At an analyst meeting yesterday, management of Sahaviriya Steel Industries (SSI) reviewed the company’s performance in 2002 and provided an outlook for 2003. From management’s forecasts of 2003 sales volume, average HRC selling prices and slab prices, we estimate SSI will post a 2003 net profit of Bt989mn (EPS of Bt1.16), a sharp decline from 2002 earnings of Bt3,434mn (EPS of Bt4.03). The major factor is an increase in slab prices from $183/MT to an estimated $240/MT. As HRC prices are projected to increase at a slower rate from $280/MT to $316/MT, SSI’s spread will narrow from $98/MT in 2002 to $76/MT this year.

Management expects sales volume this year will jump 24% to 2.4 million MT, meaning the company will operate at full capacity. This is due to strong demand from the auto and construction industries as well as higher exports, particularly to China.

However, we view the spread between the domestic selling price of HRC and slab prices as the key factor affecting SSI’s earnings. Slab prices are currently fluctuating around $265-270/MT while HRC selling prices have been capped by the government at $320/MT or Bt13,800/MT. Accordingly, investors should not expect a repeat of the spectacular earnings seen last year. Shares of SSI are currently trading on a 2003 PER of 7.72x and EV/EBITDA of 10x. As they are trading close to our fair value of Bt10, we are downgrading our recommendation on the stock from SPECULATIVE BUY to HOLD.

SSI's income statement (Bt mn)

Note: COGs does not include Depreciation and Amortization

Note : 2003 forecasted by SSI’s management.

• Management expects a 24% jump in 2003 sales to 2.4 million MT including export sales of 0.2 million MT. Domestic sales growth will primarily be driven by the recovery in the auto and construction industries, with export demand fuelled by China’s robust economic growth.

• The company forecast domestic selling prices for HRC to average $316/MT this year, just below the government ceiling of $320/MT or Bt13,800/MT. However, slab prices are currently fluctuating in a range of $265-270/MT versus the 2002 average of $183/MT and management’s own forecast of $240/MT. Accordingly, we expect SSI’s metal spread to fall to $76/MT in 2003 compared with $95/MT last year.

• The surge in crude oil prices in recent months is likely to have only a slight impact on SSI’s cost structure as oil accounts for just 20% of the conversion cost (compared with 17% for electricity). The conversion cost last year averaged $34/MT, far below the slab price $183/MT. The company also ruled out any negative impact from the government’s decision to restrict trucks to a maximum weight limit of 26 tons, pointing out that clients arrange their own deliveries.

• Management said it was studying a plan to increase annual production capacity above 2.4 million MT but no decision had yet been made.