprised of $100 million to $150 million of sustaining capital, which includes safety and environmental projects, $100 million related to Columbus’s third galvanizing line addition and $100 million for other expansionary and efficiency growth projects.

Regarding shareholder distributions, we increased our cash dividend in the first quarter of 2019 to $0.24 per common share, a 28% increase. This solid increase is a 21% last year and 11% in 2017, demonstrating our confidence in the strength and continued growth of our sustainable through-cycle cash generation. We also repurchased $84 million of our common stock during the first quarter. Approximately $315 million remains authorized for repurchase at the end of the quarter. Since 2016, we repurchased 23.6 million shares, representing over 10% of our outstanding shares. We maintained strong liquidity at $2.2 billion at March 31st, representing almost $1 billion in cash and short-term investments and $1.2 billion of available funding under our revolving credit facility.

Before I hand the call back to Mark, I will share some updates regarding additional insights pertaining to the anticipated cash investment timeline for our New South Western U.S. flat-rolled steel-mill, which is a key part of our growth strategy. The total investment is currently expected to be approximately $1.8 billion, subject to continued refinement as we make final site selection, obtain required permitting and finalize the project timeline. Based on what we know at this point and assuming timely receipt of required environmental and operating permits, we would expect to begin actual facility construction in 2020, followed by starting operations in the second half of 2021.

Based on this timeline, we estimate that approximately half of our investments to be as follows; approximately $300 million in 2019, $850 million dollars in 2020 and $650 million in 2021. We'll continue to refine these estimates as we make our final site selection and secure state and local incentives. We've been making very good progress on these fronts. The strength of our improved cash cycle regeneration coupled with a strong capital foundation provides meaningful opportunity for growth and continued shareholder distributions through our positive dividend profile and share repurchase program. We're squarely positioned for a continued optimized long-term growth creation.

And finally, for some of those of you that use flat rolled steel shipments for your model that are broken down. For the first quarter of 2019, our hot-rolled and P&O shipments were 854,000 tons. Our cold rolled shipments were 137,000 tons. And finally, our coated shipments were 867,000 tons. Thank you. Mark?

[Mark Millett, President and Chief Executive Officer]

Thanks Theresa. As Theresa reported, New Millennium building systems fabrication platform delivered strong performance. Profitability increasing to slight lower shipments, resulting from income as well. Product pricing has improved while steel input costs have decreased, resulting in metal spread expansion. Our order backlog remain strong heading into the summer construction season and a slightly higher than this time last year. Project backlogs are expanding as contractors struggled with the construction labor shortage, which should prolong this long residential construction cycle. The ongoing strength of this business and continued customer optimism bodes well for non-residential construction demand.

Our metals recycling team also performed well, improving profitability in the quarter as non-ferrous volumes in metal spread increased, especially related to aluminum. Conversely, ferrous volumes contracted modestly. Ferrous scrap availability has been steady with strong automotive sectors generating a more than ample supply of prime scrap. We expect seasonal flows with cut and shredded grades will continue to pick up and outpace demand. We expect actual volumes to remain constrained through the rest of the year. And this is consistent with our longer term scrap view that pricing will remain stable in support of healthy steel sheet metal margins.

The steel platform delivered a solid first quarter performance in a somewhat challenging flat-rolled steel pricing environment. Flat-rolled steel prices began a downward trend in the second half of 2018, which continued through mid-first quarter reaching an inflection point in February. As prices softened, bias remain on the sideline, yet our teams were able to increase flat roll shipments to help offset some of the margin compression. The good news is that underlying demand remained intact. Flat roll pricing increased and order input rates returned, thereby regaining healthy lead times.

While industry shipping rates eased in the first quarter 2019 due to 35 day government shut back and abnormally cold and wet weather in many parts of the country, long voyage rates and interest costs should increase construction and higher oil prices could boost energy sector demand in the coming quarters. We further believe both U.S. and Mexican steel consumption will continue to improve in the coming years, with Mexican growth outpacing that of the U.S. based on meaningful increases in their manufacturing base.

We continue to position Steel Dynamics for the future through optimization of existing operations, organic investments and transactional growth. During 2018, we've reinvested on our existing steel operations and acquired Heartland, a 1 million ton flat rolled processing facility for additional value add product diversification. We also recently acquired a 75% controlling interest in United Steel Supply to further enhance our prepaying supply chain. We completed the $38 million and 200,000 ton a year rebar expansion at our Roanoke Bar division in the third quarter, becoming the only independent supplier in that region. In the first quarter 2019, we also completed 240,000 ton per year $82 million rebar expansion in our structural and rail division. This expansion includes cut-to-length and cold rebar capabilities.

Our unique rebar supply chain model is expected to meaningfully enhance customer optionality and flexibility, providing significant logistics, yield and working capital benefits. In addition, we'll the largest independent rebar supplier in the Midwest region also. We shipped our first full rebar in February. We acquired Heartland in mid-year 2018, increasing our flat roll product diversification through value added wider and lighter gauge product capability. Its geographic proximity to our existing Midwest flat roll operations also allows for meaningful value creation.

Integration is going well and the team is setting new production levels and productivity. The facility was supposed to higher cost inventory acquired through an acquisition through most of 2018. We still plan to reach an annualized run rate of over 80% of capacity by mid-year. The innovative spirit of the whole team throughout the organization remains intact, and they will have numerous smaller organic projects that were completed in 2018 and will benefit in the coming years as well.

During 2018, we also announced further growth from our Columbus Flat Roll division. In the last two years, Columbus has transformed its products offering through the addition of the paint line and the introduction of more complex grades of flat-rolled steel. The diversion of products to these diversified value-added outlets has reduced the volumes available through our existing galvanized steel customers. So to address the lack of sufficient galvanizing capacity, we announced the addition of a third galvanizing line at Columbus. The $140 million investment is another step of further value-add diversification for the Columbus mills and less hot-rolled coil exposure. The 400,000 ton line is planned to begin operation mid-year to 2020. Additionally, during the next 18 months, we plan to invest about $90 million at Columbus to further increase the range of complex grade capabilities, including advanced high-strength steels to both the automotive and energy sectors.

In aggregate, these upgrades will reduce the availability of about 400,000 tons from FDI Columbus of non-coated flat roll steel into the Southern U.S. by the year 2021. This will coincide with the timeframe that we plan to begin operating our plan of new flat roll steel mill in the Southwest. We're continuing to be increasingly excited by the expansive opportunities and long-term value creation of Southwest U.S. and Mexico growth strategy will provide Steel Dynamics. Each of our operating platforms have an existing presence in the region today, but we're on the move and planning to meaningfully expand our influence in the region.

The plant construction of our new flat roll steel mill in the Southwest is a significant piece of that plan. The facility is designed to have an annual production capability of 3 million tons, and will include a 450,000 ton galvanizing line and 250,000 ton paint line with Galvalume capability. We estimate the investment to be approximately $1.8 billion. The new mill will have capabilities beyond existing electric-arc-furnace flat roll steel reducers, and competing even more effectively with the integrated steel model and foreign competition. Having a thicker our cast section and a more conventional two-stage hot rolling pressers. The mill capability will provide higher frac, tougher materials to the energy and automotive markets. The mill will be capable of 84-inch wide, 1-inch thick, 100 ksi hot rolled coil. Downstream value-added capabilities will include galvanizing and pre-paint. And to be clear, we're not just adding production capacity, we will have the differentiated product portfolio, we'll have a significant geographic freight and lead time advantage and we have targeted models.

The new mill will have in fact three targeted regional markets, representing over 27 million to 28 million tons of relevant flat-rolled steel consumption. And we believe this demand will continue to increase in the coming years. Those regions include approximately 8 million tons from the -state region of Texas, Oklahoma, Louisiana and Arkansas, which has limited domestic regional supply and relies heavily on imports; approximately 4 million tons from the underserved West Coast region, which also relies heavily on imports; and finally, about 16 million tons from the growing Northern and Mid-Central Mexican region. Based on their growing manufacturing base, we believe Mexican demand growth will continue to outpace supply, making this an even more attractive underserved market in the coming years.

A significant competitive advantage lies in the intended location of the facility, central to these targeted market regions. We’re still likely to be pursuing sites in both Texas and Louisiana. The mill will provide a significant freight cost savings and delivery time advantage to many customers in the U.S. and Mexican region. This will provide a competitive supply chain, but have the new mills to effectively compete with imports slowing into Houston and the West Coast that inherently have long lead times and speculative price risk. Customers are excited and have already expressed interest in possibly locating facilities on or near our site.

From a raw materials perspective, our metals recycling operation already controls a significant and growing scrap volume in Mexico due to our scrap management relationships, much of which is prime scrap. We also plan to cost effectively source pig iron through the port systems. Based on current scrap relationships, both in Mexico and the Southern U.S., we are confident in the ability to procure high quality scrap in the region. We've been developing the flat roll steel strategy for this region and Mexico for several years. We've been developing both customer and scrap relationships, and we’re confident in the long-term strategic value and investment profile this project provides.

We believe our unique and operating culture, coupled with our considerable experience and successfully constructing and operating costs effective and highly profitable steel mills positions us well to execute this greenfield opportunity. We’re also optimistic about our existing market opportunities for 2019. We believe North American steel consumption will continue to see a steady increase. Furthermore, the actions taken by the U.S. federal government has developed a healthy domestic steel environment and should provide sustainable long-term support for the U.S. manufacturing base. These actions will continue to erode import volume, while increasing effective import price. We anticipate reciprocal 232 tariffs between the U.S., Canada and Mexico will be replaced by alternative effective quarter base programs among the USMCA countries prior to ratification of the agreement later this year.

Specific to Steel Dynamics, our unique culture and the execution of our long-term strategy continues to strengthen our financial position through strong cash flow generation and long-term value creation, clearly demonstrating our sustainability and differentiating us from our competition. Customer focus, coupled with market diversification and low cost operating platforms, support our ability to maintain our best-in-class performance and differentiation. The company and the team are poised for continued organic and transactional growth.

Our exception team provides the foundation for our success. And I thank each and every one of you for your passion and commitment to excellence and remind you, safety is always the first priority. We are committed to providing exemplary long-term value to our fellow colleagues, to our communities, to our customers and to our shareholders, and look forward to creating new opportunities for you all in the future.

So again, thank you for your time. And we would like to open the call up for questions now.

[Operator]

[Operator Instructions] Our first question comes from the line of Martin Englert with Jefferies.

[Martin Englert, Jefferies]

Your commentary on demand remains generally positive, expecting continued growth in North America this year. Can you discuss how much of that growth is coming from the core end market versus maybe Steel Dynamics taking market share from either imports or competitors? And then any other additional detail you can provide on potential growth ranges anticipated for steel consumption here?

[Mark Millett, President and Chief Executive Officer]

So obviously demand I think has been a big question relatively for all. I think one have to reflect back a little bit and understand why the fourth quarter was a little soft. It was a tough quarter from an economic standpoint; you had a 35 day government shutdown, you had an inclement weather, you've customers' sentiment -- people sentiment generally was a little a down. You have lingering recessionary concerns overhanging the fourth quarter. You have trade war, rhetoric and softening raw material price expectations. So I don't think it was surprising at all honestly, but you saw all the softness there. That softness inflected in February and our order input rates picked up dramatically, pricing picked back up. And today our lead times are very, very healthy for hot rolled coil that through the end of May, which is exactly where we'd like to see them. And we're actually a little long to be honest in coated and pre-paint we're anywhere higher than six to eight. So we see at least from our order books a very positive environment. I think order backlog remain strong. I think energy has been very good to us. And I think to the industry in general.

And as we meet with our energy, pipe and tube customers, they seem to be very bullish going forward. The gas oil transportation infrastructure needs to continue to be built at, particularly with the very large LNG projects that are happening along the coast in the Southwest. So we see energy being very, very, very strong for next several years. Manufacturing base is healthy and we see construction remaining healthy. As I said earlier, [indiscernible] into non-risk construction through New Millennium Building Systems is very positive, and our order backlogs are higher this time this year than they were last time. So I think generally, a very positive environment for the rest of the year.

[Theresa Wagler]

So Martin, specifically as it relates to whether its market share or fundamental core sector growth, we expect to see in consumption domestically probably about 2% growth year-over-year based on our own projections. But then there is some of that specific to Steel Dynamics where we have continued to take market share, specifically in automotive and some of the energy markets as well. So it's a combination of both.

[Martin Englert, Jefferies]

And if I could one quick follow up, volumes on SBQ do appear down here year-on-year. Can you discuss what you're seeing with demand there and the end users, and why volumes were lower?

[Mark Millett, President and Chief Executive Officer]

Well, I guess we permit a little bit of skittishness in the SBQ market. I think suppliers are getting some pushback on current pricing. Most mills are on pull at this point. People are looking for volume discounts, but we think some of it’s in inventory corrections. Most are still optimistic regarding the second half of '19. I'd say that’s what's driving that. I've spent a couple days at the North American Steel Alliance, which is a gathering of a lot of the -- the family along the smaller processing steel distributors. And I'd say to a customer and they were all very focused only on the market outlook. They are a little cautious with inventories and so they are not speculating in any way shape or form, but it's a positive environment.

[Operator]

Our next question comes from the line of Curt Woodworth with Credit Suisse.

[Curt Woodworth, Credit Suisse]

First question is just on the profitability of the steel op segment this quarter. If you look at the ASP increase relative to scrap increase your metal spread was up about $53 a ton year-on-year year, but EBITDA per ton only $9. So I'm just curious what were some of the other moving pieces around cost inflation, electrodes and things like that you could identify?

[Theresa Wagler]

So Curt, when you're looking year-over-year, the biggest change that you're seeing is the electrode costs. Our electrodes didn't start increasing cost until the second half of 2018, because we had different inventories that were layered in. And so it's almost $20 million quarter-over-quarter increase in just electrodes alone. But if you were to do that same comparison on the sequential fourth quarter, it's basically flat. So you're seeing the highest -- higher input costs and that’s basically the change in year-over-year.

[Curt Woodworth, Credit Suisse]

And then follow up just on the new 3 million ton mill. Mark, how do you think about the cadence of layering production, I mean 3 million tons is almost a 50% increase to your current footprint on a productive capacity basis for sheet, so clearly pretty transformative. Is your strategic imperative is that you'd want to try to quickly gain that market share and maybe be more disruptive, or what's the strategic philosophy in terms of how quickly you could ramp to 3 million tons? And would you like to stagger it as well?

[Mark Millett, President and Chief Executive Officer]

Well, we have no intention of staggering it. And I think the market will be very, very receptive and at least from all countries to-date, they're incredibly receptive. I think one has to recognize that in Southwest region, right now, there's a vacuum of domestic supply. This mill is going to have some minimum of $30 plus trade advantage over any domestic mill, plus its right in the heart of the import to reduce them. So we have trade advantage there and probably even more importantly, a lead time advantage. When folks are bringing imports and they have got a two, three, four month lead time and price speculation, I think we're going to gain massive volume or market share of that import downstream. And it's going to allow the pipe producers, steel producers in that region in Louisiana, as well as Texas compared to the scope that they haven't been able to procure at this point. And that will allow a massive amount of pipe and tube imports as well.

So I think you've got to consider -- again, this should avoid the supply today, and I think this mill is going to supply, it's going supply the four-state region. As I said earlier, it's 7 million, 8 million, 9 million tons onto itself. It's a very competitive freight rates to the West Coast about 3 million to 4 million ton market, and they are suffering on the supply side dramatically today. Plus, we're within $30 million freight of the Northern Mexican markets run rate, in particular and that's a growing region. It's 15 million tons, 16 million tons today and that's predicted to be 20 million plus over the next three to four years. So I have no doubt of the ability of that mill to penetrate the market and pick up market share very, very quickly.

[Theresa Wagler]

In addition, Curt, I don't think you can emphasize enough the fact what Mark said early is that we've got considerable number of customers that actually want to move on campus. And so, that's going to help to ramp up that facility as well.

[Mark Millett, President and Chief Executive Officer]

And also if you look at or if you reflect on any market that we've entered in the past, most of those markets actually have been over-served in any event. And our strategy has always been to differentiate ourselves, to create value from the supply chain, which obviously creates value to the end user and to the customer. And this mill is very, very different from many other electric-arc-furnace facilities to today. You can understand as electric-arc-furnace mini mill with hot rolled mill. So the two-state rolling, which will allow us to do thermal mechanical rolling, adds strength, capability, adds toughness. So our mill offerings 84 wide up to 1 inch, 100 ksi material is very, very differentiated and can only be really accessed by the integrated mills today and there at least probably have $50 to $60.

[Operator]

Our next question comes from the line of Matthew Korn with Goldman Sachs.

[Matthew Korn, Goldman Sachs]

So I appreciate the new detail on CapEx from the new mill. Question is, given the number of new furnaces announced in or near construction. Is there any constraint on available engineering talent? I imagine that the population anybody really experienced in leading in the area of build out is fairly small and well bid. And then you also mentioned timeliness in your approvals. What is the timeline on permitting, what should we be watching for? Is that a second quarter, second half? Where's the calendar there?

[Mark Millett, President and Chief Executive Officer]

Glenn?

[Glenn Pushis, Senior Vice President, Special Project]

This is Glenn Pushis. We're going to project that pretty much full time now. We've got our environmental permit in place of Texas application, we're being told it about a one year process for that. And we're really not finding anything -- to your question on engineering talent, we're really not finding any real challenges there. It seems to be that there's lot of people that’s in available engineering time and are ready to jump on the project that pretty quickly here.

[Mark Millett, President and Chief Executive Officer]

And to answer that again, it’s the best way I model. I was in the conference room, watching the folks leading what we call the war room that in our basement. And there’re probably a dozen individuals just walking out at the end of the day. And it's just amazing the amount of knowledge and talent and experience we have within our organizations and designing, procuring and building constructing, signing up large capital assets. And so at the middle of the day the team is going to perform annual review as well. The equipment itself has been spec out and Glenn and team, I think expects to have that all placed in the next two weeks.

[Matthew Korn, Goldman Sachs]

Let me ask in on the scrap market. Week-after-week, we see domestic steel production up year-over-year, utilization rates are higher. Naturally, that would mean the drawn scrap should be higher. Yet, global steel production keeps growing, global iron ore prices are substantially higher, which all of constant should be a tailwind for scrap prices. So why have scrap prices remained so moderate? And does it come down to we should especially expect finished steel prices to lead scrap moving forward and not the other way around as has been in the past? I'd love your opinion on that.

[Russell Rinn]

This is, Russ. I think the biggest difference in the U.S. market today is the export market. Again, you've got a tepid export market, which means the scrap is staying on the coast and it's more accessible. Therefore, it's a little bit higher to buy than what we've seen probably in the past decade or so. Obviously, that could change the heartbeat and you can certainly look at the fact that iron ore has traded at $9 range, per ton range and use the standards 4.5 times, it shouldn't be higher in price. But when there is excess scrap we're paying around, it's all facing a smaller market because they lack exports.

[Operator]

Our next question comes from the line of Chris Terry with Deutsche Bank.

[Chris Terry, Deutsche Bank]

I just had a question on the overall market dynamics I just wanted to flush out a little bit. In terms of your comments that there was an inflection point around the middle of February, we started to see pricing move up on the back of that. And then I guess linked to the question before on the scrap environment, we're seeing that easing the last couple of months. How you’re seeing activity at the moment and the pricing environment? It seems like things have eased a little bit, but you’re still very positive on the demand story. So just want to think about spreads in the next couple of quarters and overall pricing dynamics for the end products and also scrap? Thanks.

[Mark Millett, President and Chief Executive Officer]

Well, I think as Russ said, we look for the stable scrap pricing, going forward, the rest of the year and maybe soften a little bit this coming month. But again, 10, 20 is not massive move so stability on the [indiscernible] side. On the pricing side, yes, if the inflected went up and it's eased a little. But if you look at the arbitrage to foreign pricing today, it's pretty well evaporated, imports are still under control on an annual basis it'll be under control and probably will continue to erode through the year. So, I think the market pricing presenting is going to be relatively stable. So spreads will remain healthy.

[Matthew Korn, Goldman Sachs]

And then just following up on your comments a bit earlier around the Section 232 quotas versus tariffs. Can you just talk a little bit more about that and the timing you expect on that from Steel Dynamics' point of view?

[Mark Millett, President and Chief Executive Officer]

Well, I think we would say absolutely totally speculative but I don’t think. And our intelligence would suggest that the progress is being made in China and the progress is certainly being made in the USMCA. That would likely change to a quota based agreement. Those quotas based on certain level of historic import levels with the tariff for any exceeding through the overlap, and I think that will be a positive outcome for all three countries. On the trade move that we actually are seeing some pretty positive outcome, it's three of one I guess prefabricated imports. That action is underway, hasn't been concluded yet but we're already seeing some of the larger projects that will bid out and destine to the Chinese steel, prefabricated Chinese steel coming into country. Those are now being rebid and I think that's a very, very positive sign for our non-products metals market in general.

[Operator]

Our next question comes from the line of Brett Levy with Wedbush.

[Brett Levy, Wedbush]

Hey, guys, it's the recipe questions. You guys are adding 3 million tons, you're adding galvanizing, you're adding the width. You're getting potentially from Cliffs and other people, iron ore feed be very pure. Have you guys gone and I'm guessing you have and just asked to see if you can make the recipe, or maybe the hood of a Chevy or a Dodge, in terms of rolling pattern alloys, galvanizing all of the pieces of the puzzle, because it just doesn't seem right. You just build it and expect them to come. I would think that you probably have done some work on this and can you give any clarity on that?

[Mark Millett, President and Chief Executive Officer]

Well, first and foremost, we're certainly not a builder of dreams. As I said many times before, we don't manage the hope. We do things that control our own destiny. I think the teams -- obviously, in Butler, they've been supplying roughly 30% of their output to the automotive growth for years -- years and years. And the Columbus team has built a phenomenal following already, particularly with the higher strengths of advanced peoples, and are attaining incredible acceptance, particularly with the European automotive producers, BMW, VW, for instance. And this the new mill just adds to that. As we said, the two-stage rolling, the thicker cast slab will allow us to get the best steels for automotive and much stronger steel. And will allow us to get the tougher, thicker steels for the energy markets, API grade. So I think the opportunity for the market is definitely in front of us. We just have to get the thing up and running by 2021.

[Operator]

Our next question is from the line of Timna Tanners with Bank of America.

[Timna Tanners, Bank of America]

I don't want to beat the topic up too much here on the near-term market conditions. And I know we talked a little bit about your demand outlook, but one thing I wanted to ask you about is. Why do you think domestic prices have narrowed so much the gap between imports, like a lot of on the flat rolled side hot rolled in particular prices have been below landed import level so well? Do you see like a lot of extra steel competing? Is this a short-term thing? What's your sense of why prices for domestic mills are below important landed levels?

[Mark Millett, President and Chief Executive Officer]

Well, there remains a slight hesitancy. As I said, the customer base is fairly optimistic for business conditions and demand for the rest of the year. That being said, they're cautious on inventory. So they're buying steady as she goes and again with the addition of little bit more capacity, maybe stressed supply-demand a little bit. But from all we can see, Timna, the market through our own order book and that remain strong. As I said, we're right through the end of May with all that and we're too long in my own opinion on the [indiscernible] and prepaying.

[Timna Tanners, Bank of America]

And then -- our channel taxes just that there's too much supply. So that's what I was trying to get at is, there seems to be this fight for market share is what we're hearing. And I was just wondering if you're getting that sense from the field as well, but I can make leave it there. And then just on the new mill, I don't understand the Mexico commentary. I just want to understand a little bit better. If I look at the Mexican net imports plus production, I come up with about a 30 million ton market. And between the two new rolling mills Ternium and ArcelorMittal that are coming on next few years, it's what 5-plus million new tons. And then your mill is also talking about targeting these tons. And I know you said demand is growing. But how are you looking at that equation? Can you talk us through a little bit more of that detail please?

[Mark Millett, President and Chief Executive Officer]

Well, again, the market is still short for sure. Yes, Ternium is going to add a little bit capacity we think, you don’t know until it's actually on board. Arcelor is adding hot rolled coil capacity. So, there's a vision now and that is way down in the Southwest. So they've got a massive freight to get it up to the lower end. And I think you also need to understand there're product capabilities efficiencies within Mexico that our mill is going to do serve. Miquel, you've got some thoughts?

[Miquel Alvarez, Senior Vice President, Southwest U.S. and Mexico]

Yes, I mean, I just listened that you mainly spend your last comment on the product capabilities that we're going to have for the mill compared to what it's offering in Mexico. We've been talking to a lot of consumers in Mexico. We have confirmed that the broad capabilities that we're going to have on the mill are going to make a difference in the market. So the capacity that is being added in Mexico, its capacity that in fact you may want to continue to compete with some of the domestic mills there where we're going to offer [indiscernible] probably inflation some of the tonnage that is being importing from other countries. So we feel very confident about quickly gaining market share there. We just got capabilities that we're going to have.

[Timna Tanners, Bank of America]

So those capabilities would be not just the galvanize I'm assuming, because there is three galv lines coming on in Mexico as well. So, you're talking about capabilities aside from finishing, so maybe like the wider gauges or maybe the thickness. Is that what you're talking about?

[Mark Millett, President and Chief Executive Officer]

There's a combination of width, gauge and strengths.

[Operator]

Our next question comes from the line of Piyush Sood with Morgan Stanley.

[Piyush Sood, Morgan Stanley]

Couple of questions, first one on the fabrication business. You would have picked up higher price orders throughout last year. So wondering whether you've seen all those higher price orders come through the results already? Or is there more to go through the year?

[Theresa Wagler]

From a fabrication perspective for the backlog, actually we've increased prices pretty effectively in the first quarter of this year and we would expect to see that continue honestly through the year. And that in combination with the lower steel pricing that is now in the inventory for the fabrication business should result in higher spreads than you would have seen in 2018.

[Piyush Sood, Morgan Stanley]

And going back to spreads, I just want to understand that the spread between hot roll and cold roll has widened closer to about $150. So, is the market much more tighter on cold than on cold and coated versus hot roll? Also, how sustainable do you think that difference in the tightness is?

[Mark Millett, President and Chief Executive Officer]

Well, certainly on the coated side, galvanize side and pre-paint side things are very, very healthy. We actually have not necessarily been a major player in coated sheet. Although, that's a marketplace we'll be venturing through the Heartland acquisition. But I think on the coated pre-paint spreads those will be maintained.

[Operator]

Our next question comes from the line of Matthew Fields with Bank of America.

[Matthew Fields]

Thanks for the detail on the CapEx schedule for the new mill. Is it your intention at this point to fund the construction spending through free cash flow generation and not any additional debt incurring?

[Theresa Wagler]

Right now, Matt, our current intention is to watch the capital markets throughout the year. And you see our capital structure today and you will see that we have some notes that are actually stepping down on pricing. So, I think we're just going to continue to monitor the market. We definitely believe we could do that but that might limit some options as we do other things. So I think it's something that we're going to wait and see what happens in the capital markets this year.

[Matthew Fields]

And then as you enter this period of elevated CapEx spending over the next few years, against the backdrop that some of the other analysts have mentioned with all this new supply coming on from other producers. Is there leverage level that you would like to maintain as you're spending all this cash building this mill?

[Theresa Wagler]

Well, certainly obviously, yes. Today, obviously, Matt, leverage levels are quite attractive. I think our net leverage is less than 1 times at the end of the quarter. But during this cycle, we've consistently said and we really like to maintain that through cycle net leverage somewhere between 2 and 3 times. And so with that, we believe that we’ll be able to effectively do that even with the elevated levels of CapEx spending, because I think one need to keep in mind that we have all these earnings catalysts that are also coming online this year. For example, the rebar project the Structural Rail Division, we just started shipping rebar in the first quarter of this year. So by the third quarter of this year, we expect to be up to about 90% to 95% capacity, and that’s quite a bit of additional volume. And that's why I may have mentioned the fact that our shipping capability today is over 13 million tons. So I think one needs to keep in mind that there's earnings catalysts that will be kicking in along with that additional spending over the next two to three years.

[Matthew Fields]

And then last question for me. How do you balance the $2 billion you intend to spend on the mill, some acquisitions you're making along the way, share repurchases and dividends with the goal to get investment grade?

[Theresa Wagler]

Well, right now, I think we have the ability to have what we'd like to call balanced approach to the capital allocation, which you've seen us doing. If we are going to see a larger acquisition or transaction, you’ll probably likely see us go back a little bit on the share repurchases in advance of that or in combination with that, because that's a lever that we can use quite effectively. Otherwise, I think you should expect to continue to see a positive dividend profile from us what you've seen over the last long period of time actually along with the additional capital that we've been spending with expectations for that continued cash flow generation. So I think you're going to continue to see us do what we've been doing.

[Operator]

Our next question comes from the line of Chris Olin with Longbow.

[Chris Olin, Longbow]

I get the whole underlying thesis that import quotas have a better long-term impact on the U.S. steel industry. I guess my question is when you start thinking about the new NAFTA agreement, or I guess I should say the USMCA. Once we see a shift from tariffs to quotas. Is there going to be potentially a destabilizing effect as the market need to reset and could that explain some of the slowdown in orders heading into a final decision?

[Mark Millett, President and Chief Executive Officer]

I don't believe so. I think the final USMCA agreement will be based on past levels of trades. As such, there’ll be some stability there more than anything else.

[Chris Olin, Longbow]

So the market will naturally be set the lower import prices, especially when you look at some of these long products being under priced before the tariffs. So I don't need to adjust for that at all?

[Mark Millett, President and Chief Executive Officer]

I don’t think so.

[Operator]

And our next question comes from Phil Gibbs with KeyBanc.

[Phil Gibbs, KeyBanc]

Mark, in terms of the United Steel Supply deal. Is that something we should expect you all to do moving forward in terms of making more of these downstream acquisitions similar to what Mittal does in Europe? Or was this more of a one-time special situation?

[Mark Millett, President and Chief Executive Officer]

Phil, I don't look at U.S. Steel Supply as being the European model of steel mills entering the steel distribution processing space. I think this is very unique to our supply chain for prefect. You might see us continue to expand in that very unique specific area, but it's not my intent to become a steel processor or distributor in any way shape or form.

[Phil Gibbs, KeyBanc]

And is this business going to get talked in the steel or fabrication?

[Theresa Wagler]

Actually, it's already been reported through steel field, and you'd have -- their shipments would have been reported in the coated shipments that I gave you earlier on the call.

[Phil Gibbs, KeyBanc]

And then I just have a one follow-up. Typically in the release, you give changes in profit per part of the steel business, whether that's flat rolled or long products I think that's the way you discussed it in the past. Any color you can give us on directional -- although directional change I think we know. But in terms of the magnitude of the change in each of those divisions would the helpful?

[Theresa Wagler]

So typically, it's part of the message we try to give sometimes the difference between flat rolled products. I would just say that flat rolled profitability was down, probably somewhere between 20% and 25% versus long products profitability being down maybe around 10%.

[Operator]

Our next question is from the line of John Tumazos with Very Independent Research.

[John Tumazos, Very Independent Research]

Mark, I'm going to ask a deliberately dumb question that I think all of us are probably confused by. There's potentially at most 10 million tons of new electric furnace SMS tin slat hot stripped mill capacity. If both you and Big River build the new plants in the Texas Gulf Coast vicinity and Big River Doubles and Arkansas, Nucor Doubles Gallantin, maybe delta expanding as a slightly different than SMS design. So, on the surface it might appear to some people in the investment community that they're all identical designs. And I'm might worry that an SMS coil sells at $25 or $50 discount, because they're all the same and/or so middle has different designs, different marketing practices and might not for example be impacted as much. Now, we know that you sell a lot of painted still. Nucor is putting in a six high cold mill into Hickman with four work rolls. Probably everybody's doing their best to buy clean metallics. How will your design be different so that everybody isn't selling the same SMS coil?

[Mark Millett, President and Chief Executive Officer]

I guess you've asked a very fair question. No, I don't think it's a dumb. I may give the answer. I think I can't see for any future mills installed by any other future entrants. But as of the projects today, ours will be a very, very I think differentiated project in the honesty. Again, the cap section with combination is going to be unique. No one is going to able to make 84 wide, 1-inch 100 ksi product, that not when we able to make a 13 to 50 -- 50 ton coil…

[Unidentified Company Representative]

13, 50 to full width, 16, 50 to narrow width, so it's a very large flow…

[Mark Millett, President and Chief Executive Officer]

So, the yield improvement of the large coil, John, to a pipe and tube is probably in the order of 5% to 6%. So again my comment earlier is anytime we've entered the market no matter what it is, whether its rail, whether it's pre-paint or whether it's rebar. We look for differentiating angles from a technology and supply chain value-add, and I think this provides it. In addition to that, the color considered the geographic location. Gallatin is in Kentucky. These other facilities still remain a long distance away from the market. They can't get to the West Coast for 55 bucks. They can't get to the market or the regional market that we're going to be able to supply anywhere close to the freight cost that we'll be able to avail ourselves. So again, I think this project is very, very FDI specific, it's unique. And people said we based this decision on trade, and absolutely not. This is a market based expansion for us and I think the investment profile is going to be an absolute going forward.

[Unidentified Company Representative]

Mark, I think it maybe me important to note that my understanding is that Glenn's team have now selected a mill supplier, and that we're not buying a model number off the shelve that we have specified a mill that probably no one built before and all the suppliers are looking for a solution to fit your expectations there.

[Mark Millett, President and Chief Executive Officer]

This is a very good point. You just embraced SMS being the mill of provider of choice for everyone, that's not necessarily the case.

[John Tumazos, Very Independent Research]

So you might go with a different design and a different equipment supplier in your new mill?

[Mark Millett, President and Chief Executive Officer]

Glenn and the team are evaluating two -- well, depending on the equipment but the hot-stripped mill cast are -- hot side two basic vendors.

[Operator]

Our next question comes from the line of Sean Wondrack with Deutsche Bank.

[Sean Wondrack, Deutsche Bank]

I just have a follow-up on one of your earlier comment. So, you've stated you expect through-cycle net leverage in a 2 to 3 times range, and I think your net leverage is somewhere closer to 0.7 turns right now. Even if you were to lump on $2 million project, you're still going to be below 2 turns. So when you talk about 2 to 3 turns, is that somewhere you expect to be? Or do you think that's more of a ceiling to where your leverage would go? And is it better to think about distributable cash flow from your eyes in terms of the leverage you could pull back on or accelerate?

[Theresa Wagler]

Yes, so 2 to 3 times is again in the ceiling area. It wouldn't be somewhere where we would be sustained on a through-recycle basis, so that's a correct statement.

[Sean Wondrack, Deutsche Bank]

So it's more of a ceiling, you're obviously embarking on these projects, leverage may move up a bit but you wouldn't expect it to go anywhere higher than 2 to 3 times. Is that what you're saying?

[Theresa Wagler]

That's correct. But remember that when I was answering that question, that wasn't just about organic projects that also include any potential transactions from time-to-time that may arise.

[Sean Wondrack, Deutsche Bank]

And I'm just looking at this again where enterprise multiples are trading somewhere in the 4 to 5 turns range for a lot of companies. It seems like 3 turns would be a lot of leverage on the business given that backdrop, because that makes a lot more sense. All right. Thank you.

[Operator]

And our next question comes from the line of John Tumazos with Very Independent Research.

[John Tumazos, Very Independent Research]

Mark, today, there are certain I guess generally accepted practices and financial analysis like EBITDA ratios. A defect in EBITDA ratios are the selling price changes or the metal margin changes. It doesn't change -- it does change, it could be -- EBITDA can be illusory at the top of the economy, for example. When I was a little boy 40 years ago beginning to do financial analysis, debt divided by debt plus equity was calculated. A conservative way to look at equity is to exclude goodwill for tangible network. Steel Dynamics isn't as strong a credit using the ancient debt-to-debt plus equity tangible equity ratios. And I just want to remind you and I might sound like the smart-arse, the guy that popularized EBITDA ratio, Mike Milken, went to jail even though it's generally accepted today. Do you worry that your balance sheet is too levered just in case there's a bump in the road and the world economy changes?

[Mark Millett, President and Chief Executive Officer]

Well, I am not worried at all. I think our business model, again, is differentiated in good times, bad times, quarter-to-quarter. It's demonstrated the ability to generate cash, a superior rate than our peers. I agree and I'm -- I don't what the relative ages are. I turned 60, so I've been in the industry for the 35 or whatever too many years. And I remember people would be focused on net earnings, not necessarily so much EBITDA. We still look at that, things, projects and have to make money, not just cash per se. And all I can tell you, John is reflect on our past performance. I think it's demonstrated through-cycle superiority and we intend to maintain that.

[Theresa Wagler]

And then, John, I would just add if you look at the total debt level just over $2 billion and then you take into consideration the capital structure, which is perfectly laddered out where there is not anyone more material maturity in one year and that current maturities actually don’t even have a meaningful maturity even at three to four years. And that’s purposeful and that’s we maintain what we believe to be a very conservative balance sheet, but appropriate for a growth company.

[Operator]

Thank you. This concludes our question-and-answer session. I'd like to turn the floor back over to management for closing comments.

[Mark Millett, President and Chief Executive Officer]

So, thank you. And for those still on the call, I’d like to thank you for your time today. And those that supports us, thank you for your support. To our employees, again, our priority is safety, safety, safety. Please be safe in anything that you do and thank you for all you do for our company. And also, thank you to loyal customers for your support as well. Without you, we wouldn't be who we are. So thank you and have a great day.

[Operator]

Thank you. Once again, ladies and gentlemen, that does conclude today’s call. Thank you for your participation and have a great and safe day.