Why an integrated business model helps Steel Dynamics

Market Realist

A must read overview of Steel Dynamics (Part 3 of 11)

(Continued from Part 2)

Importance of Integrated business model

A company is said to have an integrated business when it has its own raw material supply and distribution channel. Backward integration means control over raw material supply and forward integration means owning the supply channels.

Vertical Integration of Steel Dynamics

The chart above shows the integrated business of Steel Dynamics. As you can see it is self-sufficient in iron ore, which is a key raw material for steel makers. Omni source, which Steel Dynamics acquired in 2010 helps it meet 45% of its steel scrap requirement. Omni Source sells the remaining scrap to other customers, enhancing the revenues for Steel Dynamics and diversifying its business. Steel Dynamics got 32% of its revenues in 2013 from metals recycling, as you can see in the chart above.

We have seen earlier that Steel Dynamics has fabrication facilities, and self-distribution channels which give it control over the supply chain of its business.

Steel making process at Steel Dynamics

As you can see in the chart above, steel mills is the most important segment for Steel Dynamics (STLD), accounting for 61% of its 2013 revenues. It has five Electric Arc Furnace (or EAF) steel mills. Please note EAF is a steel making process which mainly uses steel scrap as a raw material for steel making. An EAF has low fixed costs as compared to a blast furnace route of steel making. This gives operational flexibility to companies in times of downturn in the economy.

Nucor (NUE) also uses mainly EAF for steel making and thus has been able to tide over the challenging markets effectively. Companies like Arcelor Mittal (MT), and United States Steel Corporation (X) which mainly use the Blast furnaces have seen their profitability and thus share prices dive post 2008. We will discuss the comparative share returns for Steel Dynamics in greater detail going forward.

Please note that ETF’s like SPDR S&P Metals and Mining ETF (XME) are an alternative way to gain exposure to the steel industry.

Continue to Part 4

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