Inventories increased in the third quarter
First, let’s understand what inventories actually mean. In simple terms, inventories are the stock of raw materials and finished goods that a company holds. These are part a company’s current assets. Companies have to deploy capital to maintain their inventory levels.
Analysts use the inventory turnover ratio to measure a company’s operational performance. Inventory turnover is sales divided by the average inventory held over the year. A higher ratio is a sign of a company’s superior performance.
Inventory turnover ratio decreased in the third quarter
RS has a track record of a high inventory turnover ratio. The previous chart shows the trend in this ratio over the past year. You can see that the ratio gradually improved since 3Q13. This was due to the successful integration of Metals USA. Reliance Steel has been able to improve the inventory turnover at Metals USA to 4.5. The ratio was 3.4 before RS acquired Metals USA.
Why imports lead to higher inventories
Reliance Steel increased its imports. This increased its inventory levels. There are extended lead times on materials purchased offshore. When a company makes purchases overseas, it can’t get deliveries overnight. There’s a time lag between making an order and getting the final delivery. To lessen the impact of this time lag, importers have to carry a higher level of inventories.
RS is also maintaining high inventories because there’s strong demand for its products.
After looking at the key financial metrics, let’s analyze two acquisitions that RS completed during the third quarter. We’ll discuss this in the next part of the series.
Please be aware that you can also play the metals industry through U.S. Steel Corp. (X), Nucor (NUE), and Steel Dynamics (STLD). All of these companies are currently part of the SPDR S&P metals and mining ETF (XME).