Is There Too Much Optimism Surrounding AK Steel?

With shares of AK Steel Holding Corporation (NYSE:AKS) trading at around $4.90, is AKS an OUTPERFORM, WAIT AND SEE or STAY AWAY? Let’s analyze the stock with the relevant sections of our CHEAT SHEET investing framework:

C = Catalyst for the Stock’s Movement

DebtMany people are suddenly turning bullish on AK Steel. There are many reasons for this, which include the fiscal cliff deal, the expectation of rising U.S. auto sales, an expected increase in GDP, and the anticipation of a continued real estate turnaround. The key words here are “expectation” and “anticipation.” These two words have led to many investor woes over the years. While it’s possible that everything goes according to plan, what if it doesn’t? If U.S. auto sales disappoint, GDP decreases, and the real estate turnaround comes to a halt, how is AK Steel going to meet expectations in 2013?

Investors love to get excited about a turnaround story because they want to say they spotted it and got in early. And, of course, because they want to make a ton of money. However, more times than not, the turnaround fails. In addition to the potential threats already provided, what if the European Debt Crisis rears its ugly head once again? What if the debt ceiling debates have the same effect on the markets that they did in the summer of 2011? What if China fails to rebound? You might say that these factors would impact any company/stock, but the difference is that AK Steel suddenly has high expectations.

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On the bright side, several billionaires have taken positions in the company. These individuals are billionaires for a reason, which is superb decision making. On the other hand, they’re not always correct, and it’s not often a great idea to invest big when the market is near five-year highs. We all know how that usually plays out.  

Let’s take a look at some important numbers for AK Steel so we can get a better read on the situation.

E = Equity to Debt Ratio Is Weak

The debt-to-equity ratio for AK Steel isn’t just weak; it’s terrible. Amazingly, analysts are stating that debt and equity issues are priced in. That’s nice, but do those comments magically erase real debt issues? No. Investing in companies with debt-to-equity ratios of this magnitude is often a path to portfolio destruction.

Debt-To-Equity

Cash

Long-Term Debt

AKS

2.60

$47.10 Million

$1.35 Billion

MT

0.45

$2.99 Billion

$26.62 Billion

STLD

0.94

$287.12 Million

$2.20 Billion

 

T = Technicals on the Stock Chart Are Weak

AK Steel has been outperformed by ArcelorMittal (NYSE:MT) and Steel Dynamics Inc. (NASDAQ:STLD) over the past three years. All three have performed poorly, but AK Steel has been the weakest.

1 Month

Year-To-Date

1 Year

3 Year

AKS

19.85%

6.30%

-43.39%

-78.32%

MT

12.56%

1.03%

-1.00%

-60.76%

STLD

18.14%

9.32%

7.11%

-16.10%

 

At $4.90, AK Steel is currently trading above its 50-day SMA, and below its 100-day and 200-day SMA.

50-Day SMA

4.50

100-Day SMA

4.94

200-Day SMA

5.63

 

E = Earnings Have Been Poor

Earnings have been heading in the wrong direction over the past five years, but revenue has rebounded, which is a positive.

2007

2008

2009

2010

2011

Revenue ($)in billions

7.00

7.64

4.08

5.97

6.47

Diluted EPS ($)

3.46

0.04

-0.68

-1.17

-1.41

 

When we look at last quarter on a YoY basis, we see a decrease in revenue and earnings.

9/2011

12/2012

3/2012

6/2012

9/2012

Revenue ($)in billions

1.59

1.51

1.51

1.54

1.46

Diluted EPS ($)

-0.03

-1.76

-0.11

-6.55

-0.55

 

T = Trends Do Not Support the Industry

This industry depends on the global economy. When the global economy isn’t humming, neither is AK Steel or its peers. The biggest and most overlooked threat is that if the economy fails again, there will be no floor put in to protect the stock market from falling into the abyss. Ben Bernake’s policies are beginning to catch a lot of heat for their long-term impacts on the economy, and QE programs are becoming less effective. Therefore, if the market fails for whatever reason – and there are many possibilities – the steel industry will get hit hard once again. Of course, it’s possible that the global economy recovers, but even if that’s the case, the upside potential is limited. It’s nearly impossible to sustain growth while deleveraging.

Conclusion

AK Steel is currently suffering from low steel prices, weak demand, and poor debt management. Margins are terrible, operating cash flow is in negative territory, and the Forward P/E is 32.67. Don’t get the wrong idea. AK Steel isn’t going anywhere. This is a company that will eventually turn things around, but it’s too early.

AK Steel is a STAY AWAY.

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