6 April 2009
Asian Metals & Mining
PRC Steel Update
J Clarke
Research Analyst
(852) 2203 6371
j.clarke@db.com
Julian Zhu
Research Analyst
(852) 2203 6207
julian.zhu@db.com
Still expecting profit margins to trend to zero
We view the flexible excess capacity in China as the key feature of the Asian steel
industry in 2009, outweighing the importance of changes in cost and fluctuations
in demand, and pushing profit margins at all mills toward zero. Following the brief
margin rebound in January, our view has been reconfirmed by the sharp rise in
production volumes in January and February, which was followed by price
correction and a return to negative cash margins.
Deutsche Bank AG/Hong Kong
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may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single
factor in making their investment decision. Independent, third-party research (IR) on certain companies covered by DBSI's research
is available to customers of DBSI in the United States at no cost. Customers can access IR at
http://gm.db.com/IndependentResearch or by calling 1-877-208-6300. DISCLOSURES AND ANALYST CERTIFICATIONS ARE
LOCATED IN APPENDIX 1.
Industry Update
Top picks
Maanshan (0323.HK),HKD3.08 Sell
Angang Steel (0347.HK),HKD8.86 Sell
China Steel (2002.TW),TWD23.40 Hold
Baogang (600019.SS),CNY5.88 Hold
Companies featured
Maanshan (0323.HK),HKD3.08 Sell
2007A 2008E 2009E
P/E (x) 18.2 13.6 79.0
EV/EBITDA (x) 8.8 5.8 7.0
Price/book (x) 1.5 0.9 0.9
Angang Steel (0347.HK),HKD8.86 Sell
2007A 2008E 2009E
P/E (x) 16.7 16.5 20.1
EV/EBITDA (x) 8.5 6.1 8.2
Price/book (x) 2.8 1.1 1.1
China Steel (2002.TW),TWD23.40 Hold
2007A 2008E 2009E
P/E (x) 9.2 11.6 16.8
EV/EBITDA (x) 6.4 4.9 6.6
Price/book (x) 2.3 1.4 1.4
Baogang (600019.SS),CNY5.88 Hold
2007A 2008E 2009E
P/E (x) 18.4 10.0 10.8
EV/EBITDA (x) 8.3 4.9 5.1
Price/book (x) 3.4 1.1 1.1
Global Markets Research Company
Rapid response to price rebound
Annualized production in February rebounded to 527m tonnes, back up to the level
seen in July 2008, and below only the June peak of 571m tonnes. This illustrates
the rapid response by small (and medium sized) mills to a slight rebound in cash
margins. Unfortunately, the magnitude of the supply response has pushed prices
back down to November levels and cash margins are negative again. The mills
themselves tell us they sell primarily through middlemen and traders making them
slow to respond to changes in the demand environment. Therefore, we expect
this cycle to repeat itself over the course of 2009.

Valuation and risk
We value steel companies using a residual income model (TP = BV * (ROE -
g)/(COE - g)), applying DB's COE estimates. Regional we are most negative on
China, where physical and equity market enthusiasm has run ahead of
fundamentals; we are more positive on India due to lower valuations, import
restrictions and falling metallurgical coal prices. We are SELLers of Angang
(347.HK; HK$8.86, SELL), and Magang (323.HK; HK$3.08; SELL), HOLDers of
Baogang (600019.SS, Rmb5.88; HOLD), China Steel (2002.TW, NT$23.4, HOLD),
and Tata Steel (TISC.BO; INR224.85, HOLD), and BUYers of SAIL (SAIL.BO,
INR107.1; BUY). Risks to our view include a sustained rebound in demand in China
which would drive pricing in East Asia above our expectations.

Comments from the mills:
Most orders coming through traders - end demand not visible
Following a round of discussions with large steel producers, it has become apparent the
demand visibility is quite poor, despite the recent lift in order books, which leaves the mills
themselves with a relatively opaque picture of demand outlook and slows to respond to the
changing supply/demand environment.
While mills are reluctant to discuss the breakdown of their order books and volume of direct
sales, Baosteel has the highest percentage of sales direct to end users at approximately
50%. The percentage of direct sales tends to fall quite rapidly at all but the top mills. Wuhan
Iron and Steel (600005.SS, Rmb8.63, not rated) and Tangshan Iron & Steel (000709.SZ,
Rmb5.68, not rated) confirmed that the majority of their orders are received through traders
and small or medium sized steel mills who reprocess and onsell their products. A relatively
small percentage of sales are direct to consumers in downstream industries, including
automobiles, white goods, and infrastructure.
Magang has also confirmed that a substantial (but unspecified) percentage goes to other
mills for processing. Nanjing Iron & Steel (600282.SS, Rmb4.04, not rated) is directly involved
in several large scale infrastructure developments, including the high speed rail projects, but
uses middlemen and traders as the primary sales channel.
Impact of stimulus varies across the different mills
When discussing the impact of the stimulus package on the sector and the outlook for 2Q09,
only the mills with a very specific and narrow infrastructure focus report seeing a change in
outlook.
Wuhan has seen direct impact from the stimulus as more investment is directed toward the
power sector; Wuhan produced both grain-oriented and non-oriented electric sheets, which
are necessary for build-out of electricity transmission and generation. Wuhan and Tangshan
both report that purchases of construction related products picked up in the first two months
(though medium plate demand has not picked up), but given the lack of clarity on the ultimate
destination of those products, neither is confident of demand strength in 2Q09.
Magang reports no particular uptick in demand, and is generally cautious toward next quarter,
as are Baosteel and Nanjing.
Mills shortening inventory days
Mills are increasingly conscious of their inventory exposure, and are attempting to increase
spot iron ore purchases reducing import volumes. Tangshan intends to cut iron ore
inventories from 30 days down to 10 - 20 days; Nanjing is also adjusting spot purchases in
order clear stocks. Baosteel and Magang have both reduced raw materials inventories below
4Q08 levels.

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