Focus: How U.S. Steel became an acquisition target

US Automotive Manufacturing

17/08/2023 11:00

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      US Steel cheap vs rivals' valuations
    

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      Valuation hurt by furnace spending, auto strike threat
    

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      Suitors bet on steel demand growth in green energy sector
    

  
    By Anirban Sen and David  Carnevali
       NEW YORK, Aug 17 (Reuters) - U.S. Steel Corp  X.N 
attracted acquisition interest after short-term challenges,
including upgrading furnaces and potential car production
shutdowns, weighed on its valuation, according to people
familiar with the deliberations of its suitors.
    The Pittsburgh-based company, which has a market value of
$6.8 billion, is exploring its options amid acquisition offers
from other industry players, including Cleveland-Cliffs Inc
 CLF.N  and Esmark Inc. Reuters reported on Wednesday that
ArcelorMittal SA  MT.LU  was also studying a potential bid.
    Prior to disclosing the takeover interest on Aug. 13, U.S.
Steel's shares were undervalued compared to many of its major
peers. The company's market value, including net debt, was
equivalent to 3.6 times its projected 12-month earnings before
interest, taxes, depreciation and amortization (EBITDA),
compared to 5 times for Cleveland Cliffs. 
    Two other U.S. rivals, Nucor Corp  NUE.N  and Steel Dynamics
Inc  STLD.O , trade at 6.9 times and 5.8 times, respectively,
according to Refinitiv data.
    This discount, combined with a desire to grow market share
and realize cost synergies, pushed Cleveland-Cliffs to approach
U.S. Steel with an offer last month, and Esmark to follow suit,
the sources said. These two companies' offers both value U.S.
steel at 6.2 times its 2024 EBITDA, according to RBC Capital
Markets analysts.  
    Some of the valuation discount is likely temporary and
partly the result of U.S. Steel's current capital expenditure,
the sources and analysts who cover the company said. 
    U.S. Steel has said it will spend about $2.5 billion in 2023
- about as much it posted in net earnings in 2022 - on its
equipment, including replacing some of its old blast furnaces to
electric arc furnaces (EAFs). 
    Unlike blast furnaces, EAFs do not have to be operated at
constant rates, allowing them to adjust to fluctuations in steel
demand. EAFs also release much less carbon dioxide than blast
furnaces, reducing climate-warming emissions.
    While the investment in equipment is expected to pay off
long term, it has limited how much capital U.S. Steel can return
to shareholders in the near term, which has been another company
priority. The company has completed $1.2 billion in share
buybacks in the last two years.
    Also weighing on U.S. Steel are concerns about potential
strikes in the auto sector, a major client. U.S. President Joe
Biden called for union auto workers and Detroit's Big Three
automakers this week to avert strikes with a new agreement,
before their contracts expire next month.
    The automotive and transportation sector represented almost
a quarter of steel shipments out of U.S. Steel's North American
facilities in 2022, according to the company's annual report.
Cleveland-Cliffs has a similar exposure. 
    "U.S. auto industry strikes would impact Cliffs and U.S.
Steel, as blast furnace operators, more than EAF players, hence
this may have been just the opportunity for Cliffs to lob a bid
for U.S. Steel," Jefferies analysts wrote in an Aug. 14 note.
    
    MANUFACTURING RENAISSANCE
    There is, however, upside in U.S. Steel that
Cleveland-Cliffs and other suitors have spotted, according to
the sources.
    The company provides steel for renewable energy
infrastructure, such as wind turbines, and so stands to benefit
from the Inflation Reduction Act (IRA), which provides tax
credits and other incentives for such projects, and also comes
with 'buy American' provisions. U.S. Steel CEO David Burritt has
praised the IRA as a major boon, calling it the "Manufacturing
Renaissance Act".
    The company also expects its investment in the production of
electrical steel, used in applications such as electric vehicle
motors and power transformers, to pay off. It forecasts a 7%
compound annual growth rate just in non-grain oriented
electrical steel and in motor laminate, compared with 1% for the
broader steel sheet market.
    The U.S. steel industry has already benefited from import
tariffs imposed in 2018 under former President Donald Trump.
Supply chain disruptions and rising inflation, however, have
since weighed on both U.S. Steel and its peers.

 (Reporting by Anirban Sen and David Carnevali in New York;
Editing by Greg Roumeliotis and Sonali Paul)
 ((Anirban.Sen@thomsonreuters.com; Twitter: @asenjourno; Reuters
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