Steel Industry Showing Slow, Steady Improvement

Bridget Freas: Hi, my name is Bridget Freas. I am an Equity Analyst with Morningstar. Joining me from Steel Dynamics is Dick Teets, Executive Vice President and Chief Operating Officer. Steel Dynamics is one of the largest metals recyclers and steel producers in the United States, focusing primarily on the automotive, construction and machinery sectors.

Dick, thanks for being here.

Dick Teets: My pleasure, Bridget.

Freas: I wanted to start off talking about one of the big projects that you guys have, ramping up right now. And that's the Mesabi nugget, on your way to use iron range units for your steel making. Steel Dynamics is already a fairly low-cost producer. What is the expectation with how this project is going to affect your profitability long-term once it ramps up, and what are some of risks associated with this project?

Teets: Well, how it will affect our profitability long-term is we would believe a significant positive opportunity. With the volatility in both scrap pricing and in iron ore and pig iron pricing, having control over those iron units is very beneficial to the company. And it's a venture, new technology and we're excited about the opportunity to provide that larger base for our steel mills from a supply standpoint.

Some of the risks associated with it, I need to say it's a scale-up. It's a first of its kind. It's a scale-up. It's a number of different things. It's new product, but the small amount of product that we've already received from it and it's growing on a monthly basis, have been well received by the steel mills, they are excited about it, they are using it. We see an improvement in yield, we see an improvement in energy utilization and those are all positive improvements that help drive down and maintain our low-cost structure mentality.

Freas: Okay. And then continuing on the raw materials side, the ferrous scraps that's produced by your metals recycling segment, some of that is used internally by your mills for steel making and some is sold externally. So, when scrap prices rise, on the one hand that improves the revenue generation at the metals recycling, but it increases the cost for the mills. So, what do you think determines whether those higher costs can be passed on in the form of steel prices and what type of environment makes higher scrap prices desirable?

Teets: Well, a very simple answer to that is a robust and improving solid economy and economic marketplace. That's buying products and allowing steel in general to be under increasing demand will allow the steel prices to migrate north, and then it's an opportunity to have scrap follow it. Needless to say from a steel perspective, we'd like to see it follow at a little bit of a lag. Anytime we can increase the margin between the scrap-in and metal-out, it improves the bottom line for the company. And that's more so for us because we produce more steel from the steel sector than we process as scrap in the scrap sector.

We may handle as many tons of ferrous resources, but because some of those tons are being brokered there is a limited opportunity to benefit from the increasing margin on the scrap supply. So, we really do want to see an increasing spread between scrap metal and sales price of finished products.

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Freas: Looking at the financial performance of the company, clearly 2010 is shaping up to be a stronger year than 2009, but if you look quarter-to-quarter, very strong first quarter, even better second quarter, some weakness in the third and then pretty uncertain outlook for the fourth. Is this type of volatility in earnings typical this early in a recovery? What type of signs are you seeing that that give you confidence that we are in fact in recovery and we're not headed towards any type of double-dip recession?

Teets: I would tell you that we see basic indicators throughout our markets showing slight improvements quarter-over-quarter. Our reported financial results are heavily influenced by the flat roll facility from Butler, Indiana and it was an extremely great performing operating unit along with our, the techs group and so forth that in the first quarter and – in the second quarter, because of automotive strength.

It has tapered off in the third quarter as you allude to and we don't know where it's going to be for the fourth quarter. We see it being okay, but that gives you appearance of – if you were in a flat roll sector and viewing only that you might say, boy, it's going be double-dip, but no other sector experienced that quick robust recovery as we saw in a flat roll, so everyone else would say, what is double-dip. It's not double-dip, it's a long, steady improving market.

Freas: One of the things that we've been hearing about for a long time is the growth in emerging markets, and steel consumption has grown tremendously in China, and Brazil and other areas. So you guys are primarily domestic focus, very little exposure to the export market. But how does this affect you when there are stronger demand growth in other areas even if you are not able to take advantage of that directly? How does global consumption trends affect the company?

Teets: Very positively. We don't necessarily have locations that are physically in great proximity to ocean-going transportation opportunity. But in our products where we have limited competitors, any export business by one or more of them actually allows all of us to operate at a higher level of utilization. And that's good for all of our bottom line.

So, as long as there is an industry opportunity that's being achieved, it's good for us all. We have participated in some and we've even participated in some export markets for years on a limited basis where we have a very specialty product that has a desire in the consuming community that is met best by us versus anyone else in the world. So, we're very proud of those success stories.

And finally I guess, you'd like to think that the opportunities for exports across the board, meaning that the consumption rates are higher, sometimes that will minimize import opportunities, which therefore, also will translate into a higher operating capacity utilization within our own units.

Freas: Dick, thank you very much for being here.

Teets: Oh, my pleasure. Thank you.