Posco a Go-Go

Following fellow Fool Rich Smith's earnings preview of Korean steel titan Posco (NYSE: PKX), the company delivered the goods on Tuesday. Not only were revenue and profits up annually and sequentially, but company management also gave investors a little peek into how it sees the steel market shaping up for 2005.

But first things first. First-quarter revenue climbed about 32% over the prior year on the back of a small production increase (about 2%) and significantly higher average selling prices for steel. It also didn't hurt matters any that Posco was able to increase sales of higher-value added steel products such as cold rolled steel and stainless steel.

Going down the income statement, the year-over-year comps just get better and better -- Posco was able to harness some powerful operating leverage. Operating profits rose 76%, while net profit was up 82% from last year.

Better still, and somewhat unusual for a steelmaker in the first quarter of the year, numbers were also up sequentially: While revenue was basically flattish (up about 1%), the company managed to haul in about 11% more profits than in the December quarter.

Now, that's all well and good, but it was also somewhat expected -- I mean, most steel companies are doing pretty well these days. What I think many investors were more concerned about, though, was the company's outlook for the steel market this year.

Posco management still seems to believe that the macro trends for steel are positive, with ongoing tightness between supply and demand. While management sees the rate of increase in steel consumption slowing to just more than 7% in 2005 (from 8% in 2004), it believes that supply is going to grow by about 7% as well.

The key variable here is, of course, Chinese demand. If the Chinese step up their demand beyond what is commonly expected, especially in high value-added products, there won't be much slack on the production side to absorb that demand and prices should continue to climb.

Posco also gave investors a brief tour of world steel conditions. Not surprisingly, demand in both Europe and the United States appears to be slowing as moribund auto production is allowing inventories to rise and prices to come down.

In Asia, though, the market is still pretty tight and most mills are having little trouble in pushing through pricing increases as automobile makers, appliance makers, and shipbuilders continue to consume large quantities of steel.

Looking ahead, Posco management believes that it can boost revenue by nearly 21% for 2005, on the back of what it expects will be a 4% increase in production. But, steel bugs should note that we could be seeing the crest of the wave in 2005. With global steel capital expenditures growing even faster than demand (more than 40% in 2004 and likely more than 40% again this year), this tight supply-demand equation won't go on forever.

So, although I still think Posco is one of the best steel companies around, I'm not sure investors should chase after what looks to be a great cyclical story near the top of the hill.

For more on steel, see:

• A True Scrapper
• The Coming Crash
• Mittal's Riveting Performance
• Posco's Pole Position

Fool contributor Stephen Simpson has no financial interest in any stocks mentioned (that means he's neither long nor short the shares).