ArcelorMittal focuses on mining operations
The new approach should boost the company's margins.
The company has begun to focus more on its mining operations in order to offset those rising input costs, and we believe that this focus, coupled with its restructuring efforts, will help the company improve its margins, going forward.
ArcelorMittal's product portfolio spans a variety of flat products such as sheets and plates as well as long products including bars and rods. Its major competitors are steel giants like Alcoa (AA), U.S.Steel (X) and mining giants such as Rio Tinto (RIO) and Vale (VALE). In its fourth-quarter earnings report, the company reported a 20% drop in net income, even as revenue surged by 20%.
We have revised our price estimate for ArcelorMittal to $23, which is about 15% above the current market price. We have updated our analysis to incorporate the company's latest earnings and to separate its mining business into its own operating segment. We have also updated our forecasts for shipments, pricing, and capital expenditures over the next two to three years to reflect the company's near-term outlook.
Reducing focus on steel
ArcelorMittal's steel business consists of five divisions: Flat Carbon Steel Europe; Flat Carbon Steel Americas; Long Carbon Steel Americas and Europe; Asia, Africa & Commonwealth of Independent States (CIS) Steel; and Customized Steel Products.
Steel is by far the largest source of value for the company, accounting for almost 90% of our price estimate. The steel business is highly vulnerable to global economic conditions, and as such demand may not recover in the immediate term due to macroeconomic uncertainty.
China, the world's largest consumer of steel, recently revised its target growth rate downward to 7.5%. We forecast steel shipments to increase in conjunction with an eventual economic recovery; however the company expects a 2% decline in steel shipments in Europe in 2012 due to weaker industrial demand.
We expect steel prices to remain largely steady in the near-term due to rising input costs (though a significant oversupply could drive prices down). We expect margins for the steel business to improve thanks to various restructuring steps as well as its focus on mining, which will allow it to keep its input costs in check. ArcelorMittal has shut many of its plants in Europe in response to the sluggish demand and is unlikely to restart them this year. These cost-cutting efforts should allow margins to remain healthy in the near term, and eventually expand.
The company has said that, going forward, capital expenditures for the steel business will be mostly for maintenance activity, as growth-related capital spending will largely be focused on mining. However, the company is looking at steel expansion in India to leverage the cost advantages and tap demand from the Asia-Pacific region.
Strong margins driving mining expansion
As part of its realigned strategy, the company is betting on mining expansion, as it believes the outlook there is stronger than that for steel. The move will reduce ArcelorMittal's dependence on iron ore, a primary material for steel production, from external competitors.
The company uses most of its internally produced iron ore in its steel divisions, but does also record some third-party sales. We discussed the company's iron ore expansion plans in a previous article Arcelor Mittal Continues Its Iron Ore Pursuit. The company is looking to expand its mining operations both organically and through acquisitions.
We expect ArcelorMittal's mining revenue to increase steadily throughout our forecast period, mainly on the back of increased production. The mining segment margins are significantly higher than any other division's, but we expect that rising energy and labor costs will put pressure on those margins over the next few years. The mining division currently contributes just 10% of our price estimate, but if the company aggressively pursues acquisitions that could change significantly.
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