Nucor Corporation (NUE +0.35%) is well positioned to benefit from a gradual recovery in the non-residential construction market. The innovative steel market offers investors a strong balance sheet, impressive margins, and a high dividend yield.
The company reported adjusted first quarter 2014 operating EPS of $0.41, beating sell-side estimates of $0.37 by 11%. The results also came in better than the company's own guidance range of $0.30-$0.35. Higher-than-expected volumes in the first quarter largely drove the beat.
Nucor's quarter-over-quarter results are also expected to improve as mill and fabrication activity picks up and energy costs decline. Cold weather had an adverse impact on energy costs, which increased $7 per ton Q/Q.
End market opportunities
Recent production problems and scalebacks at the iron ore constrained blast furnace mills are creating new market share opportunities in the plate and sheet markets for electric arc furnace producers such as Nucor and Steel Dynamics (STLD +0.94%). Strong Nucor volumes in the first quarter suggest that this may already be occurring.
United States Steel (X +0.00%), the country's largest steel maker by volume, continues to face production problems at Great Lakes and Gary Works. While Great Lakes Works remains offline as work on a collapsed roof progresses, Gary Works is now running three of its four blast furnaces as iron ore availability remains tight. AK Steel (AKS +0.00%), on the other hand, is playing catch-up after an unplanned outage at Ashland.
Nucor received an influx of orders over of the last couple of weeks, and its order books are stretched to June as demand improves. Nucor's sheet mill is running at 80%-85% capacity, and the company's commentary is positive on its ability to capture market share in the automotive sector given the outages and supply constraints competitors are facing.
The company has also picked up incremental business and market share in Oil Country Tubular Goods (OCTG). It expects to see opportunities continue as the sheet supply side remains challenged through the June quarter. More importantly, the company hopes that any market share it gains will be sticky as it will only deal with customers that plan to make longer-term commitments.
DRI running well
What differentiates Nucor from its peers is its investment in the Louisiana Direct Reduced Iron (DRI) facility, which is expected to be a game changer for the company's profitability. Although some people may point out that the company's DRI facility continues to generate losses, it is important to note that at this point these losses are primarily attributable to start-up issues. Moreover, the appeal of Nucor's DRI project is not so much about short-term earnings benefit or cost savings, but rather the flexibility it affords Nucor in relation to raw materials procurement in the long term.
The relative price relationships between various steel making raw materials can and will continue to vary. Nucor's raw material strategy allows it to move quickly from one raw material type to another, and in the long term this should drive average raw material procurement costs down. Some of the benefits of DRI include energy cost savings, furnace lining life improvements, and a reduction in electrode consumption.
The initial ramp-up of the Louisiana plant appears to be going well. The plant produced 455,000 tons and achieved peak utilization rates of 90% in the quarter. Although the facility generated a loss in the first quarter of 2014, it is important to note that the March quarter included $21 million of start-up-related costs.
Nucor has identified various enhancement opportunities for the project, which it will implement during a three-week shutdown period in the June quarter. These enhancements are expected to reduce yield losses and improve the economics of the project. DRI will eventually swing to a net positive contributor by the second half of 2014.
Bottom line
Nucor is well positioned to benefit from a recovery in the non-residential construction market, which is the company's largest end market. In the meantime, the company should benefit from a surge in demand and high pricing for flat steel products as integrated producers are hindered by low availability of iron ore pellets.
Nucor's new Louisiana DRI plant has been successfully commissioned, and initial quality and production results are very encouraging. Nucor not only has a strong balance sheet and healthy margins, but it also offers investors a high dividend yield of 2.9%. In comparison, U.S. Steel has a dividend yield of 0.8%, Steel Dynamics of 2.5%, and ArcelorMittal of 1.1%.
