We are maintaining our Neutral recommendation on AK Steel Holding Corporation (AKS). The company recorded first-quarter 2011 EPS of $0.08, beating the year-ago quarter’s $0.02 and striding ahead of the Zacks Consensus Estimate for a loss of a penny.
AK Steel expects a strong increase in shipments in the second quarter over the first quarter. The shipments are expected to be in the range of 1,500,000 and 1,550,000 tons. The company also anticipates its average per ton selling price to be 7% higher compared with the first quarter.
The operating profit is expected to be approximately $65 per ton for the second quarter of fiscal 2011. We expect the company’s core operating results to be profitable by the second quarter of 2011, as higher carbon steel prices will more than offset higher raw material costs and weaker electrical steel prices.
AK Steel signed an agreement with Haverhill North Coke Company, an affiliate of SunCoke Energy Inc., which will provide AK Steel with up to 550,000 tons of coke annually. Under the agreement, the company will also benefit from the electricity co-generated by the heat recovery coke battery.
This is in addition to the previously-announced project with Middletown Coke Company Inc. (another SunCoke affiliate) to construct a heat-recovery coke battery with a capacity of 550,000 tons of metallurgical grade coke annually. The agreements will ensure a steady supply of coke at a reasonable price.
In the first half of 2011, the company permanently closed its Ashland, Kentucky coke plant. The plant is no longer cost competitive due to increased maintenance and increasingly stringent environmental regulations. AK Steel has now entered into supply contracts with third parties to provide coke to its Ashland steelmaking facility at a lower cost.
In the first quarter of 2011, AK Steel returned to profitability, both at the operating income and net income levels. The company continued to see an improvement in its shipping rate and product mix. The average selling price for AK Steel’s products improved from the prior quarter by approximately 9%, which was better than expected.
As part of its continuing effort to reduce costs, the company completed the installation and began the testing of a new electric arc furnace at its Butler Works in the first quarter. The new state-of-the-art, highly-efficient electric arc furnace has the capacity to produce approximately 400,000 more tons of steel annually.
This new furnace will also provide greater flexibility with respect to AK Steel’s product mix, and after ramping up to full operation by mid-year 2011, it is expected to minimize the company’s need to purchase merchant slabs.
However, the weak construction and housing sector is impacting AK Steel’s electrical steel business. The recession in 2008 led to lower demand, prices and shipments for AK Steel’s products. Lower prices and shipments led to a reduction in revenues in 2009.
Last year, the company witnessed a significant decline in sales of grain-oriented electrical steel products globally, due to the weak economy that led to soft consumer spending on new electric power transmission and distribution transformers. In addition, duties on the import of electrical goods in China further affected AK Steel’s sales.Though there was some improvement in the electrical products business in the first half of 2010, it remains below historical highs. This continued weakness in market conditions may adversely affect the company’s efforts to negotiate higher prices in 2011 with its contract customers, particularly with respect to electrical steel.
AK Steel’s cost structure is higher than its peer group due to greater reliance on an external supply of raw materials, such as carbon scrap, purchased slabs, iron ore and purchased coke. Iron ore is the key raw material in steel manufacturing operations. AK Steel pays nearly double for iron ore pellets compared to its integrated competitors, who consume their own pellets.
AK Steel competes with companies like Nucor Corporation (NUE) and Steel Dynamics Inc. (STLD).
Currently, AK Steel has a short-term (1 to 3 months) Zacks #3 Rank (Hold) and a long-term (6+ months) Neutral recommendation.
