CSC Steel's RM22.4m net profit for 9MFY12 was below our and consensus estimates. As the operating environment remains challenging while the Government's moves to restructure the industry have yet to materialise, we do not see a turnaround in the immediate term. Due to the company's strong balance sheet and net cash of RM250m, we think CSC Steel deserves a NEUTRAL recommendation despite the persistent earnings weakness. As we roll over our valuation to FY13f, we arrive at a new FV of RM1.20.
Still murky. CSC Steel's 3QFY12 results were weaker q-o-q and y-o-y (-42.4% and -29.2% respectively). Despite sales coming in at levels similar to those in the second quarter, the Group's profit margin shrank mainly because raw material costs rose q-o-q. On top of the inconsistent raw material supply, management said export sales also declined amid stiff competition mainly from China, Korea and Japan. These, it added, made operating conditions even more daunting.
Fourth quarter may be flat. We believe that CSC Steel's 4Q results may remain flat given that steel demand from the international and domestic markets has yet to pick up. Although the Malaysian Government has rolled out several major projects, demand continued to grow at a moderate pace. As we stated in our recent steel sector report, 'Steel' Not Out of The Tunnel, most steel players are still bearish on the market and may only see some improvement after the Chinese New Year in early 2013. These aside, although the Government has yet to disclose measures aimed at restructuring the local steel industry, we are hopeful that the proposals put forth by Boston Consulting Group will bring about a favourable outcome for the industry.
Revising downward earnings. We may have been overly optimistic on steel demand making a recovery in 2HFY12 but it has turned out to be more sluggish than we had anticipated. Therefore, we are slashing our forecasts for CSC Steel's FY12 and FY13 earnings by 30% and 24% respectively.
Maintain NEUTRAL. With the company's strong balance sheet and net cash of about RM250m, we believe that CSC Steel would be able to weather the currently challenging environment although its earnings may be flat, or even weaken in the upcoming quarters ' at least until the industry sees a positive turnaround. As such, we deem our NEUTRAL recommendation for CSC Steel justified, with a new FV of RM1.20, as we roll over our valuation to peg the stock at 0.56x FY13f BV, which is -1.0 SD from the mean of its five-year historical trading band.
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20% shareholdings in TGSC. Separately, CSC Steel announced that it has purchased 20% of the issued and paid-up share capital of Tatt Giap Steel Centre SB (TGSC) for a total cash consideration of RM8.2m, which is to be funded wholly from internally-generated funds. The other two substantial purchasers are CIC from Taiwan and Hanwa from Japan. Collectively, the three companies will hold 49% in TGSC. TGSC was a wholly-owned subsidiary of Tatt Giap Group, which is involved in stainless steel processing and provides comprehensive value-added services for stainless steel coil processing for down-stream industrial manufacturers and multinationals. Management guided that the purchase was in line with CSC Steel's strategy to have strategic partnerships with its downstream customers, of which one is TGSC. Other than to diversify its income stream, we think that CSC Steel's acquisition is to ensure that TGSC continues to purchase steel coil from it. This strategy is similar to that adopted by many steel mills in Japan.
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