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Here's Why You Should Hold on to POSCO (PKX) ADR for Now

We issued an updated research report on POSCO PKX on Apr 5, 2018. Healthy demand for steel in domestic and international arenas, a large customer base in various end markets and strategic initiatives will support this South Korean steel producer’s growth trajectory. However, high debt levels and stiff competition are major concerning factors.

The company, with a market capitalization of approximately $24.1 billion, carries a Zacks Rank #3 (Hold).

Below, we briefly discussed the company’s potential growth drivers and possible headwinds.

Factors Favoring POSCO

Share Price Performance and Healthy 2018 Projections: Last year, POSCO’s American Depository Receipts (ADR) yielded 27.6% return, outperforming 16.7% gain recorded by the industry.



Its financial performance in 2017 was impressive, with net income surging 183.8% year over year on revenue growth of 14.3%. For 2018, the company anticipates consolidated revenues to be approximately KRW 61.9 trillion, higher than KRW 60.7 trillion recorded in 2017. Also, it predicts crude steel production to be roughly 37.4 million tons, higher than 37.2 million tons produced in 2017.

Growth Potential Solid: POSCO operates through four business segments — Steel, Trading, Engineering & Construction and Others — largely minimizing its risks of loss from the poor performance of any group. Also, a vast customer base in various end-markets, including economic research and consulting, architecture, electronic commerce, forest resources development, computer hardware and software distribution, crude oil & natural gas mining plus real estate development, is a boon.

We believe that any rise in investment for infrastructural development by the government, as well as anticipated growth in the automobile and shipbuilding industry of its home country, will work in its favor. Moreover, the World Steel Association predicts global steel consumption to grow 1.6% year over year in 2018. This forecast includes 1.1% growth in the United States, 5.7% in India, 1.4% in European Union, 4.5% in the MENA region, 6.8% in ASEAN countries and flat in China.

Restructuring Initiatives: Measures undertaken to improve steel operations, as well as other prime businesses and overall profitability, will be advantageous. In this regard, completion of revamping work at Pohang Works’ Blast Furnace #3, along with other maintenance projects in 2017, is worth mentioning. This move will assist in hassle-free production in the future.

Also, the company believes in disposing of non-core assets to strengthen the business portfolio. It worked on 150 restructuring cases, including 85 subsidiaries and 65 assets, during the 2014-2017 timeframe. Over time, these business restructuring activities resulted in the positive financial impact of KRW 7 trillion, including approximately KRW 5.7 trillion in proceeds and roughly KRW 1.3 trillion in debt reduction. Notably, the company worked on 26 restructuring cases in 2017, including 19 subsidiaries and seven assets. In the quarters ahead, the company intends to work on the business portfolio of its subsidiaries as well as initiate efforts to relocate growth businesses for enhancing its competitiveness.

Factors Working Against POSCO

Poor Valuation & Threats From International Expansion: On a P/E (TTM) basis, POSCO’s ADR looks overvalued compared with the industry with respective tallies of 11.7x and 7.7x in the last year. This makes us cautious about the stock.

POSCO Price and Consensus
 

POSCO Price and Consensus | POSCO Quote

Also, global expansion has exposed the company to risks arising from adverse movements in foreign currencies. Also, uncertainties in the economic growth of the countries served can severely impact its businesses. Internationally, its products are sold in China, Japan, Europe, the Middle East and North America.

Huge Debts Raise Concerns: POSCO’s non-current liabilities was approximately KRW 12.6 trillion, exiting the fourth quarter of 2017. We believe, if unchecked, huge debt levels will increase its financial obligations and hence, prove detrimental to its profitability.

Industry Competition: POSCO faces stiff competition from companies that have huge production capacity as well as from new players in the industry, primarily those originating from China and India.

Some key players in the steel industry are ArcelorMittal MT, Schnitzer Steel Industries, Inc. SCHN and Steel Dynamics, Inc. STLD. All these stocks carry a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 (Strong Buy) Rank stocks here.

In the last 60 days, earnings estimates for both the stocks improved for the current year and the next year. Also, average positive earnings surprise for the last four quarters was 39.43% for ArcelorMittal, 0.81% for Schnitzer Steel Industries and 6.49% for Steel Dynamics.

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POSCO (PKX) : Free Stock Analysis Report
 
Steel Dynamics, Inc. (STLD) : Free Stock Analysis Report
 
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Schnitzer Steel Industries, Inc. (SCHN) : Free Stock Analysis Report
 
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