It was a rather challenging year for the local steel players in 2013, given the volatile steel price movement in 1H13 due to: (i) overcapacity of the Chinese steel makers, (ii) weak demand in Europe, and (iii) a slower-than-expected growth in China. However, in 2H13, as the China economy started to pick up, global steel prices stabilised, which provided a reprieve to local steel players, enabling them to record better overall performance in 2013 as compared to 2012. Nevertheless, moving into 2014, we opine that the operating environment for the local steel players would get more difficult due to the recent subsidy rationalisation, and we expect higher operating costs as a result of the upward revision in electricity tariff, toll rate hike and reduction in petrol subsidy, which would further decrease already razor-thin margin and competitiveness of local steel players against the Chinese players. Thus, we are maintaining our NEUTRAL recommendation for the sector with a MARKET PERFORM call on both ANNJOO (TP: RM1.31) and MASTEEL (TP: RM0.91).

3Q13 results review. Both steel companies within our coverage, ANNJOO (MP; TP: RM1.31) and MASTEEL (MP; TP: RM0.91) managed to register decent sets of results that were well within our expectations despite the challenging operating environment given their ability to optimize their cost structure coupled with a more stable steel price movement.

Steady steel prices, but … Global steel prices had been fairly stable in 4Q13 as compared to 3Q13 when the prices for hot rolled coil were maintained at the range of USD583/mt (-0.3%), cold-rolled coil to USD680/mt (-0.2%), wire rods to USD577/mt (-0.6%), rebars to USD599/mt (-0.4%), and billets to USD518/mt (0.1%). We are rather positive with the stable price movement for these commodities, as it could provide steel players with a more stable margin. The stable recovery was mainly attributable to the pickup in China as the country quickened its railway investment and public housing construction. To recap, the manufacturing activity in China grew at its fastest pace in seven months in October when the preliminary HSBC China Manufacturing Purchasing Managers' Index for October increased to 50.9 from September's final reading of 50.2.

Local scene remains challenging. While we are positive on the stable price movements for these commodities, we opine that the local scene for the steel players would remain highly challenging given the recent subsidy rationalization move undertaken by the government. In 2014, we foresee that the electricity tariff revision, toll rate hike and also petrol subsidy rationalization could possibly reduce the competitiveness of the local players against the Chinese steel mills and further damper their already razor thin margins.

NEUTRAL maintained. However, we continue to maintain our NEUTRAL recommendation for the building material sector at this juncture even though the operating environment for the steel players would continue to be highly challenging as steel products pricing remains highly competitive due to the influx of Chinese steel products in the market and possibly have a margin compression for the local players, as we are anticipating a strong pick up on China’s economy and more measures taken by the Chinese government in closing down inefficient steel mills.

Source: Kenanga