Stelco Holdings Inc STZHF

RBC

[retiredcf]

Their upside scenario target is also raised to $61.00. GLTA

May 6, 2021

Stelco Holdings Inc.
Stronger for longer; increasing our target

Our view: Stelco offers investors strong leverage to steel with its highly fixed, low cost operations and we expect the company to generate robust free cash flow and earnings at current spot and forecast steel prices. We have revised our model marking-to-market for steel in 2021 and increased our estimates going forward, taking our target to $46 from $34 and we maintain our Outperform rating. We expect Stelco to look to increase capital returns to shareholders after significant investments in its facilities over the past several years.

Key points:

Fixed cost structure driving returns: We estimate the company will generate $861M in FCF in 2021 (27% yield), $450M in 2022 (14% yield) and $344M in 2023 (11% yield) and to look to return capital to shareholders, likely in the form of special dividends. As we have noted previously, Stelco's highly fixed cost structure provides leverage to increasing steel prices compared to EAF producers (2/3rds of US production). Stelco utilizes significantly less scrap in its production process (0.25-0.3nt of scrap per ton of steel compared to >1t for EAF producers), and the company has a long term fixed purchase agreement for iron ore pellets (subject to adjustments for certain cost factors) and entered into a fixed supply contract for coking coal for 2021.

Stronger for longer, steel market remains tight: The North American HRC price is currently at an all-time high as demand continues to outpace supply. Service centers are experiencing robust demand across sectors (see pages 3-4) and the supply chain remains understocked. Imports have started to pick up but buyers remain hesitant given the long lead times and risk around elevated prices. Stelco is positioned well to take advantage with significant amount of material sold at spot and with Q1 results management highlighted its order book which is now booking into Q3. Stelco shipped 675Knt in Q1 and expects similar shipments in Q2. We have revised our shipped steel estimate upwards based on Q1 run-rates, increasing our annual sales volumes by 90Kt or ~3.4%.

Attractive valuation, increasing target: We have revised our forecasts on higher steel prices, partially offset by increased operating costs due to increased scrap price expectations. Our price target increases to $46 from $34 and is based on a 6.5x multiple of 2022E EBITDA, inline with Stelco's historical average and the average of US peers. The shares are currently trading at 4.9x 2022E EBITDA vs. peers at 8.5x. Our steel price estimate for 2021 increased to U$1,238/st from U$927/st (U$1,250/st YTD and U $1,481/st spot) and in 2022 increased to U$932/st from U$739/st (see page 4 for more details on modelled steel prices).