RD's Picks

Rather than chime in on the QOTW this week, I thought I'd pull a thread highlighted in Uncle John's Cabin. John reminded us to look at the companies that are suppliers to the big name trend stocks, his pick was a supplier to the mining industry, Bucyrus.

Bucyrus and Joy Global are busy building heavy mining equipment. China is reported to be building a power plant every week. Single hull oil tankers are being phased out and shipyard order books for double hull ships are full. Order books for new offshore drill rigs are full several years out. Deere is building tractors. Rail car manufacturers are building tank cars to transport ethanol. Tata Motors recently announced a new, inexpensive car for the world's new middle class.

Pulling the thread for many of the current strong areas of the economy leads to a common material - steel. And the world's biggest steel company is ArcelorMittal (MT). With a market cap of over $100 billion, MT may be the biggest company you won't hear about around the coffee pot at work. MT looks cheap based on most valuation metrics. Forward PE is 9.24, margins seem good - operating margin of 14.5%, profit margin of 9.85%. But, analysts' earnings growth rate estimate over the next 5-years is only 4.1%. MT plans to return 30% of earnings to shareholders in the form of dividends and stock buybacks. The planned dividend for 2008 is US $1.50 paid in four quarterly installments of .375. The remainder of the earnings returned to shareholders will be in the form of stock buybacks. Luxembourg withholds a 15% dividend tax on the payout; I'm not sure how that gets treated in a taxable US account, but believe there's no way to recoup it if you hold the shares in an IRA account.

There's a lot to like about ArcelorMittal, but the shares look slightly over valued based on the low earnings growth estimates. In order to consider buying this stock, there would need to be a good case for why the analysts' growth predictions were too low. About the only argument I could come up with for that would be that earnings from around the world will look much better when translated into falling dollars. It's probably worth investigating the steel sector further for better buys. A quick glance at Yahoo's stats page shows US Steel (X) trading at a slightly higher forward PE of 10.17 and a significantly higher 5-year earnings growth estimate of 9.67%.

I don't think MT will be a big money loser for its investors, but to buy you would need to come up with a convincing argument for why earnings growth will be better than the estimates. Demand growth from China, India and other developing markets could provide that story, but it's fair to assume analysts have that in their models. In this case, it looks like I tried to follow the supplier thread a little too far.

Feel free to add your opinion of MT. Is the infrastructure build-out supporting steel demand still going strong or is it topping out?

Disclosure: At time of posting, I don't have a position in any stock mentioned in this blog entry.

Comments: View Comments |  Sunday March 9, 2008