CMC - Commercial Metals Company: Rock Solid

2023-06-26 09:01:44 ET

Summary

• Commercial Metals Company has seen peak profitability in 2022 only retreat in a modest fashion.
• I like the approach of the business, making continued investments (organic and inorganic) over time.
• With earnings power still being impressive and the outlook still looking sound, I am appealed to the non-demanding valuations here.

In September of last year, I concluded that I was very impressed with shares of Commercial Metals Company ( CMC ) as the company has seen a few very strong quarters despite lingering economic uncertainties.

While earnings power around $10 per share was not sustainable, at least in my view, I wondered how fast and big an earnings pullback would become. As it appeared, the earnings pullback was very modest, prompting a continued and well-deserved re-rating of the stock.

A Business Made Out Of Steel

Commercial Metals Company is a steel manufacturer and fabricator of steel reinforcing bars, used to make concrete solutions. Products include merchant bars, fencing, wire rods, used in major infrastructure projects such as highways, bridges, skyscrapers, and other applications.

The business runs a vertically integrated business model covering tens of sites in the US and Poland with supply mills and downstream locations. In terms of end markets, a third of sales are generated from the infrastructure segment, complemented by exposure to nonresidential sectors, residential sectors, OEM, and agricultural activities.

Typically: That is, in recent years, the company generated about $5 billion in sales with EBITDA margins posted in the low double digits. In terms of geographical coverage, about 85% of sales were generated in the US, with the European operations not just being smaller, but posting lower margins as well.

Late in 2020 the company posted its annual results for the prevailing year and while revenues were down from $5.8 billion to $5.5 billion, EBITDA improved from $423 million to $577 million, with net earnings of $279 million improving to $2.32 per share. With shares trading at $22 at the time, valuations were non-demanding, with leverage reported around EBITDA.

Fiscal year 2021 sales rose to $6.7 billion, with EBITDA moving up to $754 million and earnings improving to $3.43 per share. Shares rose to the $35 mark subsequently, as the company continued to trade at around 10 times earnings. The greater operating momentum triggered CMC to reach a $550 million deal to acquire Tensar Corporation, in order to expand engineering construction ground reinforcement capabilities.

Since that point in time, shares have traded in a $35-$45 range into 2022 as the company had seen a strong performance into the start of the fiscal year 2022. Revenues for the first two quarters came in around $2 billion each, with adjusted earnings topping $1.50 per share in both quarters, pushing up the earnings trend to about $6 per share.

The deal with Tensar closed in April as the third quarter numbers revealed that revenues rose to more than $2.5 billion, with earnings reported at $2.61 per share based on a $465 million EBITDA number. With net debt at just $1.1 billion (post the Tensar closure), leverage was no concern as EBITDA improved to a run rate of $1.9 billion and earnings power trended around $10 per share.

That earnings power surprised me as the prevailing share price of around $40 per share in September made me upbeat to the shares at 4 times earnings, even as it clearly was not sustainable, although I feared the cyclical component and a reversal in its end markets.

On Fire

Since September, shares of Commercial Metals Company have continued to do fine. While they fell to the mid-thirties later in September last year, they rose to a high in the mid-fifties in February of this year and after selling off to the lower forties in recent weeks, they have recovered to $51 at the moment of writing after a very solid third quarter earnings report.

In the meantime, it has been very eventful on the corporate front. In September of last year, CMC announced the acquisition of Advanced Steel Recovery, a company which processes and brokers 300,000 tons of scrap.

Fourth quarter results, as released in October, saw revenues fall back to $2.40 billion on a sequential basis, with adjusted EBITDA falling back to $402 million. Net earnings of $288 million still worked down to a $2.40 per share number.

This earnings report was followed by another acquisition as the company acquired a Galveston area metals recycling facility with 55,000 tons of processed ferrous and non-ferrous metals.

In January, the company saw sales fall back to $2.22 billion for the first quarter of this year, despite bolt-on dealmaking, with EBITDA retreating to $402 million. Earnings fell to $261 million, or $2.20 per share, all while net debt has come down to just three-quarters of a billion here.

In March, another bolt-on deal was announced as CMC acquired Tendon Systems in a bolt-on deal set to add some $60 million in annual revenues. Later that month, second quarter results revealed continued pressure on the results, as expected. Revenues fell back to $2.02 billion, thereby no longer growing on an annual basis with adjusted EBITDA down to $297 million and net earnings down to $180 million, as net debt was quite stable.

The third quarter results, as released late in June, were spectacularly strong and showed a big sequential improvement, with sales improving to $2.35 billion, even as they were down on an annual basis. Adjusted EBITDA ticked up to $375 million, for a $1.5 billion run rate, as earnings of $240 million worked down to $2 per share (that is for the quarter).

Net debt fell below $700 million despite the continuation of steep investments into the business. Through the first three quarters of the year the company spend a combined $600 million in capital spending and dealmaking, with that number being roughly four times the depreciation charge over the associated period.

Moreover, the company sees this momentum continuing in the fourth quarter, and it has started the commissioning of the Arizona II project, set to make a positive contribution as well.

And Now?

Compared to September of last year, we have seen a $40 stock with $10 in earnings per share power rise to $51, as earnings power has valuations. I am pleased to see continued bolt-on acquisitions as the only fallen to $8 per share, still translating into non-demanding balance sheet has deleveraged a great deal already.

Given this backdrop, I continue to be upbeat on the shares here, looking and hoping for a small drop after they rose about $3 in response to the earnings report. It seems that the company is able to stretch some kind of secular growth into a traditional cyclical business, as the company has made a lot of investments to benefit from these better operating conditions.

For further details see: