(VALE) Investing in Brazilian Steel: Four Companies Set to Profit From Transportation Infrastructure

December 22nd, 2009

Tony Daltorio, Investment U Research
Monday, December 22, 2009

Even though Vale (NYSE: VALE) decided to cut its iron ore production by about 10% during the global crisis, the iron ore-mining giant has found itself in hot water.

Of course, other companies in Brazil and around the world did exactly the same thing. But they aren’t required to answer to Brazil’s government, which just happens to hold a significant stake in Vale through public sector pension funds and BNDES, the national development bank.

And Vale made the mistake of not consulting with its major shareholder before it took action.

That oversight led the government to not only question the company’s strategy, but also put pressure on it to boost its domestic steelmaking, instead of relying on foreign producers for the commodity like it normally does.

Most investors who saw the headlines merely muttered a few comments about “government interference” before promptly forgetting about the whole issue.

But in doing that, they missed an opportunity that most people can only dream about…

A Strategy That Works… Under Normal Situations

In the past, Vale maintained a clear, diversified strategy of supplying iron ore, nickel and other metals to the world’s steel industry rather than directly compete with them.

That strategy worked too, considering how iron ore production rose from 114 million tons a year to nearly 300 million, and should climb to 450 million by 2014. Outsiders can also measure its growth by its number of employees, which increased from 11,000 back in 1997 to 60,000 today.

And despite government criticism, Vale already was investing in the steel industry, though in a limited manner.

It already has plans to build a steel mill in Para state, along with joint ventures to build four more… all of which begs the question: Why does the government want to put added pressure on the company?

It comes down to a single, simple word though: Infrastructure.

Brazil’s Lack of Strong Infrastructure

More accurately, Brazil lacks any strong infrastructure, quite simply because it never took the time to invest in it.

That shows in the country’s crumbling roads and woefully inadequate rail networks, its overstretched ports in desperate need of modernization, and its electricity generation that begs to be expanded.

With 2014, when Brazil hosts the World Cup, and 2016 when Brazil hosts the Olympics, coming up very quickly, Brazil doesn’t have much time to waste fixing things up.

According to Moody’s, those efforts should generate $80 billion of investment, much of it on transportation infrastructure. And other analysts are estimating even higher.

At $80 billion or higher, those projects will require an equally large amount of steel, as will the country’s major investments into the huge offshore “pre-salt” oil fields by Petrobras and others.

And with all of that on its plate, Brazil is extremely worried that it might become grossly dependant on importing steel and steel products.

The Latin nation has every reason in the world to push its steelmakers to expand than ever before, and investors have every reason to pay very close attention.

Steel Makers

Besides Vale, Brazil has several steel companies that stand to benefit from the government’s push to prepare for the upcoming games.

That list includes:

CSN (NYSE: SID)
Gerdau (NYSE: GGB)
Usiminas (OTC: USNZY)

All three are bound to experience a large influx of orders over the next several years.

Richard Sippli, a steel analyst for Moody’s in Brazil, says that Brazil’s steel producers are currently working at 80% capacity and will need to expand to handle the incoming influx.

And it’s already happening…

Gerdau plans to invest R$6.3 billion worldwide over the next few years – including R$1.75 billion – on a laminating plant in Brazil, a project it suspended during the financial crisis.

And while CSN and Usiminas haven’t yet announced any similar plans, they should soon.

These Brazilian steel companies have found the business version of nirvana – endless bliss that investors are more than welcome to help themselves to.

Good investing,

Tony Daltorio

View original at: Investment U