Scrap in, profits out

Features - Earnings Analysis

The lower carbon footprint of scrap-fed metals production is leading to balance sheets with considerable appeal to investors.

May 4, 2022

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Successive waves of soaring valuations for technology-focused stocks at times have left basic materials producers looking like part of a sector with a proud past but a lackluster future.

Those earlier stretches of neglect seem to have receded in the 2020s, as the profitability of electric arc furnace (EAF) steelmakers and other metals companies has begun to register on Wall Street and in the minds of fund managers and traders.

Sustainability and decarbonization policies adopted by governments and publicly traded companies have provided an additional boost to operators of scrap-fed EAF mills and other metal producers that melt scrap.

Early adopters, recent benefits

The United States has been a rapid adopter of scrap-fed EAF production thanks in part to aggressive growth in the past 35 years by Nucor Corp., a steelmaker based in Charlotte, North Carolina.

Nucor has been far from alone in investing in the EAF method in the U.S., but the actions of former CEOs Ken Iverson, John Correnti, Dan DiMicco and John Ferriola and current CEO Leon Topalian have helped make EAF production the dominant process in the U.S. (The World Steel Association, Brussels, estimates U.S. EAF market share at 71 percent as of 2020.)

The use of EAF technology has doubtless been part of Nucor’s admirable balance sheet performance, which reached new heights of profitability in 2021.

In 2021, the company reported consolidated net earnings of $6.83 billion, or $23.16 per diluted share. That compared with consolidated net earnings of $721.5 million in a pandemic-affected 2020, but the company netted what had been a record $2.36 billion in 2018 and $1.27 billion in 2019.

“By so many measures, 2021 was an extraordinary year for Nucor,” Topalian said when the company announced its year-end results. “Our record financial performance is the result of years of work investing to strategically position and grow our portfolio of capabilities across the steel value chain.”

The company’s EAF mills are the heart of its corporate operations, with more than $9.7 billion in 2021 earnings. That dwarfs the nearly $1.3 billion earned by its Building Products business unit or the $550 million earned by its Raw Materials division. (Nucor claimed about $2.3 billion in losses attributed to “corporate/eliminations” charges.)

Nucor may be the largest EAF operator, but the company shares the crowded field with, among others, Texas-based Commercial Metals Co. and Indiana-based Steel Dynamics Inc. (SDI).

SDI, which netted its own record of $3.2 billion in 2021, gained the attention of one investment analyst last year who crunched the numbers on what long-term ownership of SDI would mean for a long-term investor in the company.

Last August, Chicago-based Zacks Equity Research calculated that someone who purchased $1,000 in SDI stock in August 2011 would have earned a return of nearly 489 percent. “A $1,000 investment made in August 2011 would be worth $5,887.76, or a 488.78 percent gain, as of Aug. 19, 2021, according to our calculations,” the research firm writes, saying the return excludes dividends but includes price increases.

Zacks adds, “In comparison, the S&P 500 gained 285.77 percent, and the price of gold went down by 7.14 percent over the same time frame.”

The SDI earnings issued five months later should do nothing to change that. The company’s $3.2 billion in 2021 net earnings were achieved with sales of $18.4 billion, offering an impressive 17.3 percent profit margin.

Producers of aluminum and copper that melt scrap also appear to be benefiting from the production technique, with recycling’s environmental credentials receiving some credit.

Secondary in name only

The healthy state of aluminum scrap melt shops in the U.S. was recently spelled out by the Aluminum Association.

The association’s “2022 Economic Impact of the Aluminum Industry” report, released in late March, found that between 2020 and 2022 jobs in secondary aluminum production (recycling) grew by 7.3 percent, while jobs in primary aluminum production decreased by 9.6 percent.

The study, undertaken by Florida-based economic research firm John Dunham & Associates, also showed the primary and secondary prospects diverged at the same time the Aluminum Association estimated aluminum demand in North America increased 7.7 percent year over year in 2021.

The Aluminum Association, based in Arlington, Virginia, puts the industry’s decarbonization efforts front and center on its website, proclaiming in part that a recent “life cycle assessment report found that since 1991, the carbon footprint of primary aluminum production declined by 49 percent, while the footprint of recycled aluminum production dropped by 60 percent.”

Any improvements in recycling’s decarbonization performance only widen the chasm in the technique’s energy-efficient credentials. “Making recycled aluminum is 94 percent less carbon-intensive than making primary aluminum,” the association says. “Increasing the aluminum recycling rate by 1 percent can reduce the overall product carbon footprint by 80 kilograms (176 pounds) of CO2 equivalent per metric ton of aluminum produced.”

Many secondary aluminum producers are privately held, with unknown profit margins. Atlanta-based Novelis, however, describes itself as the largest recycler of aluminum in the world. In the quarter ending Dec. 31, 2021 (a third quarter for Novelis in its fiscal year), the company earned net income of $262 million—a 49 percent increase from the year before—despite overall flat sales of its products.

“We will continue to [keep] our eyes on our strategic growth path and meeting growing demand for high-recycled-content, sustainable aluminum products,” the company’s president and CEO Steve Fisher said when announcing the results.

In the red metals recycling sector, Germany-based Aurubis reported what it calls record-high earnings before taxes (EBT) in its 2020-21 fiscal year, which ended Sept. 30, 2021. The firm, which predominantly produces copper but also other nonferrous metals, says it “was the most financially successful” year in its history.

The 353 million euros ($398 million) of EBT Aurubis earned exceeded the 221 million euros ($249 million) of EBT from the prior fiscal year by about 60 percent, the company says. “Positive factors included high plant availability across the group, the swift and successful integration of the new recycling [former Metallo] sites in Belgium and Spain into the group and the consistent ongoing implementation of our cost-reduction program,” CEO Roland Harings said in accompanying remarks.

As is Fisher at Novelis, Harings is not shy about pointing to recycling as a key strategy for the firm, which has a copper recycling plant in Buffalo, New York, and is building another in Augusta, Georgia. “We want to responsibly transform raw materials into metals for an innovative and sustainable world,” he said. “During the past fiscal year, Aurubis processed more than 1 million tons of recycling material for the first time—this impressively shows what Aurubis is capable of achieving today in this area alone.”

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Green plus green

The EAF steel sector, which for many years seemed to compete largely on price and efficiency, is increasingly touting its green credentials loud enough to be heard in corporate boardrooms and policy-making corridors.

At the virtual ISRI2021 event hosted by the Washington- based Institute of Scrap Recycling Industries (ISRI), Benjamin Pickett, Nucor general manager of public affairs, gave a presentation pointing out how the U.S. steel sector was a benchmark setter in decarbonization.

Pickett said of Nucor and America’s metal recycling companies, “We were all recycling before it was cool to be green.”

In an era of decarbonization and global emissions reduction targets, Pickett said the scrap-fed EAF production method is “the cleanest way to make steel, and America is the cleanest place on Earth to make steel—period.”

The company’s EAF sector competitor, SDI, has as its slogan “Sustainable. Intentional. Transformational.” SDI says on its website, “We operate using a circular manufacturing model, producing lower-carbon-emission, quality steel using EAF technology with recycled ferrous scrap as the primary input. Our circular economy is driven by the passion and dedication of our innovative teams at each of our operating platforms: steel, steel fabrication and metals recycling.”

The current and future viability and profitability of melting scrap also has led to strategic moves by the nation’s two remaining blast furnace/basic oxygen furnace (BOF) steelmakers.

U.S. Steel, based in Pittsburgh, now owns a large and growing EAF mill company in Big River Steel of Arkansas. The investment is a prominent part of what U.S. Steel CEO David B. Burritt calls the 120-year-old company’s goal of “getting better, not bigger, by building on our minimill segment’s industry-leading performance to create a business model that will continue to reward stockholders into the future.”

Cleveland-Cliffs, with its roots in Minnesota iron range mining, processing and shipping, now owns Ferrous Processing & Trading Co., a multilocation scrap processing company. When idling an iron mine in Minnesota early this year, its CEO indicated scrap was playing a larger role for the company and future investments in more EAF capacity were possible.

In an early 2021 earnings call with industry analysts, Cleveland-Cliffs CEO Lourenco Goncalves said, “With the use of additional scrap in our BOFs, our iron ore needs are not as high as before, and we no longer need to run our mines throughout [the year].”

In that same call, Goncalves said, “A blast furnace reline is a capital expenditure-heavy undertaking, albeit totally expected in our multiyear projections. In some cases, the capital requirements of a new EAF compared to the avoidance of reinvesting in a blast furnace reline and its associated supply chain could come out close to a wash. If and when that happens, the wash or better, we might consider an EAF as a replacement to a blast furnace reline in the future.”

In America’s corporate board rooms, so far this decade the reasons for melting scrap are accruing nicely to the bottom line.

The author is the senior editor with the Recycling Today Media Group and can be contacted at btaylor@gie.net.