Salzgitter (Germany: SZG), rated a BUY by Bankhaus Lampe
German steelmaker Salzgitter is another European business that has been treated too harshly by investors. Its shares have crashed to near six-year-lows and now trade on around 65% of net tangible assets (€62 a share).
This seems odd, especially as the board has just upgraded its full-year outlook and spot prices for billet steel (metal bars) are double the level seen when Lehman Brothers collapsed in 2008. Moreover, futures prices are more expensive than the spot price. This reflects the anticipated resilience of the American car industry, where production grew 15% in August as unsold inventories remain tight at only 49 days’ supply.
Salzgitter is also defensively positioned. It is Germany’s second-largest steel producer behind ThyssenKrupp and offers several value-added services to differentiate its products. The group is also the world’s third-largest maker of drinks dispensing machinery. All told, 2010 revenues came in at €8.3bn, with around three-quarters of that coming from Europe.
Salzgitter was one of the few steelmakers that did not embark on a costly acquisition strategy at the peak of the cycle. Instead, the company chose to squirrel away spare cash and maintain a solid balance sheet. The upshot of this strategy is that in the first half of this year, the board reported turnover up 18% to €4.7bn, with closing net funds of €687m. Guidance for pre-tax profit also rose from €150m to €200m, boosted by greater factory efficiencies on top of a rebound at the precision tubes unit.
On the cost side of the equation, I suspect we may be reaching a tipping point on iron ore, which has tripled in price in the last three years. Along with coking coal, this raw material is crucial to making steel. So if China’s soft landing continues, then falling input prices should boost margins further down the road.
In light of all this, I would value the group on a through-cycle earnings before interest, tax, depreciation and amortisation (EBITDA) multiple of six. Adjusting for the €1.9bn pension deficit and assuming margins of 7%, that gives a value of €50 a share.
As ever, there are a few risks to consider. While I believe it unlikely, a hard landing in emerging markets wouldn’t help the company’s prospects. And there are the usual industry-wide dangers of supply disruptions and currency fluctuations to consider.
That said, these risks have been more than factored into the ultra-low rating. So for patient investors prepared to sit out any immediate turbulence, Salzgitter looks a sound long-term bet on the secular trends of urbanisation and industrialisation in developing countries.
Third-quarter results are due out on 11 November. Bankhaus Lampe has a target price of €63.
Rating: BUY at € 39.