(MT) ArcelorMittal Remains Underperform

We are maintaining our Underperform recommendation on ArcelorMittal (MT) following  its second-quarter 2012 results.

The company’s adjusted earnings of 64 cents per share comprehensively beat the Zacks Consensus Estimate of 33 cents. Revenues dropped 10% year over year and lagged the Zacks Consensus Estimate.

Increased domestic imports, production ramp ups by peers and increased Chinese production have led to oversupply in the industry, which in turn caused a drop in steel prices. The effect of price declines was witnessed across all segments and led to a contraction in the top line.

In addition, the sovereign debt crisis in Europe forced the company to close down some facilities in the region. This resulted in a massive decline in average selling prices of steel, sending revenues from the region tumbling 15.5%.

Moreover, the world economy is not in the best of health and Europe might go into a mild recession. China’s economy is slowing and a demand-supply gap prevails in the U.S. Under such circumstances, weakness in end markets might affect the company’s earnings going forward.

Also, ArcelorMittal is saddled with high debt. Although the company is diligently working toward reducing the amount of debt on its books through divestments, a debt of $22 billion against a market capitalization of $24 billion is concerning.

However, the company’s mining business has been encouraging. It enables ArcelorMittal to sell to a growing number of third party customers. In addition, the mining segment ensures security of raw material supply to its steel business and acts as a guard against raw material price movements.

But ArcelorMittal is wary about developments in Europe. If things on the continent take a turn for the worse, we might see a further drop in steel demand from the company’s end markets. This would further constrict the company’s top line and reduce its earnings potential.

ArcelorMittal, which competes with U.S. Steel Corp. (X)and Tata Steel Limited, retains a Zacks #4 Rank, indicating a short-term Sell rating.

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