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NUCOR CORP NUE S
June 12, 2021 - 2:30pm EST by
sancho
2021 2022
Price: 106.59 EPS 13.52 6.44
Shares Out. (in M): 299 P/E 7.88 16.6
Market Cap (in $M): 31,896 P/FCF 13.9 16
Net Debt (in $M): 2,891 EBIT 5,850 2,950
TEV (in $M): 34,787 TEV/EBIT 5.95 11.8
Borrow Cost: General Collateral

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Description

We believe Nucor (NUE) is a compellingshort over a1-year horizon. Nucor is the largest US steel producer.
It is a well-run company with high-quality assets. However, its stock has overshot (+100% YTD) on what
should be only a temporary supply/demand in balance in the steel market. What’s most perplexing is that
NUE has traditionally been the “low beta” defensive steel play, but this time the stock is outperforming
other steel companies with much higher leverage (X, CLF, etc). We believe this is largely due to technical
factors that will also relent. Oh, and did we mention the company decided to go “pedal to the metal” on
stock buybacks after the stock doubled YTD and with earnings at a cyclical high. This is a textbook case of
“peak multiple on peak earnings” that you can play to the $75/share level for a 30% gain.
 
 
Nucor was one of the early pioneers producing steel in electric arc furnaces (EAF, or minimills), versus the
traditional method of blast oxygen furnaces (BOF, or integrated mills). EAFs are highly efficient and flexible
assets where production can be dialed up or down depending on the market environment. This posed a
big advantage versus BOFs, which have a high fixed cost structure and which are very expensive to stop
and restart production. EAFs have been consistently gaining share in the developed world and are now
the market leaders anywhere there’s plentiful scrap available to feed them. This whole dynamic was well-
chronicled in Clay Christensen’s renowned “The Innovator’s Dilemma.”
 
 
NUE comprises 3 segments:
• Steel mills: NUE operates 25 steel mills in the US, with combined capacity of 27mm tons/year.
This segment typically accounts for 80%+ of total EBITDA.
• Steel products: its downstream segment, including finishing and fabrication into more value-
added steel products. Generally accounts for 15% of NUE’s EBITDA.
• Raw materials: essentially a scrap recycling operation. A lower-margin business that is generally a
5-10% contributor to total earnings.
 
The recent surge in profitability has been driven by the Mills segment, as the spread between steel prices
and scrap metal has skyrocketed. The spread between Hot Rolled Coil (HRC) steel and busheling scrap has
ballooned to near $1,000/ton, vs a mid-cycle avg closer to $300/ton and a prior cycle peak in 2018 that
didn’t even reach $600/ton. This surge in spreads has been driven by an extremely tight steel market. This
has been a function of a) Demand, as production of autos and manufacturing has rebounded much quicker
than expected and b) Supply, which has been constrained as integrated players such as CLF and X shut
down blast furnace capacity last year that they have so far not brought back.
 
 
Steel has always been a cyclical industry. There’s no “new paradigm” here, as new supply is already coming
in and demand should also cool off. We believe supply will be the bigger driver in the near-term and will
drive margins back to the historical average. STLD has a new 3mm ton capacity mill in Sinton, TX opening
in the next few months. NUE itself has 1.2mm ton coming online in 2022. CLF and X are so far holding the
line, but the longer prices remain elevated, the higher the opportunity costs. Finally, a surge in imports is
always a threat, particularly as the spread between US and Europe/China prices is also at its all-time highs.
 
Our normalized EBITDA number is $3bn, down from 2021’s expected $6.8bn but still above 2017 and 2019
levels. At a 7x multiple (over the past decade, NUE has traded quite consistently within the 6-8x range),
it’d result in a $21bn EV valuation. But until margins normalize, NUE and its peers will be minting cash. If
we account for 2021-22 FCF generation of $4-4.5bn, that would result in a target EV of $25-26bn, which 
net of $2,891mm in net debt results in $22-23bn target market cap, or $75/share. Note that consensus
also has 2023 EBITDA at $3bn. We believe the stock will begin to fade as the supply/demand picture starts
to ease and it becomes apparent there is little to no upside to that $3bn estimate.
 
We lack the ability to pinpoint when steel prices peak or how quickly they will correct. But we’ve seen this
movie before in commodity industries: the moment supply additions are announced and/or
supply/demand tightness shows early signs of relenting, multiples compress materially even before the
commodity prices have peaked. This is currently happening in sector like polyethylene or beverage cans,
and steel will be no different.
 
Finally, NUE is guilty of that classic sin of cyclical industries: ratcheting up buybacks at the cyclical peak,
with the stock up 100% YTD and at its all-time high. NUE announced in April it was raising its target
leverage to 18-22% net debt/capital from its then 13%, hinting buybacks would be the way to get there.
We believe this buying pressure has been largely to blame for NUE’s outperformance vs higher-beta steel
names like CLF, X or its closest peer STLD. We feel buyback activity is likely to slow materially imminently,
as NUE announced a $1bn purchase last week of a metals panel business from CNR that will comfortably
put it within its new targeted leverage ratio.
 
I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise do not hold a material investment in the issuer's securities.

Catalyst

  • New supply additions come online
  • Steel imports increase
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