Key Takeaways From Nucor Corporation's Third-Quarter Earnings

Pipe sales to energy companies are weak, but nonresidential construction demand is growing. Image source: Getty Images. 

Steelmaker Nucor Corporation (NUE -0.98%) reported third-quarter financial and operating results on Oct. 20, delivering a big jump in profits and cash flows. The company also expanded on its expansion plans, even as the overall steel market remains challenging. 

Here's a closer look at Nucor's results and key takeaways for investors.

The numbers

Revenue in billions. Net earnings in millions. Data source: Nucor Corporation. YOY = year over year.

For the first nine months of the year, Nucor reported earnings per share of $1.79, up 38% from the $1.30 per share delivered in the first nine months of 2015. 

What happened in the quarter

• Revenue, total tonnage, and price-per-ton sold were all up only slightly year over year, while energy costs fell and operating rates at mills improved from last year. 
• This resulted in lower product costs, driving higher earnings in the quarter. 
• Nucor's strong operating results so far this year have driven strong cash flows. The company has nearly $500 million more in working capital than it did at the beginning of the year. 
• This includes $2.35 billion in cash and short-term investments. Nucor also has $1.5 billion in an undrawn line of credit. 
• Nucor announced two major expansion investments in the quarter; the acquisition of Independence Tube, the second-largest maker of HSS steel tubing in the U.S. for $435 million, and plans to invest $230 million to build an additional cold mill at its Arkansas division. 
• Both investments will add new products that Nucor doesn't currently manufacture, expanding its offerings in both the automotive and nonresidential construction industries. 
• Nucor also reworked its natural gas agreements with partner Encana. The revised deal includes selling Encana its interest in a production partnership and drilling agreements with the company, while instead buying a portion of Encana's leaseholder interest covering 54,000 acres of natural gas-producing acreage. Management said this agreement better-positions its strategy for raw materials and gives both companies better capital flexibility. 

What management said

Nucor saw strong results versus the year-ago quarter, but they were well off the second quarter's results. CFO Jim Frias, on why:

Overall market conditions were very challenging during the third quarter. That was clearly evidenced by a decline in our steel mills segment's capacity utilization rate to 71% in the third quarter from 83% in the second quarter. Third quarter total steel mill tons shipped decreased by 12% from the second quarter 2016.

Management sees the weakness carrying over -- and intensifying -- in the fourth quarter. Frias again:

Earnings in the fourth quarter of 2016 are expected to decrease notably compared to the third quarter. The two most significant challenges are expected to be downward contract pricing resets at our sheet mills and the impact of lower iron units pricing at our raw materials segment. 

But these are expected to be short-term things, and management sees a lot of positive momentum heading into next year. Once more from Frias:

Beyond these near-term issues, we see a number of positive factors that should benefit the steel markets moving into 2017. Steel service center inventories are low, residential construction is robust, while non-residential construction activity is expected to continue its slow but steady pace of improvement. Trends in U.S. employment and consumer spending remain healthy. More vigorous enforcement of trade laws has began to reduce the flow of illegally traded imports into the U.S.

Nucor (and every American Steelmaker) has dealt with a flood of illegally subsidized imports over the past few years. And while recent tariffs have started having an impact on reducing imports, CEO John Ferriola is resolute that more must be done:

Let me conclude with some comments on the greatest challenge facing the steel industry: global steel overcapacity resulting from the trade distorting practices of some governments. The message is simple. Significant progress is being made, but there is still a tremendous amount of work to be done. The recent affirmative final determinations in the three flat-rolled steel antidumping duty and countervailing duty cases were an important step forward. However, many of the products require trade enforcement action, including pending cases addressing illegally traded imports of rebar and cut-to-length plate. At the same time, decisive action is needed to deal with efforts by foreign producers to circumvent duties by routing products through third-party countries. One notable example is China's circumventing cold-rolled and coated flat-rolled steel duties by shipping product through Vietnam.

Looking ahead

Nucor has consistently shown that its flexible (and low) cost structure positions it to ride out the ups and downs of the steel cycle better than any other steelmaker. At the same time, management continues to show its chops when it comes to allocating capital, with two big investments in the quarter that expand the products Nucor will be able to provide to the automotive and nonresidential construction industries. 

Yet as Ferriola pointed out, there's still work to be done, and there remains massive global production overcapacity and will likely take further trade enforcement action to keep the playing field level. While its competitors struggle to stay afloat in these challenging times, Nucor continues investing in up-market growth, positioning it to come out of the weak cycle even stronger.