Morningstar | Schnitzer's Q1 Results Support Our View That Last Year's Profits Will Represent a Cyclical Peak. See Updated Analyst Note from 09 Jan 2019
Schnitzer issued middling first-quarter results for fiscal 2019 as robust ferrous and nonferrous scrap volumes were offset by lower margins. However, even if scrap volumes remain elevated, our expectations for margin contraction mean the company will be hard-pressed to match its profit generation from fiscal 2018. Having updated our valuation model, we've lowered our fair value estimate to $20 per share from $21 after trimming our near-term margin outlook. Our no-moat rating is unchanged. At current prices, shares are trading modestly above our fair value estimate.Adjusted operating income in the quarter was $23 million, a slight decrease from $26 million in the same period last year and a sharp sequential decline from $38 million in the fourth quarter. We forecast adjusted operating income just above $90 million for the full year, as we expect scrap prices and margins to decline throughout fiscal 2019. While both ferrous and nonferrous scrap prices have declined materially since hitting peak levels in the third quarter of fiscal 2018, we see further declines ahead.
For the flagship Auto and Metals Recycling (AMR) segment, we forecast a 5.5% operating margin for 2019, well below the 8.9% margin earned last year. First-quarter AMR operating margins were only 5.3%. It looks increasingly unlikely that Schnitzer will achieve its 2019 AMR profitability goal of $39 per ton, as we forecast only $26. This would represent a significant decline from the segment's impressive $46 per ton last year.
Although we maintain a negative outlook for the company's scrap processing operations, we expect the Cascade Steel and Scrap (CSS) segment to deliver modest profit growth this year. We expect healthy nonresidential construction activity along the west coast to support slightly higher steel volumes and steady margins for Schnitzer's steelmaking business. This should result in CSS operating margins in line with the 8% margin achieved in 2018 and well above historical averages.
Schnitzer Steel Industries is engaged as a recycler of ferrous and nonferrous scrap metal, including end-of-life vehicles, and a manufacturer of finished steel products. The company has two segments: Auto and Metals Recycling, which acquires and recycles ferrous and nonferrous scrap metal for sale to foreign and domestic metal producers, processors and brokers, and procures salvaged vehicles and sells serviceable used auto parts from these vehicles through a network of self-service auto parts stores; and Cascade Steel and Scrap, which produces a range of finished steel long products using ferrous recycled scrap metal and other raw materials.
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