Why Does a Higher Capacity Utilization Ratio Help Steel Dynamics?
Steel Dynamics’ 2Q15 earnings
As we discussed previously, Steel Dynamics (STLD) incurred a one-time charge of $0.90 per share due to idling the Minnesota plant and a planned outage at Iron Dynamics. After adjusting for these one-off items, Steel Dynamics delivered an EPS (earnings per share) of $0.22.
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Capacity utilization ratio
Steel Dynamics had a capacity utilization ratio of 87% in 2Q15. This compares favorably with an industrywide utilization ratio of ~74%. In simple terms, the capacity utilization ratio refers to the actual production compared to the maximum production possible using existing plants.
Running production plants at less than optimal capacities also makes the cost of production higher. The reasoning is quite intuitive. Fixed costs are distributed among fewer units so the costs per unit go up. According to analysts, steel companies’ profitability is negatively impacted if plants operate at less than 80% utilization rates. Steel Dynamics has better utilization rates compared to its peers. This acts as a competitive advantage for Steel Dynamics.
Steel Dynamics generated free cash flow of $286 million in 2Q15. In contrast, AK Steel (AKS) has burned cash for several quarters. Steel Dynamics’ leverage ratios are also quite comfortable.
Its net debt reduced by $258 million in 2Q15 on the back of strong free cash flow generation. Steel Dynamics has a total liquidity of $1.6 billion. This is decent for a company of its size.
ArcelorMittal (MT) has outlined a debt reduction program. However, looking at the challenging market environment, it might miss its targets on debt reduction.
In the next part of this series, we’ll discuss how other steel companies’ 2Q15 earnings could play out.