Check on China: General Steel Holdings, Inc.

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In China, coal is clearly king, but steel is eyeing the crown. After all, China produces and consumes one-third of the world's steel. And while the United States and European Union economies appear destined to retreat this year, China's still-growing economy will likely continue to drive strong domestic and global steel demand, according to China's steel industry's most recent monthly market report. Perfect news for General Steel Holdings, Inc. (NYSE:GSI), a diversified Chinese producer of steel products.

Chinese steel has been in the international headlines lately: last month, much to the chagrin of Beijing, the U.S. Commerce Department slapped a combined import duty of around 700% on steel pipe exported by The Shuangjie Group, a major steel pipe producer in China, to offset Chinese government subsidies, which it says amounts to "unfair" pricing practices. Two weeks ago it was reported that smaller Chinese steel companies have been wooing foreign investors in a bid to gain access to vital funding, markets and technology and avoid being gobbled up by the country's state-run steel behemoths. This week, Tangshan Iron & Steel Group Co., China's third-largest steel producer by output, formally merged with smaller rival Handan Iron & Steel Group to create Hebei Iron and Steel Group, supplanting Baosteel Group Corp. as the country's largest steel maker.

In a nation where the top-20 companies account for 50% of all steel production (with a goal of having the top 10 firms produce half of the nation's steel by 2010), one smaller outfit that seems to be holding its own is General Steel Holdings. Through its Daqiuzhuang Metal subsidiary, General Steel manufactures hot-rolled carbon and silicon steel sheets that are used in the production of tractors and agricultural equipment, shipping containers and in other specialty markets. Its Baotou Steel Pipe Joint Venture produces spiral-weld steel pipes for customers in the gas, oil and petrochemical markets. Its Longmen Joint Venture produces construction rebar, high-speed wires, crude steel and pig iron. The company estimates it controls from 50% to 70% of market share in the markets in which it operates.

Through a steady diet of smart acquisitions, General Steel has grown steadily since last year to become one of China's leading non-state-owned steel products producers. Largely due to the acquisition of a controlling interest in the Longmen joint venture, the company reported impressive results for the period ended March 31, 2008. Net sales shot up 675% to $291.6 million compared with $37.6 million in the same period of 2007. It recorded a 361% jump in first-quarter net income, posting $2.2 million, compared with $470,000 a year earlier. And gross profit skyrocketed 649% to about $13 million, from $1.7 million for the year-ago quarter.

Following the earnings news and despite the stellar numbers, Roth Capital Partners lowered its net income and EPS estimates due to lower-than-expected margins that took a hit because of soaring raw material costs used in steelmaking (iron ore and coking coal), increasing freight costs tied to rising oil prices and "higher interest expense assumptions." But citing rising steel prices, the firm increased its 2008 revenue estimate by $55 million to $1.47 billion and maintained its 2009 revenue outlook. The analysts said General Steel is undervalued, trading at a discount to its peers (10 times their 2008 EPS, compared with China's group average of 12.4 times and 11.3 times in the United States) and noted that future acquisitions may provide upside potential. Analysts at Merriman Curhan Ford say General Steel is attractively valued, maintain a "buy" rating on the stock and expect the strong demand for steel in China to last for years.

Shares of steel producers have been gaining lately on price hikes. At all levels, steel prices have been trending upward at a breakneck pace. Finished steel prices have nearly doubled since late 2007. The prices of steel products in China are up almost 40% year over year. Last month, the prices for large- and medium-sized steel products rose 27.2% and 43.5%, respectively, while prices for small steel products were up 29.8%, fueled by sundry industries such as energy, construction and agriculture. The China Iron & Steel Association points to booming demand, declining production and steep raw materials prices as the reasons for the cost explosion.

While surging steel prices are seriously impacting many smaller Chinese steel companies who are struggling with the sky-high cost of iron ore and problems associated with sourcing it, General Steel's Baotou Group owns a large iron-ore mine that will provide much of the raw material for the company's production needs, likely fueling continued revenue and earnings growth.

General Steel shares dropped $0.29, or almost 2.89%, on Wednesday to close at $9.75. There is a consensus one-year price target of $12.40 on the stock, which has traded between $6.10 and $12.52 over the past 52 weeks.

With robust domestic and international demand for Chinese steel products expected to continue for the foreseeable future, General Steel is forging ahead while showing remarkable strength that will surely land it anywhere but the scrap heap.
 

About the Author
Shannon Roxborough previously worked as a global risk analyst, and lived in China for nearly two years. Read More

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