Stelco Holdings Inc

TSX:STLC

Earnings Call Analysis

Stelco's Shareholder Returns Amid Q3 Earnings

In the face of reduced average selling prices by 11% and an 8% decrease in revenue QoQ, Stelco maintained stable demand and generated $153 million of adjusted EBITDA in Q3 2023, owing to cost control and a low-cost business model. Liquidity was over $1 billion, with $841 million in cash. A special dividend of $3 per share will complement the usual $0.42 dividend. Q4 shipping volumes are expected at 600,000 to 625,000 net tons with lower adjusted EBITDA; however, with rising steel prices and expanding lead times, an improved Q1 2024 is anticipated. Scrap cost volatility might slightly increase Q4 costs.

Stelco's Resilience Amidst Pricing Pressures

Stelco Holdings Inc. delivered robust financials in the third quarter of 2023, showcasing a remarkable adjusted EBITDA of $153 million, which reflects a 20% margin. This was achieved while navigating a declining price environment, highlighting the company's strong operational execution and industry-leading low-cost structure.

Returning Capital to Shareholders

In recognition of its solid performance, Stelco has declared a generous special dividend of $3.00 per share, in addition to the regular $0.42 per share dividend. This decision elevates the total capital return to shareholders beyond the $2 billion mark since Stelco's IPO in 2017 - a testament to its commitment to shareholder value.

Optimistic Outlook Amid Favorable Market Conditions

The company is riding a wave of increasing steel prices coupled with strong market demand. It has also strategically secured raw materials at preferential prices. These moves are predicted to reduce costs below the levels seen in 2023, signaling even stronger future performance and financial health.

Upcoming Challenges and Future Growth

Despite anticipating a decrease in adjusted EBITDA in the fourth quarter, with projected shipping volumes of 600,000 to 625,000 net tons, Stelco is poised for a rebound in the first quarter of 2024. This anticipated growth aligns with rising prices and widening lead times, which are expected to contribute to better results moving forward.

Cost Management in an Unpredictable Market

Cost stability is a key focus for Stelco, though volatility is expected in the cost of scrap - an area of development that continues to evolve. With upcoming scrap price movements, there may be a slight uptick in costs in the final quarter of 2023, but the trend is likely to stabilize as the company enters the first quarter of the new year.

Earnings Call Transcript 2023-Q3

[Operator]

Hello, and welcome to the Stelco Holdings Inc. Third Quarter 2023 Earnings Call. My name is Terry, and I'll be the conference operator today. [Operator Instructions]

I would now like to hand over to Trevor Harris to begin, please go ahead.

[Trevor Harris, executive]

Good morning, everyone, and welcome to Stelco's quarterly earnings conference call. Speaking on the call today to discuss our 2023 third quarter results will be Alan Kestenbaum, our Executive Chairman and Chief Executive Officer; and Paul Scherzer, our Chief Financial Officer.

Yesterday, after the market close, we issued a press release overviewing Stelco's financial results for the third quarter of 2023. This press release, along with the company's financial statements and management's discussion and analysis, have been posted on SEDAR and on our Investor Relations website at investors.stelco.com. We have provided a link to the presentation referenced on today's call on our website as well.

I would like to inform everyone that comments made on today's call may contain forward-looking statements, which involve assumptions, which have inherent risks and uncertainties. Actual results may differ materially from the statements made today, so do not place undue reliance upon them. Management disclaims any obligation to update forward-looking statements except as required by law.

With that in mind, I would ask everyone on today's call to read the legal disclaimers on Page 2 of the accompanying earnings presentation and also refer to the risks and assumptions outlined in Stelco's public disclosures. In particular, the third quarter 2023 Management's Discussion and Analysis sections relating to forward-looking information and risks and uncertainties as well as our filings with the Securities Commissions in Canada.

The appendix of our presentation and the non-IFRS performance measures and review of non-IFRS measures of our MD&A provide definitions and reconciliations of the non-IFRS measures that we use today.

Please also note that all dollar figures referred to on today's call will be in Canadian dollars, unless otherwise noted. Following today's prepared remarks, Alan and Paul will be taking questions. [Operator Instructions]

With that, I would now like to turn the call over to Alan.

[Alan Kestenbaum, executive]

Thank you, Trevor, and good morning, everyone. We were able to generate strong results and deliver $153 million of adjusted EBITDA, which is approximately 20% margin during the third quarter of 2023 despite a price environment that deteriorated for most of the period.

Our industry-leading low-cost structure, which we have worked tirelessly to construct, has enabled Stelco to once again achieve the highest steel EBITDA margin in the entire North American reporting steel industry this quarter, generating significant cash, even in a softer environment, and, in turn, has provided us the opportunity to provide industry-leading returns to our shareholders. This achievement is quite remarkable and that not only have we achieved this industry-leading EBITDA margin in this quarter, but we have done so in 10 out of the last 12 quarters. That's 10 out of the last 12 quarters, dating back to 2020 when we completed our blast furnace upgrade project.

Following on the success of our third quarter, in addition to our ordinary dividend of $0.42 per share, Stelco will be providing our valued shareholders with a special dividend of $3 per share, bringing the total capital return to shareholders to more than $2 billion since our IPO in 2017, while investing over $1 billion back into the operations of our company. This is a track record that we are exceptionally proud of and one that is unmatched by any of our reporting peers in North America when taken as a percentage of market capitalization.

Over the past 6 years, we have continued to demonstrate that our management team is closely aligned with our shareholders, something that continues to be a unique strength of our company. Our senior management team thinks and acts like shareholders because as a group, we are shareholders. We identify and evaluate opportunities to deploy capital in a manner that maximizes returns through the utilization of our tactical flexibility model and taking the necessary steps to maintain and where possible, improve upon our already low-cost position.

In the past few weeks, we have begun to experience a significant upward trajectory in steel prices, combined with stable market demand, and at the same time, have secured inputs at favorable pricing in a timely way, which should reduce our costs from 2023 levels.

Over the coming months, we will realize the impact of these positive pricing and demand trends and lower costs to improved results beginning in 2024. In order to ensure we maximize the opportunity that the market offers, we will remain vigilant on costs and work to find further efficiencies in our operations to take full and continue our strong track record of generating cash.

Thank you for your time this morning. I will now ask Paul Scherzer to detail some of our financial results. Paul?

[Paul Scherzer, executive]

Thanks, Alan, and good morning, everyone. As Alan noted at the outset of his remarks, the third quarter provided relatively weaker pricing than anticipated, which can be seen in the decline in our average selling price of 11% over the second quarter. This drop in average selling price was the primary contributor to the 8% decrease in revenue that we saw quarter-over-quarter but was partially offset by a modest increase in shipments, resulting from steady demand from our major market segments.

Despite the challenging pricing environment, the business was able to generate $153 million in adjusted EBITDA in the third quarter due to our ability to control our costs and drive revenue through to the bottom line. This result once again demonstrates our ability to deploy both our tactical flexibility business model and our low-cost structure to drive revenue through to the bottom line and generate returns at every point of the market cycle.

We continue to generate cash from our operations and ended the quarter with over $1 billion of liquidity, including $841 million in cash. This strong financial position, combined with the overall strength of our business, has positioned us to be able to reward our loyal shareholders with a $3 per share special dividend in addition to our ordinary dividend of $0.42 per share. These returns of excess capital to our shareholders are in keeping with the philosophy of our business. As always, we will continue to monitor the market as we look to make decisions regarding the deployment of capital at the appropriate time.

Looking ahead to Q4, we expect our shipping volume will be approximately 600,000 to 625,000 net tons and adjusted EBITDA will be lower than this quarter, but with increasing prices and expanding lead times, we're anticipating a rebound in results in the first quarter of 2024.

When our business is faced with market challenges such as weaker pricing, it is fulfilling to see how both our employees and our business respond. Our overall commitment to managing our costs and maximizing the efficiency of our operations is management-led but is delivered by each and every employee across our business. It is their execution of our business strategy of tactical flexibility that allows us to take full advantage of our industry-leading cost structure and deliver positive returns to all of our stakeholders.

Over the coming months, we will continue to leverage our strengths and take advantage of the improved pricing environment and market dynamics that have been developing over the past number of weeks to deliver improved results in the first quarter of 2024.

Thank you for taking the time today to join our call.

[Trevor Harris, executive]

Thank you, Alan and Paul. That concludes our prepared remarks for today. Now I'd like to turn the call back over to the operator for Q&A. Operator?

[Operator]

[Operator Instructions] The first question on the line comes from Katja Jancic from BMO Capital Markets.

[Katja Jancic, analyst]

First, looking to 4Q, can you talk a bit more about how you think cost should shape up?

[Paul Scherzer, executive]

Katja, I appreciate the question. So for Q4, it's kind of interesting. We think most of the costs are going to be relatively stable. The one cost that really is where we'll see some volatility is on the scrap side. And that's, as you know, a developing story because that changes on a monthly basis. With CRU moving up as sharply as it has, which is great, but with lead times we won't start to benefit from really until the first quarter, we expect to see some scrap price movements. So we could see costs going up slightly due to that in the fourth quarter.

The other thing you'll notice with our guidance of 600,000 to 625,000 tons, which is a bit lower than what we usually guide to, we'll probably have slightly higher fixed costs in terms of absorption issues. So I'd expect a modest increase in the fourth quarter.

[Katja Jancic, analyst]

Okay. And just as a follow-up, given the potential M&A activity in the U.S., can you just remind us how you're thinking about inorganic growth?

[Alan Kestenbaum, executive]

Sorry. Yes, I'll take that question. Look, we're always watching our balance sheet, always making sure that we have all tools available to us whether it's special dividends we did today, share buybacks, M&A activity, and we'll continue to keep our balance sheet really flexible to work on anything. This particular case with the dividend, a modest amount of cash relative to our total liquidity and with the strong steel environment coming upon us early next year, will be quickly replenished, and so we made the decision to do the dividend and keep us flexible like we always like to be for all opportunities that come around.

[Operator]

[Operator Instructions] The next question on the line comes from Bill Peterson of JPMorgan.

[William Peterson, analyst]

Like to kind of step back and kind of get your views on the current state steel market, maybe talking about the customer inventory levels. On that point, are you seeing meaningful restocking by customers after -- presumably, they were drawing down quite a bit in and around the UAW strike. And then you talked about expanding lead times, what do current lead times look like? And how does your fourth quarter order book, how is that shaping out and perhaps even into the first quarter?

[Alan Kestenbaum, executive]

Yes, sure. So we are definitely seeing people restocking, having the auto industry teetering on the verge of closure constantly with threatened strikes across the industry means that people like to keep lighter inventories. With those situations now resolved and backlogs in the auto sector existing together with price improvement, people tend to restock pretty quickly, and that's why you start to see sharp pricing rebounds like you're seeing right now. So usually, we see this a little bit later. We don't combine with the construction season in the spring. This time, it's coming earlier. I think it caught some people by surprise, who were low on inventory and therefore is a rush to buy right now.

And to your question about lead times, which is always a great indicator to us. So we're sold out for Q4, and we are well on our way to selling out Q1, not so much in the March period, but January and February are getting filled up pretty rapidly. I have to tell you, I looked at my records that I keep going back to 2021, I don't have the data right beforehand, but we have never been this far out during November 9, this far around on our order book as we are right now at this time of the year.

That's not to say we haven't had longer lead times in prior periods, we have. But typically, in the fourth quarter, things tend to drop off and get a bit depressed. This fourth quarter, I think, driven by the resolution of the auto industry strikes is different. So the order book is strong. I think the good news, bad news here is that when you look at Q4 pricing -- realized Q4 pricing, we're not getting the current, whatever, I don't know the last price increases were quoted up to $1,000 or something, we're not getting that. But we are -- in Q1, in late December, we are definitely getting, starting to see better prices. So I think it's very indicative of a very, very healthy market. And we're going to continue to ride this as long as it goes.

And the other thing that I'll point out that's interesting, which was a bit of a surprise to me is the construction sector, which normally is weak this time of the year, winter, people slow down on building and certainly you had expected in the -- from higher interest rates. And actually, it's very, very busy on the construction side, which is a surprise. So these factors are definitely contributing to a very positive pricing and demand environment right now.

[William Peterson, analyst]

That's a lot of great color. If we can talk about capital allocation. So first on CapEx, are you still targeting CAD 150 million this year? I guess that would imply a meaningful step down in the current quarter. And directionally, how should we start thinking about '24?

And then I'll just ask the other one. On the strategy of the special dividend, I understand you talked about the shareholder returns over a period of time. But I guess, how should we think about the preference amongst your shareholders going forward? I mean do you prefer this type of method or perhaps just raising the typical dividend on a sustainable basis? Or why not buybacks, especially if we consider where the share prices have trended up until recently?

[Paul Scherzer, executive]

So yes, I'll take both points here. First of all, on the CapEx, yes, we are trending towards that $150 million. We have not finalized our budget for next year yet, but it will be in a similar range. All the big CapEx is behind us and we're running pretty solid on the CapEx. So we're not expecting any big surprises there.

In terms of capital allocation, as I mentioned, first and foremost, we try and keep our balance sheet flexible. And we're not biased one way or another, whether it's special dividends or share buybacks. We try and do the best for the share price. In this particular time, for reasons I can't get into, we're not able to execute on any share buybacks and so we opted to be a special dividend.

[Operator]

We currently have no further questions, so I will hand back to Mr. Alan Kestenbaum for closing remarks.

[Alan Kestenbaum, executive]

Well, I think based on this conference call, you can see not only are we the most efficient steel producer in North America, we're also the most efficient conference callers in North America. I think 17 minutes is a record. So that's how we do it. And we welcome you all here. And as usual, Paul will be in touch with all the analysts, and we look forward to their reports. And any further questions, you guys know where to reach us. Have a very good day, everybody. Thank you. Bye.

[Operator]

This concludes today's conference call. Thank you all for joining. You may now disconnect your lines.