On Sep 19, we upgraded metals processor Reliance Steel & Aluminum Co. ( RS) to Neutral. While we take into account softness in the non-residential construction market and the weak pricing environment, we are encouraged by strength across automotive and energy markets and an improving demand environment. .
Why the Upgrade?
Both revenues and earnings for second-quarter 2013, reported on Jul 25, missed Zacks Consensus Estimates. Weak demand and lower pricing hurt profit. Reliance Steel expects economic challenges to continue into the third quarter, but sees improvement in overall demand levels.
Reliance Steel, a Zacks Rank #3 (Hold) stock, has tremendous earnings capacity with its broad and diversified product base, along with a wide geographic footprint that positions it well in the industry. The company continues to evaluate and execute additional growth projects and is well placed to leverage the strong momentum across a number of end markets, including automotive.
Reliance Steel continues its aggressive acquisition strategy to incite growth. The acquisition of steel and aluminum components maker Metals USA Holdings Corp. Metals USA is a strategic fit with Reliance Steel’s portfolio and complements its existing customer base, product mix and geographic footprint.
In addition, Reliance Steel remains committed to offer incremental returns to its shareholders. The company raised its quarterly dividend by 10% to 33 cents per share in Jul 2013.
However, Reliance Steel remains challenged by weak steel industry fundamentals and contends with soft steel and metals pricing environment. Prices for stainless and aluminum products are expected remain weak in the near term.
The steel industry remains affected by overcapacity that continues to outpace demand. There is not enough demand for steel products due to weakness in construction end markets, resulting in excess supply. Contributing toward this inventory glut are production ramp ups by domestic steel producers and rapid growth in Chinese production.
We also remain concerned about the non-residential construction market (Reliance Steel’s largest end market), which continues to be the weakest link. While there has been a modest recovery of late, demand remains significantly below the peak levels achieved in 2006.
Other Stocks to Consider
Other companies in the metals industry having favorable Zacks Rank are NSK Ltd. ( NPSKY), Northwest Pipe Co. ( NWPX) and CIRCOR International, Inc. ( CIR). All of them hold a Zacks Rank #1 (Strong Buy).