Stelco Holdings Inc STZHF

RBC Upgrade

[retiredcf]

Their upside scenario target is also raised to $40.00. GLTA

February 23, 2021

Stelco Holdings Inc.

Set up for a bumper 2021 & improved 2022; upgrading to Outperform

Our view: We have revised our cost estimates and factored in benefits from the coke battery project in 2022 which resulted in our Price Target increasing to $29 from $26, which supports our Outperform (from Sector Perform) rating. We expect strong cash generation and earnings in 2021 as Stelco benefits from recent investments to increase capacity and reduce operating costs, as well as capitalizes on the current steel price environment. In our view STLC will be in a position to return additional capital to shareholders above the reinstated $0.10/quarter dividend.

Key points:

• Q4 showing what's possible: Q4/20 operating costs per ton shipped were the lowest since the company IPO'd in 2017 as STLC benefited from the blast furnace upgrade project. STLC guided for a 35% increase in shipped tons QoQ in Q1/21, which equates to ~660Kt, inline with our expectations and our run rate 2021 production of 2.61Kt - a 7% increase over 2019 production. We estimate 6% lower costs per ton of shipped steel in 2021 vs. 2019.

• Steel market remains tight, orders being placed into May: North American HRC remains near all-time-highs with increased pressure on supply recently due to cold weather and snow in the southern US. Steel mill utilization remains below the 2019 average of 81% at 77% last week. Buyers remain hesitant to turn to the import market at current prices over concerns that by the time the product arrives, prices will have corrected. STLC noted that its been pricing orders at ~C$1,500/st into May. On the demand side, we have seen improved activity in the energy sector and increased pricing of OCTG (+17% in Jan compared to Q4 avg. price), which we view positively. In the medium term we expect a return of supply to help balance the market, but for now expect prices to remain elevated.

• Strong FCF creates opportunity to return capital: We forecast flat FCF despite moderating steel prices due to lower costs & increased production, as well as falling capex (exhibit 3). We forecast $296M in FCF in 2021 (14% yield), $304M in FCF in 2022 (14% yield) and $236M in 2023 (11% yield). We could see STLC return additional capital to shareholders in the form of special dividends or share buybacks.

• Attractive valuation: Shares are trading at 5.6x 2022E EBITDA vs. peers at 7.5x. Our $29 PT is based on a 6.5x multiple of 2022E EBITDA, inline with the historical avg. for STLC and its US listed peers.

• Target to $29 from $26: We lowered our opex for 2021 and onwards by ~1% ($6/st) based on better than expected results from the blast furnace upgrade project. Starting in Q4/21 we lowered opex by an additional ~$12/st as a result of the coke battery project. We also marked to market Q1 steel prices and increased our realized Q2 price by $150/st (~16%) as Stelco recognizes higher prices on lagged sales. Our 2021 EBITDA improved to $797M from $666M and our 2022 EBITDA increased to $479M from $438M.