Some Perspective on POSCO

When evaluating Korean steelmaker POSCO's (NYSE: PKX  ) financial results, it all depends on your time frame.

Taking a quick glance at the fourth quarter, the business doesn't look so hot. The quarter produced the lowest operating income of 2007, and profit fell 20% from the prior year. One culprit appears to be a plant revamp, which brought steel production well below potential. Another was the price of nickel, which fell nearly 40% in dollar terms from the second quarter to the fourth. This forced POSCO to cut prices on stainless steel, which accounts for one-fifth of its sales.

Taking a slightly longer view, neither of these issues is too important. Clearly, plant downtime is temporary. The price of a base metal like nickel is harder to project into the future, but the recent price collapse has encouraged producers to slash their stainless steel output. POSCO projects a 30% cut by Asian mills during the first half of the year. With customers' inventory adjustments out of the way and continued strong demand out of China and other emerging markets like Vietnam, the company expects the stainless steel picture to improve.

The cost picture is a bit troublesome looking forward. While nickel has weakened, iron ore prices keep punching higher. Much to the delight of BHP Billiton (NYSE: BHP  ) , Rio Tinto (NYSE: RTP  ) , and Vale (NYSE: RIO  ) , both Macquarie and Goldman Sachs are forecasting the metal to rise by roughly 50% this year. POSCO has done what it can to secure raw materials, with recent equity investments in Australian coal and American molybdenum production.

Iron ore, however, remains elusive, and looks to be the wild card for POSCO in 2008. Fortunately, the firm has already budgeted in a 30% rise in materials costs, and above that level, the low-cost producer has some leeway to raise prices in order to recoup its costs. I don't see any reason for investors to lose their faith in this strong operator.


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