Credit Suisse says Gerdau division to enjoy strong, speedy recovery

Monday, October 17, 2016

Credit Suisse believes that steel group Gerdau's business division (ON) in Brazil is likely to recover "faster and to healthier levels" than the consensus estimate.

Porto Alegre-based Gerdau is the largest Latin American steelmaker and the biggest long steel producer in the Americas. Around the middle of the year, Gerdau was about 21bn reais (US$6.57bn) in debt.

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"We now estimate Brazil's ON Ebitda margin to reach 16% in 3Q16, 100bps higher than our previous forecast," the Swiss lender said in a note to clients on Monday.

"Earlier than expected results combined with our view of an additional 75,000t in sales volume in 2017 resulted in our estimate of ~16% Ebitda margin in 2017, one of the highest around the globe.

"Weak 3Q16 results in North America are expected by the market and priced in, in our view. We expect further news flow on the possible introduction of anti-dumping duties against Turkish rebars until YE16 and a final outcome in 2017."

According to the note, the utilization ratio of Gerdau's specialty steels division in Brazil is 50%, the lowest level in the company's recent history.

"There is clear operating leverage moving forward, which is not priced in the stock at this stage. After the divestment of [Spanish steel plant] Sidenor, we estimate a reduction of 20% in the division's COGS and margin improvement of 220bps in the quarter, also boosted by [Gerdau's operations in] India, whose utilization ratio is now close to 100%," the bank said.

Credit Suisse estimates Gerdau's capital expenditures to reach 1.5bn reais this year, 1.25bn reais in 2017, and 1.5bn reais as of 2018.

The company's free cash flow is estimated at a positive 1.4bn reais, 2.7bn reais, and 2.2bn reais, in 2016, 2017, and 2018, respectively, ultimately resulting in deleveraging.

"We expect the company to continue delivering divestments of non-core assets, including operational ones. At this stage, we believe a significant divestment (such as Sidenor, 155mn-euro, or Gallatin Steel, US$385mn) is unlikely to be repeated," the note says, adding the bank expects minor divestments to be completed in the next few quarters, generating about 500-600mn reais.

On September 30, Credit Suisse affirmed Gerdau as one of its top global picks, together with steel groups Angang, ArcelorMittal, Tata Steel, US Steel and MMK.