EQUITY UPDATE: Korean Steel Industry: POSCO earnings

Paul Krake

AUTHOR: Cindy Ponder-Budd

Korean Steel Industry: POSCO earnings

This week Korean steel maker POSCO Daewoo releases its first quarter results, with local analysts estimating that the company’s earnings will increase by 29% to 141.6bn won. Last year was a stellar year for the firm, posting its best EPS growth in five years as a result of improved sector and company fundamentals. In 2017, China, in a push to clean up the environment, dramatically cut steel capacity causing a price spike and a shortage for certain types of steel, particularly the higher-value products that POSCO excels in. Analysts are equally optimistic for 2018 expecting record high earnings on the back of continued tight Chinese supply, rising gas prices, a boom in its raw material segment and a vibrant steel trading business.

The biggest risk to the rosy estimates is the escalation of trade restrictions from the US and any Chinese retaliations. The global steel industry has already been front and center in the trade headlines with the White House, using the findings of the Section 232, slapping a 25% tariff on steel and a 10% levy on imported aluminum.

Ironically, China will not be heavily impacted by these tariffs, with only 5% of US steel imports coming from the Mainland. In the region, the countries that will be most affected are South Korea and Japan which, according to the Commerce Department, make up the third and seventh largest sources of imports accounting for 3.5mn tons and 1.9 million tons, respectively. The biggest losers will be the smaller South Korean companies that have a larger exposure to the US.

This concern may be one reason that South Korea and the US were able to come to a variety of new trade agreements that will permanently except Seoul from the steel and aluminum tariffs. In the bargain, the White House will limit South Korea’s steel exports by imposing a quota of 2.68m tons, or 70% of the annual average Korean steel exports to the US over the past three years.

Also, as part of the KORUS re-negotiations, Seoul will allow the US auto industry greater access to the South Korean market by easing environmental standards. Under the agreement, each US company may export 50,000 vehicles annually, double the current allowance of 25,000 units. American automakers are hoping that this will help them increase their market share from 155, where it has been for year. The deal also includes a provision restricting either country from weakening its currency to make its exports cheaper.

It is unclear how these new terms, and the recent White House tariffs against China, will impact the regional steelmakers. As of now, the Korean players have gotten a short-term reprieve, but if growth slows and/or China resumes shuttered steel capacity, current analyst forecasts are too high. Another question is will Washington, D.C. use the South Korean template as a way to negotiate exemptions with other trade allies? These are all issues that can cause increased volatility in the stocks over the coming weeks.

The VFTP Thematic Portfolio does not own any regional steel or aluminum companies.


The View