We recently upgraded our recommendation on Gerdau S.A. (GGB) from Underperform to a Neutral rating.
Gerdau is one of the leading steel producing companies in the world, operating primarily in South America, North America, Europe and Asia. It produces steel mostly through its mini-mills and distributes steel products through its own network of commercial branches in Brazil.
With the gradual revival of global economy, capital spending in manufacturing and construction industry is on the rise, thereby boosting the outlook for the steel industry. According to the World Steel Association, global consumption of steel is likely to increase by 6% in both 2011 and 2012 to 1.36 and 1.44 billion tonnes, respectively. Steel demand in China, the United States and India continues to be at high levels.
In order to cope with the rising demand, Gerdau plans to invest roughly R$10.8 billion between 2011 and 2015. Brazilian steel industry will also get a boost as the country hosts the 2014 World Cup and 2016 Olympic Games.
Moreover, Gerdau has been trying to improve its competitiveness by investing in mineral resources. The company acquired some mineral assets in the last five years, and more acquisitions are expected in the future. By the end of 2012, it is likely that the company will be able to internally satisfy its iron ore needs with an annual iron ore production capacity of 6.6 million metric tons.
The positive momentum is bound to get restricted owing to the headwinds expected from foreign currency fluctuation, cyclicality of the industry and stiff competition. Moreover, higher raw material costs remain a cause of concern. First quarter 2011 financial results were largely impacted by a 26% increase in cost of sales.
Thus, in anticipation of improvements on the back of healthy demand growth in the quarters ahead, we have upgraded the stock from Underperform to a Neutral recommendation.
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