EUR 850.00 For Business Accounts Only

Morningstar | Overcapacity in the steel industry will continue to weigh on Posco.

Posco's best-in-class operational efficiency, along with its economies of scale and advantageous plant locations, differentiates it from other steel producers. The firm's two main integrated steel mills are the largest in the world, with capacity of roughly 20 million tons each. They also have the most advanced blast furnaces in the world.Posco played an instrumental role in cementing South Korea's lead in high-value-added steel production, with its differentiated product offering and industry-leading low-cost advantage. However, Posco has arrived at a crossroads after years of underperformance and peers catching up technologically. Under the direction of a new CEO, the company is looking to rebuild its lead through renewed focus on technological innovation and creating differentiated steel products.In view of the challenging environment, Posco has laid out a medium-term plan to increase its EBIT to KRW 5 trillion in 2019 from KRW 2.8 trillion in 2016 and to reduce debt by KRW 2.4 trillion, resulting in debt/EBITDA falling to 2.7 times in 2019 from 4.1 times in 2016. The main drivers in this plan are increasing sales of high-grade steel products and alloys, technological advancement, restructuring businesses, and identifying new growth opportunities. The plan also comes with a stringent investment plan of KRW 2.5 trillion to be spent from 2017 to 2019, as opposed to the high capital expenditure spend of KRW 5 trillion-KRW 7 trillion per year in previous years. We believe that these measures are moves in the right direction to improve on the firm’s profitability and balance sheet in the long term. However, we do not expect its EBIT to increase by such a large magnitude, as it remains affected by the challenging environment in the steel industry. In the long run, we still expect steel prices to be low, owing to our expectations of lower midcycle iron ore and coking coal prices as China’s demand growth for steel matures. On the flip side, we expect the firm to exceed its debt-reduction target, as we expect management to be more prudent in capital allocation and anticipate a reduction in working capital because of falling commodity prices.