Severstal reports good FY 2008 results

Severstal reports good FY 2008 results; takes decisive action for the current challenging environment

Financial Results for the year ended 31 December, 2008
($ mln unless otherwise stated)

Notes: 1 EBITDA represents profit from operations plus depreciation and amortization adjusted for gain (loss) on disposals of property plant and equipment.

2 Net profit attributable to shareholders

3 Dividends announced on the basis of respective period results, translated at the exchange rate as of the date of recommendation by the Board of Directors

4 2007 numbers have been restated to reflect the consolidation of Severstal Columbus (formerly SeverCorr) and ZAO Trade House Severstal Invest as of 1 January, 2007

OAO Severstal (LSE: SVST; RTS: CHMF), today reports results for year ended 31 December 2008.

2008 Highlights:

·         Revenues up 44.4% year-on-year to $22,393 mln from $15,503 mln

·         EBITDA of $5,366 mln, up 45.5% year-on-year including $423 mln of one-off gains

·         Net profit up 9.9% to $2,034 mln including $821 mln of one-off gains

·         Net non-operating loss of $279 mln from foreign exchange differences

·         EPS up 9.8% to $2.02 from $1.84 year-on-year

·         FY08 dividend up 61.8% to $1.23; payout ratio of 60.9%

·         Net cash flow from operations increased by $1,199 mln from $2,236 mln in 2007 to $3,435 mln in 2008

·         Cash, cash equivalents and short-term bank deposits increased by $1,183 mln from $2,289 mln as at 31 December 2007 to $3,472 mln as at 31 December 2008.

·         Net debt/LTM EBITDA ratio of 0.9x as at December 31, 2008

Q4 2008 Highlights:

·         Q4 revenue of $4,019 mln

·         Q4 EBITDA of $298 mln

·         Q4 Net loss of $1,208 mln due to deteriorating economic conditions and adjustments of $411 mln on inventories to Net Realisable Value (NRV), as well as a $1,540 mln impairment of non-current assets

·         Cash, cash equivalents  and short-term bank deposits increased by $247 mln in Q4 from $ 3,225 mln as of September 30, 2008 to $3,472 mln

·         Q4 free cash flow positive at $639 mln

Responses to the current environment:

·         Decisive management actions to optimise cash positions and preserve liquidity:

o    Production aligned with market conditions

o    2009 capex reduced to $1.0 bln from forecast $3 bln, focused on critical maintenance

o    Headcount reduction programme across the Group

·         Strong cash position and financing structure in place

o    Anticipated operating cash flow, cash on accounts and deposits  and committed facilities exceed our current debt obligations

o    Operating cash flow includes $995 mln net working capital release in Q4

o    Financing cash flow includes PXF draw down of $1,200 mln, $1,231 mln debt repayment and $598 mln cash dividends

o    Unused long–term credit lines of $951 mln as at 31 December 2008

·         No dividend proposed for Q4 2008; no FY 2009 dividend payments anticipated unless conditions improve

Alexey Mordashov, Chief Executive of Severstal, said, “Severstal achieved good results in 2008 as we benefited from volume growth, price increases and margin improvement.

However, the unprecedented slump across all our markets in the last quarter has resulted in weakening demand for steel and subsequent falling prices.

We have taken decisive action in the light of these new challenges, reducing production and cutting our capital expenditure programme for 2008 and 2009. We are looking at our fixed costs across the business and have implemented more efficient working capital management.”

Chief Executive’s Review of the year ended 31 December 2008

Group revenues for 2008 increased to $22,393 mln from $15,503 mln, or 44.4% year-on-year. This was due to strong demand in the first nine months of the year, a favourable price environment and the consolidation of our assets in North America.

EBITDA was up 45.5% year-on-year to a record $5,366 mln. EBITDA margin was 24.0% in 2008 compared to 23.8% a year earlier.

There was an exceptional drop in the demand for steel in Q4 2008. This, combined with valuation adjustments of $411 mln on inventories to NRV and a $1,540 mln of impairment of non-current assets, contributed to a net loss of $1,208 mln in the last quarter.

Response to the current environment

Severstal’s management has taken decisive action to mitigate the impact of the global economic downturn on the company and preserve cash. Production cuts started in October 2008. We continued to align production with market conditions and lowered our capacity utilisation in December 2008 to 50% in Russia, 40% in the US and 60% in Europe. Capacity utilisation rose sharply at the beginning of 2009. We are monitoring our markets closely and are able to adjust production to meet demand.

In February 2009, Severstal announced the temporary cessation of operations of the steel galvanizing line at Severstal Warren. Both the galvanizing line and the mill, which has been offline since October, will remain idle while the company balances production volume to match current demand.

In Q4 2008, Severstal decided to reduce its 2009 capex programme to $1.0 bln, including approximately $600 million of maintenance capex, down from the $3 bln original forecast. Severstal has a strong cash position and committed facilities in place to meet 2009 debt requirements. As at 31 December 2008, Severstal had unused long–term credit lines of $951 mln in total. In 2009, management also expects to release $1.2 bln of cash from working capital as a result of a reduction in inventories, lower sales and purchase prices and better cash management.

Severstal commenced a headcount reduction programme across the group during Q4 2008. The situation is kept under constant review and allows the business to maintain appropriate staffing levels for current production capacity.

Severstal Russian Steel

Russian Steel benefited from favourable prices, a strong domestic market, increased prices and growth in production volumes. This resulted in a 33.3% increase in revenues to $11,246 mln, compared with $8,436 mln in 2007. EBITDA increased by 29.7% to $3,389 mln from $2,613 mln. EBITDA margin was 30.1% in 2008 compared to 31.0% in the previous year, a minor deterioration driven by the events of Q4. In Q4 2008, production of crude steel was down 48.0% quarter-on-quarter, mainly due to lower domestic demand.

Izhora Pipe Mill demonstrated significant year-on-year growth, with EBITDA increasing by 50.3% to $227 mln in 2008 from $151 mln in 2007. EBITDA margin increased from 27.4% in 2007 to 27.5% in 2008. Pipe production was 46.0% higher year-on-year, but in Q4 it fell by 13.0% quarter-on-quarter.

Severstal Resources

Severstal Resources demonstrated a 72.8% rise in EBITDA year-on-year from $497 mln to $859 mln, benefiting from increases in coal and iron ore prices. Revenues were up 32.7% from $1,849 mln in 2007 to $2,453 mln in 2008. EBITDA margin increased to 35.0% in 2008 from 26.9% in 2007. The production of iron products (pellets and concentrate) decreased by 5.0% year-on-year mainly due to a drop in production in Q4. Coal production was down by 21.0% year-on-year, reflecting the sale of Kuzbassugol in Q2 and production cuts in Q4.

We acquired PBS Coals, a Pennsylvania-based coal company, in November for a total cash consideration of $877 mln. In Q4, the production of coking coal concentrate and steaming coal of the newly acquired company helped to support the production levels of coal in this division.

In November 2008, Severstal Resources acquired a controlling stake in High River Gold for a total consideration of $63 mln.

Severstal International

At Severstal International, our North American operations showed $377 mln of EBITDA in 2008 compared with negative $50 mln in 2007. This includes a $156 mln one-off gain relating to the buyout of a long-term electricity supply at Dearborn, a $267 mln one-off gain relating to an award from A.T. Massey Coal Co. in connection with a breach of a contract with Wheeling-Pittsburgh Steel Corporation and a $152 mln portion of insurance settlement proceeds (net of losses) related to an incident at the Blast furnace B in Dearborn.

Q4 2008 earnings were unfavourably impacted by an adjustment of $308 mln on inventories to NRV and a $72 mln provision related to onerous contracts.

The growth in revenues from $1,805 million in 2007 to $5,319 million in 2008 reflects the changing scale of the business after the consolidation of newly acquired steel making capacities in Q3 2008 and the ramp-up of the Severstal Columbus plant. EBITDA margin increased to 7.1% in 2008 from negative 2.8% in 2007. Production of crude steel in 2008 was 128.7% higher than in 2007, but in Q4 it dropped 52.0% from the Q3 level as a result of lower demand in North American market.

We have taken a number of actions at our North American business in response to the challenging environment, focused on conserving cash, limiting capital expenditure to critical maintenance and balancing the supply and demand of raw materials across our facilities. We lowered our capacity utilisation in the US to 40% in December 2008, and in February 2009 announced the temporary cessation of operations of the steel galvanizing line at Severstal Warren until conditions improve. We have adjusted the size of our workforce in line with this reduced level of production.

Severstal Sparrows Point and Wheeling have maximised the utilisation of their tin plate production in response to an increase in demand in 2009. In addition, we negotiated an increase in prices with North American automotive and tin customers for 2009.

In our European operations, Lucchini’s EBITDA in 2008 increased to $430 million, growing by 3.4% compared with the previous year. Revenues were up by 6.2%. In the first nine months of 2008, Lucchini saw an increase in production and prices due to strong demand in the European market. It produced 37% less crude steel in Q4 than in Q3 as a result of worsening economic conditions. The production of rails was up 84.0% quarter-on-quarter.

Financial Summary the year ended 31 December 2008

Severstal’s revenues increased by 44.4% to $22,393 million in 2008 compared with $15,503 million in 2007. Strong price increases in the first nine months and higher volumes were the main drivers of this growth, as well as the consolidation of our new US assets. Cost of sales were $16,486 million in 2008 compared to $10,822 million in 2007, an increase of 52.3%, caused primarily by increases in the prices of raw materials. Cost of sales as a percentage of consolidated revenues increased to 73.6% in 2008 compared to 69.8% in 2007. Profit from operations increased by 50.6% to $4,226 million in 2008. This increase was due to strong prices, higher production volumes and efficient cost control. Operating margin increased to 18.9% in 2008 from 18.1% in 2007. One-offs, mainly in our US operations, favourably impacted margins in 2008.

EBITDA increased by 45.5% to $5,366 million in 2008 from $3,688 million in 2007. In 2008, Severstal reported an increase in consolidated net profit attributable to shareholders of 9.9% to $2,034 million from $1,850 million in 2007. Net profit attributable to shareholders in 2008 includes a negative goodwill gain of $293 million from the acquisition of Sparrows Point, High River Gold Mines Ltd and OAO Stalmag. We also recorded a net one–off gain after tax of $255 million from the disposal of the Kuzbassugol mine, a $101 million net one-off gain after tax from the termination of a long-term electricity supply contract at Dearborn and a $172 million net one-off gain after tax relating to an award from A.T. Massey Coal Co. in connection with a breach of a contract with Wheeling-Pittsburgh Steel Corporation. Net profit was negative at $1,208 million in Q4 due to deteriorating economic conditions and adjustments of $411 million on inventories to NRV, as well as a $1,540 million impairment of non-current assets.

EPS increased to $2.02 in 2008 from $1.84 in 2007.

Net cash from operating activities was $3,435 million in 2008 compared with $2,236 million in 2007. The increase in cash flow attributable to significant increase in revenues, partially offset by the increase in working capital related to the expansion of our operations as well as a significant growth in costs. Net debt, calculated as total indebtedness less cash and cash equivalents, less short-term bank deposits, increased from $1,653 million as at 31 December 2007 to $4,783 million as at 31 December 2008. Total indebtedness increased from $3,942 million as at 31 December 2007 to $8,255 million as at 31 December 2008. Cash, cash equivalents and short-term bank deposits increased from $2,289 million as at 31 December 2007 to $3,472 million as at 31 December 2008. We had $951 million of long-term unused credit lines as at 31 December 2008.

Dividend

The board of Severstal is not recommending the payment of a dividend for Q4 2008. Unless current conditions improve, we do not anticipate the payment of dividends in 2009.

Outlook

The operating environment globally remains challenging and visibility remains limited.  We have however seen some signs of improvement in the beginning of 2009 relative to the last quarter of 2008.

In Russia, our long product lines were operating at full capacity in January and February of 2009 due to improved demand from construction segment. Government-controlled banks have also provided financing to large construction companies to complete existing projects. In addition, the re-stocking and stimulus plans announced by many national governments are likely to support demand for steel in 2009.

Although we remain confident in the long-term prospects for the industry, we believe it would be inappropriate to provide any guidance for 2009 until visibility and global economic conditions improve. For the same reason we are not recommending the payment of a dividend for Q4 2008. Unless current conditions improve, we do not anticipate the payment of dividends in 2009.