AK Steel Drives for More Pricing Power

AK Steel (AKS) reported earnings January 25. The news was good enough to send the stock up 7.7% and back above its 200-day moving average (DMA). Since then, AKS has essentially recovered all the damage done by a Goldman Sachs downgrade to sell in early January.

*Chart created using TeleChart:

AKS delivered a mix of good and disappointing news, but the most striking news to me was the company’s clear drive for pricing power (quotes from Seeking Alpha transcripts):

“Over the past couple of months, we’ve experienced an increased order intake rate for carbon steel products. Due to this higher level of demand and the need to recover much higher steel making input costs, [we’ve] been raising our prices. Today, we’ve been [successful] in negotiating higher base prices with most of our contract customers.

We’ve also been [successful] in expanding the coverage of raw material variable pricing mechanisms to help recover a portion of our substantially increased raw material costs…

…we are not doing any deals with any customers, any contract customers, certainly that do not include some sort of variable pricing mechanism. That is an essential for us going forward…

…we will not do a deal without capturing a variable pricing agreement there. So it gives the opportunity once again to more closely match our cost and revenues.”

This expected pricing power is contributing to expectations for higher selling prices and stronger operational performance despite ever higher input costs:

“…we expect our average selling price to increase by approximately 8% quarter-over-quarter or $80 per ton due to higher contract of spot market prices and an improved product mix. We expect higher cost for raw materials including scrap, iron ore and coal of roughly $65 million, or $45 per ton compared to the fourth quarter. Overall we expect to breakeven at the operating level for the first quarter representing a substantial improvement of about $60 per ton quarter-over-quarter.”

Strong demand is one of the most important requirements for sustaining pricing power. It appears that demand will continue to firm up for AKS’s steel products and support stronger pricing power (electrical steel is an exception where global supply exceeds demand):

“We expect commodity stainless steel volumes to improve in Q1 of 2011 as customers begin to restock…

…We’re booking carbon business out into late March and we are open for April which was really the basis of our most recent $50 ton price increase and we’re booking tons there and stainless we’re out to mid to late March and electrical we’re out about six weeks as well.”

AKS is still well off its 52-week highs set in early 2010. Assuming that pricing power continues to improve and demand continues its steady improvement, I now expect AKS to return to those highs before year-end. This represents around a 50% gain from current levels.

Be careful out there!

Full disclosure: long AKS