Building Materials – Malaysia
Steel prices contracted marginally in Feb 18 and rebounded slightly moving into March as Chinese steel prices started to recover in anticipation of a peak in construction activities. With a 9.0% qtd expansion in steel ASP, gross profit per tonne will continue to grow further. Steel stocks are oversold, partly on an overreaction to the US import tariff on Chinese products; steels stocks should see a rerating during a possibly strong 1Q18 results season in May. Maintain OVERWEIGHT. Top picks: Ann Joo and Choo Bee.
WHAT’S NEW
Steel prices eased slightly in Feb 18. In line with our expectation, steel bar and billet prices declined marginally by 2.7% and 2.0% to RM2,675/tonne and RM2,350/tonne, respectively. This is largely in line with China’s steel price movement where hot-rolled coil and rebar prices decreased by 0.7% and 2.7% to Rmb4,119/tonne and RM4,905/tonne respectively in Feb 18.
Share price weakness may present good buying opportunities. The sector’s current share price weakness, partly as a result of the US tariff on imported steel and aluminium, may present a good buying opportunity. For steel stocks under our coverage, share prices weakened by an average of 18.3% from their recent highs compared to Chinese steel companies which saw an average decline of 17.1%. Masteel emerged as the worst performer as its share price contracted 33.7% from its recent high, also partially attributable to its weak set of 4Q17 results. In 4Q17, PBT margin for Masteel contracted by 2ppt vs Southern Steel which saw its PBT margin improve 2ppt while Ann Joo’s PBT margin remained unchanged qoq.
Sector earnings may continue to surprise on the upside for 1Q18. Based on our generic model and qtd steel price of RM2,717/tonne (+9.0% qoq), we think that steel companies may report another strong set of earnings for 1Q18 with gross profit per tonne potentially expanding to RM733/tonne (4Q17: RM708/tonne).
SHARE PRICE PERFORMANCE:
ACTION
Maintain OVERWEIGHT on the sector. We think the outlook for steel remains promising, given the sustainably high local steel prices that are supported by industry consolidation in China. In addition, we expect local steel demand to gradually improve on
the back of the commencement of various mega and infrastructure projects. We also reiterate our view that the tariff imposed on imported steel and aluminium by the US should not have a significant impact on local steel players given that excess supply from US imports should easily be absorbed given the aggressive capacity cuts by China. In addition, logistically, it would economically inefficient for US steel suppliers (such as Canada, Brazil and Mexico) to divert excess supply to Asia.
Maintain BUY on Ann Joo Resources (AJR MK/BUY/Target: RM4.50) based on 9x PE of 2019F EPS. Ann Joo is a prime beneficiary of rising ASP demand for long steel products given its hybrid manufacturing facility as well as effective capital management. In 2017, it declared a 19 sen dividend (2016: 15 sen) which represents a 47% payout ratio (2016: 45%) and translates into a 5.7% yield.
Re-iterate BUY on Choo Bee Metal Industries (CBEE MK/BUY/Target: RM3.10) based on a PE multiple of 7.0x 2019F EPS. This implies 6.1x ex-cash PE and a 13% discount to industry proxy Ann Joo Resources, Malaysia’s leading integrated long steel producer. Choo Bee also sports a compelling 2019F P/B of 0.7x, vs steel players’ Ann Joo Resources’ 1.7x and Southern Steel’s 1.3x. Choo Bee also maintained its net cash position in 2017 with net cash level representing19% of its market cap.
ESSENTIALS
Steel prices declined slightly in Feb 18. Local steel bars price eased slightly to RM2,725/tonne (-2.7% mom, +18.5% yoy) while local billet prices also declined marginally to 2.0% to RM2,375/tonne in Feb 18 which is within our expectation. The decline of steel prices in Feb 18 was largely due to a high-base impact, following a multi- year high steel price which was recorded in Jan 18. To recap, local steel bar prices were at RM2,750/tonne (4.4% mom) while local billet prices were at RM2,399/tonne (4.7% mom) in Jan 18. Despite a slight decline in Feb 18, local steel prices are still on the high side and well-supported by rising steel consumption as well as the safeguard duty on imported steel.
Chinese steel bar prices remain strong ytd. Similarly, following the positive momentum
of local steel prices, China steel bar prices also rose by 4.5% mom mtd to Rmb4,279/tonne. Chinese steel prices started to pick up after the Chinese New Year holidays and in anticipation of peak construction activities in March and April, although demand kicked in at a slower-than-expected pace, resulting in higher inventories.
Industry consolidation in China continues. Although the Urban China Blue Sky Project is coming to its tail end, China’s steel industry consolidation will continue with stricter limits on air pollutant emission starting Mar 18. The Chinese Ministry of Environmental Protection outlined key differences of its new environmental policy which includes: a) stricter standards compared to national standards (eg 30% of national SO2 emission level and 18% of national NOx emission level etc), b) more industries will be involved, such as the cement, chemical, and metals industries etc, c) more cities will be involved whereby 2+26 cities will be involved, instead of the nine cities which were previously outlined back in 2013 when the policy was first rolled out, and d) covers more areas, extending from city centres to surrounding areas. For 2018, China’s officials have committed to cutting 30m tonnes of capacity, after having achieved 50m tonnes of capacity cuts in 2017 (excluding 60m tonnes capacity cut from induction furnaces).
4Q17 results review. For companies under our coverage, Ann Joo’s reported results came in within our estimates while Choo Bee reported stronger-than-expected earnings. Ann Joo, a long steel player, reported 12.2% qoq growth in core net profit in 4Q17, thanks
to a higher ASP (+ 3.2% qoq to RM2,494/tonne), moderately higher sales volume and lower effective tax rate thanks to an income tax exemption order. For Choo Bee, earnings
for 4Q17 saw a 33.1% qoq improvement, largely supported by strong growth from the manufacturing division as well as the trading division.
Expect margin expansion in 1Q18. Based on ytd spot prices, we think that the gross profit margin per tonne of steel should improve qoq in 1Q18. Our assessment suggests that gross profit margin per tonne could expand to RM733/tonne for the quarter (4Q17: RM708/tonne) as steel bars price climbed 9.0% qoq to RM2,717/tonne in qtd.
source: UOBKayHian –20/03/2018