Buy the stocks of Reliance Steel & Aluminum Co. (NYSE: RS)

Summary:

Estimates for Reliance Steel have been goning up ahead of its second-quarter 2016 earnings release. The company has positive record of earnings surprises in recent quarters. Reliance Stee is well placed to leverage the strong momentum across a number of end markets, including aerospace. It should also gain from its broad and diversified product base, wide geographic footprint and aggressive acquisition strategy.

Reasons To Buy:

• Reliance Steel’s core business strategy is to enhance its operating results by way of strategic acquisitions and expansion of its existing operations. The company is focused on diversifying its products, customers and geographic coverage which helps it to counter the adverse effects macro and microeconomic events. The acquisitions of McKey and National Specialty Alloysvenabled the company to improve its product offerings along with expansion into newer markets. Moreover, the company, in April 2012, wrapped up the acquisition of all the assets of the Worthington Steel Vonore plant from Worthington Industries Inc. (WOR). The acquisition, which complements Reliance Steel's existing portfolio, expands its presence in the Southeastern regions of the U.S. The acquisition of the assets of Airport Metals marked Reliance Steel’s first foray of into the Australian market. The company further expanded its global network with the addition of these assets. Moreover, the acquisition of Sunbelt has allowed Reliance Steel to serve customers across a number of oil and gas well drilling categories including vertical, horizontal, directional and deepwater drilling applications. The company hopes to leverage Sunbelt’s growing presence in specialty markets. Moreover, the acquisition of Metals USA is a strategic fit with Reliance Steel’s portfolio and complements its existing customer base, product mix and geographic footprint. With the acquisition, Reliance Steel added about 48 service centers, which are strategically located throughout the U.S. The company expects synergies of $15 million to $20 million a year. The acquisition of primarily carbon steel and aluminum products processor Haskins Steel will also allow Reliance Steel to penetrate into locations where it did not have a presence earlier. Moreover, the acquisition of Aluminium Services UK Limited will enable the company to expand its presence in the aerospace market. The buyout of Fox Metals and Alloys is also expected to strengthen Reliance Steel’s foothold in the oil and gas space which has been an attractive and growing market for the company. The buyout of Tubular Steel also boosts the company’s long-term growth strategy and strength by expanding its product portfolio and end market diversification.  
• Reliance Steel is seeing strength across aerospace, automotive and heavy equipment markets. Aerospace remains a strong market as manifested by healthy demand and pricing. Demand in this market is expected to be supported by higher commercial aerospace build rates. Aerospace accounted for around 10% of the company’s sales in 2015. Strong demand is also witnessed in the automotive market, backed by the company’s toll processing businesses in the U.S. and Mexico as well as increased use of aluminum in the industry. Reliance Steel expects sustained momentum across these markets in 2016. 
• Reliance Steel remains committed to offer incremental returns to its shareholders. The company, in February 2015, raised quarterly dividend by 2.8% to $0.40 per share. It paid dividend worth $120.1 million in 2015. Moreover, it bought back 6.2 million shares for $355.5 million in 2015. The company, in Oct 2015, adjusted its current share repurchase program and increased the number of shares to be repurchased under the authorization by 7.5 million along with extending the repurchase program through Dec 2018. The company has sufficient liquidity and cash flows to support dividend payouts and share buybacks moving ahead.  

Risks: 

• Reliance Steel’s non-residential construction market is its largest end market. However, it continues to be its weakest. While there has been a modest recovery of late, demand levels remains significantly below the peak level achieved in 2006. Some customers in the construction industry are in seasonal business. As a result, revenues in some months are lower due to reduced number of working days for shipments of products, resulting from vacation and holiday closures at some of its customers. In addition, the company’s business in the energy markets is expected to remain under pressure in the near term due to weak oil pricing. The company’s energy-related volumes tumbled 41% year over year in 2015. 
•  Reliance Steel’s operating results depend primarily on prices for and availability of metals. While the pricing environment has somewhat improved of late, weak metals pricing continues to weigh on the company's sales as witnessed in the most recent quarter. Prices for carbon steel products and nickel are expected remain soft in the near term. A significant decrease in carbon steel product prices from current levels may have an adverse impact on the company’s gross profit margins and profitability. 
• Reliance Steel remains challenged by the weak steel industry fundamentals. The U.S. steel industry has been hit by high levels of imports of cheaper steel products. Consumers in the U.S. are importing cheaper steel from China, forcing domestic steel producers to sell at lower prices, and sometimes even at a loss. The steel industry also remains affected by overcapacity which continues to outpace demand. There is not enough demand for steel products due to weakness in construction end markets, resulting in excess supply. Contributing towards this inventory glut are production ramp ups by domestic steel producers and rapid growth in Chinese production.