UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

x

 

Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

 

For the quarterly period ended September 30, 2007

 

 

 

OR

 

 

 

o

 

Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

Commission File Number 0-21719

 

Steel Dynamics, Inc.

(Exact name of registrant as specified in its charter)

 

Indiana

 

35-1929476

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

 

 

 

6714 Pointe Inverness Way, Suite 200, Fort Wayne, IN

 

46804

(Address of principal executive offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code:  (260) 459-3553

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.        Yes x   No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer (see definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act).

 

(Check one):    Large accelerated filer x       Accelerated filer o       Non-accelerated filer o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o  No x

 

As of November 2, 2007, Registrant had 96,541,395 outstanding shares of Common Stock.

 

 



 

STEEL DYNAMICS, INC.

Table of Contents

 

PART I. Financial Information

 

Item 1.

Financial Statements:

 

 

 

 

 

Consolidated Balance Sheets as of September 30, 2007 (unaudited) and December 31, 2006

1

 

 

 

 

Consolidated Statements of Income for the three and nine-month periods ended September 30, 2007 and 2006 (unaudited)

2

 

 

 

 

Consolidated Statements of Cash Flows for the three and nine-month periods ended September 30, 2007 and 2006 (unaudited)

3

 

 

 

 

Notes to Consolidated Financial Statements

4

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

11

 

 

 

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

16

 

 

 

Item 4.

Controls and Procedures

17

 

 

 

 

PART II. Other Information

 

 

 

 

Item 1.

Legal Proceedings

18

 

 

 

Item 1A.

Risk Factors

18

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

18

 

 

 

Item 3.

Defaults Upon Senior Securities

18

 

 

 

Item 4.

Submission of Matters to a Vote of Security Holders

18

 

 

 

Item 5.

Other Information

18

 

 

 

Item 6.

Exhibits

18

 

 

 

 

Signatures

19

 



 

STEEL DYNAMICS, INC.

CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

 

 

 

September 30,
2007

 

December 31,
2006

 

 

 

(Unaudited)

 

 

 

Assets

 

 

 

 

 

Current assets

 

 

 

 

 

Cash and equivalents

 

$

10,811

 

$

29,373

 

Accounts receivable, net

 

446,131

 

355,011

 

Accounts receivable-related parties

 

45,326

 

53,365

 

Inventories

 

744,534

 

569,317

 

Deferred taxes

 

16,080

 

13,964

 

Other current assets

 

27,264

 

15,167

 

Total current assets

 

1,290,146

 

1,036,197

 

 

 

 

 

 

 

Property, plant and equipment, net

 

1,358,204

 

1,136,703

 

 

 

 

 

 

 

Restricted cash

 

6,643

 

5,702

 

 

 

 

 

 

 

Intangible assets

 

198,678

 

12,226

 

 

 

 

 

 

 

Goodwill

 

200,637

 

30,966

 

 

 

 

 

 

 

Other assets

 

40,993

 

25,223

 

Total assets

 

$

3,095,301

 

$

2,247,017

 

 

 

 

 

 

 

Liabilities and Stockholders’ Equity

 

 

 

 

 

Current liabilities

 

 

 

 

 

Accounts payable

 

$

320,276

 

$

145,938

 

Accounts payable-related parties

 

5,288

 

2,004

 

Income taxes payable

 

31,739

 

30,497

 

Accrued profit sharing

 

42,363

 

46,341

 

Other accrued expenses

 

120,429

 

94,024

 

Senior secured revolving credit facility

 

97,000

 

80,000

 

Current maturities of long-term debt

 

55,683

 

686

 

Total current liabilities

 

672,778

 

399,490

 

 

 

 

 

 

 

Long-term debt

 

 

 

 

 

Senior secured term A loan facility

 

495,000

 

 

9 ½% senior unsecured notes

 

 

300,000

 

6 ¾% senior unsecured notes

 

500,000

 

 

Subordinated convertible 4.0% notes

 

37,250

 

37,500

 

Other long-term debt

 

16,536

 

16,920

 

Unamortized bond premium

 

 

3,772

 

 

 

1,048,786

 

358,192

 

 

 

 

 

 

 

Deferred taxes

 

292,802

 

256,803

 

 

 

 

 

 

 

Minority interest

 

976

 

1,424

 

 

 

 

 

 

 

Stockholders’ equity

 

 

 

 

 

Common stock voting, $.005 par value; 200,000,000 shares authorized: 108,578,346 and 107,865,486 shares issued, and 87,242,960 and 96,983,303 shares outstanding, as of September 30, 2007 and December 31, 2006, respectively

 

541

 

537

 

Treasury stock, at cost; 21,334,460 and 10,882,183 shares, at September 30, 2007and December 31, 2006, respectively

 

(661,427

)

(230,472

)

Additional paid-in capital

 

392,269

 

367,772

 

Retained earnings

 

1,348,576

 

1,093,271

 

Total stockholders’ equity

 

1,079,959

 

1,231,108

 

Total liabilities and stockholders’ equity

 

$

3,095,301

 

$

2,247,017

 

 

See notes to consolidated financial statements.

 

1



 

STEEL DYNAMICS, INC.

CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)

(in thousands, except per share data)

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

 

 

 

 

 

 

 

 

 

 

Net sales

 

 

 

 

 

 

 

 

 

Unrelated parties

 

$

1,104,076

 

$

854,299

 

$

2,779,114

 

$

2,221,139

 

Related parties

 

52,517

 

57,563

 

154,401

 

177,848

 

Total net sales

 

1,156,593

 

911,862

 

2,933,515

 

2,398,987

 

 

 

 

 

 

 

 

 

 

 

Costs of goods sold

 

928,142

 

667,058

 

2,272,079

 

1,798,141

 

Gross profit

 

228,451

 

244,804

 

661,436

 

600,846

 

 

 

 

 

 

 

 

 

 

 

Selling, general and administrative expenses

 

54,524

 

46,224

 

148,538

 

117,006

 

Operating income

 

173,927

 

198,580

 

512,898

 

483,840

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

14,602

 

7,445

 

29,048

 

23,606

 

Other (income) expense, net

 

(602

)

(974

)

10,205

 

(2,930

)

Income before income taxes

 

159,927

 

192,109

 

473,645

 

463,164

 

 

 

 

 

 

 

 

 

 

 

Income taxes

 

59,336

 

73,386

 

176,949

 

171,523

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

100,591

 

$

118,723

 

$

296,696

 

$

291,641

 

 

 

 

 

 

 

 

 

 

 

Basic earnings per share

 

$

1.12

 

$

1.19

 

$

3.18

 

$

3.09

 

 

 

 

 

 

 

 

 

 

 

Weighted average common shares outstanding

 

89,741

 

99,685

 

93,162

 

94,394

 

 

 

 

 

 

 

 

 

 

 

Diluted earnings per share, including effect of assumed conversions

 

$

1.06

 

$

1.09

 

$

3.02

 

$

2.74

 

 

 

 

 

 

 

 

 

 

 

Weighted average common shares and share equivalents outstanding

 

94,929

 

109,785

 

98,449

 

106,932

 

 

 

 

 

 

 

 

 

 

 

Dividends declared per share

 

$

.15

 

$

.15

 

$

.45

 

$

.35

 

 

See notes to consolidated financial statements.

 

2



 

STEEL DYNAMICS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(in thousands)

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2007

 

2006

 

2007

 

2006

 

 

 

 

 

 

 

 

 

 

 

Operating activities:

 

 

 

 

 

 

 

 

 

Net income

 

$

100,591

 

$

118,723

 

$

296,696

 

$

291,641

 

 

 

 

 

 

 

 

 

 

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

 

 

Depreciation and amortization

 

33,853

 

30,616

 

96,096

 

87,293

 

Unamortized bond premium

 

 

 

(3,350

)

 

Equity-based compensation

 

1,817

 

2,089

 

6,218

 

5,246

 

Deferred income taxes

 

(562

)

(2,997

)

(1,679

)

(8,731

)

(Gain) loss on disposal of property, plant and equipment

 

99

 

 

179

 

(11

)

Minority interest

 

107

 

68

 

(448

)

696

 

Changes in certain assets and liabilities:

 

 

 

 

 

 

 

 

 

Accounts receivable

 

12,544

 

(48,907

)

(21,204

)

(78,891

)

Inventories

 

35,212

 

(29,043

)

(118,514

)

(42,857

)

Other assets

 

(3,022

)

6,042

 

(21,521

)

(2,106

)

Accounts payable

 

29,784

 

44,230

 

100,594

 

36,847

 

Income taxes payable

 

5,374

 

10,160

 

1,242

 

17,323

 

Accrued expenses

 

34,402

 

10,664

 

14,058

 

(4,356

)

Net cash provided by operating activities

 

250,199

 

141,645

 

348,367

 

302,094

 

 

 

 

 

 

 

 

 

 

 

Investing activities:

 

 

 

 

 

 

 

 

 

Purchase of property, plant and equipment

 

(99,935

)

(35,645

)

(255,845

)

(84,354

)

Acquisition of business, net of cash acquired

 

(373,407

)

 

(411,626

)

(89,106

)

Purchase of short-term investments

 

 

 

 

(14,075

)

Maturities of short-term investments

 

 

 

 

14,075

 

Other investing activities

 

169

 

 

7

 

242

 

Net cash used in investing activities

 

(473,173

)

(35,645

)

(667,464

)

(173,218

)

 

 

 

 

 

 

 

 

 

 

Financing activities:

 

 

 

 

 

 

 

 

 

Issuance of long-term debt

 

798,000

 

65,000

 

1,795,000

 

65,000

 

Repayment of long-term debt

 

(366,230

)

(35,395

)

(1,028,387

)

(81,698

)

Issuance of common stock (net of expenses) and proceeds and tax benefits from exercise of stock options

 

4,113

 

2,549

 

20,260

 

26,749

 

Purchase of treasury stock

 

(197,867

)

(161,148

)

(433,183

)

(160,360

)

Dividends paid

 

(13,840

)

(10,111

)

(42,564

)

(23,242

)

Debt issuance costs

 

(2,603

)

 

(10,591

)

 

Net cash provided by (used in) financing activities

 

221,573

 

(139,105

)

300,535

 

(173,551

)

 

 

 

 

 

 

 

 

 

 

Decrease in cash and equivalents

 

(1,401

)

(33,105

)

(18,562

)

(44,675

)

Cash and equivalents at beginning of period

 

12,212

 

53,948

 

29,373

 

65,518

 

 

 

 

 

 

 

 

 

 

 

Cash and equivalents at end of period

 

$

10,811

 

$

20,843

 

$

10,811

 

$

20,843

 

 

 

 

 

 

 

 

 

 

 

Supplemental disclosure information:

 

 

 

 

 

 

 

 

 

Cash paid for interest

 

$

4,563

 

$

15,016

 

$

22,921

 

$

31,455

 

Cash paid for federal and state income taxes

 

$

51,236

 

$

60,421

 

$

183,521

 

$

155,962

 

 

See notes to consolidated financial statements.

 

3



 

STEEL DYNAMICS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1. Summary of Accounting Policies and Recent Accounting Pronouncements

Principles of Consolidation. The consolidated financial statements include the accounts of Steel Dynamics, Inc. (SDI or the company), together with its subsidiaries, after elimination of significant intercompany accounts and transactions. Minority interest represents the minority shareholders’ proportionate share in the equity or income of the company’s consolidated subsidiaries.

 

The company has three reporting segments:  steel, steel fabrication, and steel scrap and scrap substitute operations. Steel operations are comprised of the company’s steelmaking mini-mills and other galvanizing facilities; steel fabrication operations are comprised of the company’s five joist and deck manufacturing plants; and steel scrap and scrap substitute operations are comprised of the company’s various scrap collection and processing sites.

 

Pro Forma Information. Roanoke Electric Steel Corporation (Roanoke Electric) operating results have been reflected in the company’s financial statements since April 12, 2006, the effective date of the merger. The following unaudited pro forma information for the nine months ended September 30, 2006, is presented below as if the merger was completed as of January 1, 2006 (in thousands, except per share amounts):

 

Net sales

 

$

2,548,219

 

Net income

 

297,410

 

Basic earnings per share

 

3.04

 

Diluted earnings per share

 

2.71

 

 

The information presented above is for information purposes only and is not necessarily indicative of the actual results that would have occurred had the merger been consummated at January 1, 2006, nor is it necessarily indicative of future operating results of the combined companies under the ownership and management of the company. The pro forma results reflect Roanoke Electric operations for the period between the effective date of the merger and September 30, 2006, representing the actual second and third quarter operations post-merger, plus the pre-merger operations for the first quarter ended January 31, 2006.

 

Uncertain Tax Positions. In July 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109 (FIN 48), which clarifies the accounting and disclosure for uncertainty in tax positions, as defined. FIN 48 seeks to reduce the diversity in practice associated with certain aspects of the recognition and measurement related to accounting for income taxes. The company adopted the provisions of FIN 48 on January 1, 2007. The implementation of FIN 48 did not have a significant impact on the company’s financial position or results of operations.

 

As of January 1, 2007, the company had unrecognized tax benefits of $24.0 million, including accrued interest and penalties. There has been no significant change in the unrecognized tax benefits during the nine months ended September 30, 2007. If recognized, the effective tax rate would be affected by the unrecognized tax benefits. The company recognizes interest and penalties related to its tax contingencies on a net-of-tax basis in income tax expense. The company’s January 1, 2007 tax contingencies included $1.7 million of interest and penalties.

 

The company files U.S. federal income tax returns as well as income tax returns in various state jurisdictions. The Internal Revenue Service (IRS) completed an examination of the company’s federal income tax returns for 1997 through 2001 in the third quarter of 2007. The final examination adjustments did not result in a material change to the company’s financial position or results of operations. The company may be subject to examination by the IRS for calendar years 2004 through 2006. The company is currently under examination by the state of Indiana for calendar years 2000 through 2005. It is reasonably possible that the amounts of unrecognized tax benefits could change in the next twelve months as a result of this audit or other state tax audits. Based on the current audits in process, the payment of taxes as a result of audit settlements, could be in an amount from zero to $27.0 million during the next twelve months. The company is no longer subject to state and local tax examinations by tax authorities for years ended before 2004 for other major state tax jurisdictions.

 

Use of Estimates. These financial statements are prepared in conformity with accounting principles generally accepted in the United States and, accordingly, include amounts that require management to make estimates and assumptions that affect the amounts reported in the financial statements and in the notes thereto. Significant items subject to such estimates and assumptions include the carrying value of property, plant and equipment, intangible assets, and goodwill, valuation allowances for trade receivables, inventories and deferred income tax assets, potential environmental liabilities, litigation claims, and settlements. Actual results may differ from these estimates and assumptions.

 

In the opinion of management, these financial statements reflect all normal recurring adjustments necessary for a fair presentation of the interim period results. These financial statements and notes should be read in conjunction with the audited financial statements included in the company’s Annual Report on Form 10-K, for the year ended December 31, 2006.

 

Note 2. The Techs Acquisition

On July 2, 2007, the company completed its acquisition of 100% of the stock of The Techs, a Pennsylvania-based flat-rolled steel galvanizing company. The company paid approximately $373.4 million for The Techs, which was funded from the company’s existing senior secured revolving credit facility.

 

The Techs consist of three non-union galvanizing facilities: GalvTech, MetalTech, and NexTech. Each facility specializes in the galvanizing of specific types of flat-rolled steels in non-automotive applications, servicing a variety of customers in the HVAC, commercial construction, and consumer goods markets.

 

4



 

The company purchased The Techs to expand its penetration in the value-added steel coating business. With the addition of The Techs, the company has annual galvanizing capacity of approximately 2 million tons. The Techs complement the three existing galvanizing lines of the company that are located in Butler, Indiana and Jeffersonville, Indiana. The purchase of The Techs will allow the company to access markets that require widths or gauges that can not currently be supplied by either of the company’s previously existing facilities. The operating results of the Techs are included in the company's steel operations segment since the date of acquisition.

 

The aggregate purchase price of $373.4 million was allocated to the opening balance sheet of The Techs at July 2, 2007, the date of the acquisition. The following allocation is still preliminary and subject to adjustment based on further determination of the fair value and lives of the acquired assets, assumed liabilities, and identifiable intangible assets (in thousands):

 

Current assets

 

$

117,535

 

Property, plant and equipment

 

41,239

 

Goodwill

 

151,968

 

Intangible assets

 

185,700

 

Total assets

 

496,442

 

 

 

 

 

Current liabilities

 

$

86,522

 

Deferred taxes

 

36,513

 

Total liabilities

 

123,035

 

 

 

 

 

Total net assets acquired

 

$

373,407

 

 

Preliminary goodwill and intangible assets of $152.0 million and $185.7 million, respectively, were recorded as a result of the merger. The intangible assets consist of the following (dollars in thousands):

 

 

 

Amount

 

Useful Life

 

Trademark

 

$

81,800

 

Indefinite

 

Customer relationships

 

104,900

 

15 years

 

Backlog

 

(1,000

)

Three months

 

Total Intangibles

 

$

185,700

 

 

 

 

The related aggregate amortization related to the company’s acquisition of The Techs for the three months ended September 30, 2007 was $748,000. The estimated related intangible asset amortization expense for the next five years follows (dollars in thousands):
 

2007, since acquisition

 

$

2,497

 

2008

 

6,993

 

2009

 

6,993

 

2010

 

6,993

 

2011

 

6,993

 

Thereafter

 

73,431

 

Total

 

$

103,900

 

 

Note 3. Elizabethton Herb & Metal Acquisition

The company purchased the property, plant and equipment and the inventory of Elizabethton Herb & Metal, Inc. (Elizabethton) on April 1, 2007. Elizabethton consists of two scrap processing yards located in Elizabethton and Johnson City, Tennessee. The two yards process approximately 225,000 tons of ferrous scrap annually. Elizabethton supplied the company’s Roanoke Bar Division with a portion of its steel scrap requirements before the purchase and has continued to do so. In addition, Elizabethton has provided ferrous scrap to the company’s other steel operations. The company purchased Elizabethton in an effort to continue to control more of its raw material needs for its steelmaking operations. The operating results of Elizabethton are included in the company’s steel scrap and scrap substitute segment since the date of acquisition.

 

Note 4. Financing Activities
On September 11, 2007, the company amended its existing $750 million senior secured revolving credit facility to allow for the addition of a $550 million Term A Loan Facility (Term A Loan). The net proceeds for the Term A Loan were used to repay a portion of the borrowings outstanding under the $750 million senior secured revolving credit facility, which had been used to fund the company’s recent purchase of The Techs; to fund additional share repurchases pursuant to the company’s share repurchase program; to fund various capital expenditures; and for general working capital purposes.
 

The combined facilities are due June 2012 and are secured by substantially all the company’s and its wholly-owned subsidiaries’ receivables and inventories, and by pledges of all shares of the company’s wholly-owned subsidiaries’ capital stock. The addition of the Term A Loan resulted in an increase of 50 basis points in the related senior secured facility variable rate pricing grid. The Term A Loan amortizes 2.5% per quarter beginning December 2007, with the remaining principal due at maturity.

 

5



 

The senior secured credit facility contains financial covenants and other covenants that limit or restrict the company’s ability to make capital expenditures; incur indebtedness; permit liens on property; enter into transactions with affiliates; make restricted payments or investments; enter into mergers, acquisitions or consolidations; conduct asset sales; pay dividends or distributions; and enter into other specified transactions and activities. The company’s ability to borrow funds under the combined facilities is dependent upon its continued compliance with the financial covenants and other covenants contained in the senior secured credit agreement, as amended and restated.

 

Note 5. Subsequent Events

 

OmniSource Acquisition:

The company completed its acquisition of OmniSource Corporation, one of North America’s largest scrap recycling companies, on October 26, 2007. The company acquired all of the outstanding stock of OmniSource in a transaction valued at approximately $1.1 billion, including $425 million in cash, 9.7 million shares of Steel Dynamics common stock valued at approximately $455 million, and the assumption of approximately $220 million of debt, which was repaid at closing. OmniSource will operate as a wholly-owned subsidiary of the company and will continue to focus on the ferrous and nonferrous scrap processing, brokerage, and industrial scrap management needs of its customers. OmniSource operations will be reported in the company’s steel scrap and scrap substitute operating segment.

 

Senior Note Issuance:

On October 12, 2007, the company issued $700 million of 73/8 % Senior Notes due 2012 (73/8 % Notes), which are non-callable. The net proceeds from the 73/8 % Notes were used to finance the company’s acquisition of OmniSource and to repay a portion of the amounts then outstanding under its senior secured revolving credit facility.

 

Note 6. Earnings Per Share

The company computes and presents earnings per common share in accordance with FASB Statement No. 128, “Earnings Per Share.” Basic earnings per share is based on the weighted average shares of common stock outstanding during the period. Diluted earnings per share assumes, in addition to the above, the weighted average dilutive effect of common share equivalents outstanding during the period. Common share equivalents represent dilutive stock options and dilutive shares related to the company’s convertible subordinated debt and are excluded from the computation in periods in which they have an anti-dilutive effect.

 

The following table presents a reconciliation of the numerators and the denominators of the company’s basic and diluted earnings per share computations for net income for the three and nine-month periods ended September 30 (in thousands, except per share data):

 

 

 

Three Months Ended

 

 

 

2007

 

2006

 

 

 

Net Income
(Numerator)

 

Shares
(Denominator)

 

Per Share
Amount

 

Net Income
(Numerator)

 

Shares
(Denominator)

 

Per Share
Amount

 

Basic earnings per share

 

$

100,591

 

89,741

 

$

1.12

 

$

118,723

 

99,685

 

$

1.19

 

Dilutive stock option effect

 

 

 

797

 

 

 

 

691

 

 

 

4.0% Convertible subordinated notes

 

215

 

4,391

 

 

 

455

 

9,409

 

 

 

Diluted earnings per share

 

$

100,806

 

94,929

 

$

1.06

 

$

119,178

 

109,785

 

$

1.09

 

 

 

 

Nine Months Ended

 

 

 

2007

 

2006

 

 

 

Net Income
(Numerator)

 

Shares
(Denominator)

 

Per Share
Amount

 

Net Income
(Numerator)

 

Shares
(Denominator)

 

Per Share
Amount

 

Basic earnings per share

 

$

296,696

 

93,162

 

$

3.18

 

$

291,641

 

94,394

 

$

3.09

 

Dilutive stock option effect

 

 

 

883

 

 

 

 

818

 

 

 

4.0% Convertible subordinated notes

 

642

 

4,404

 

 

 

1,729

 

11,720

 

 

 

Diluted earnings per share

 

$

297,338

 

98,449

 

$

3.02

 

$

293,370

 

106,932

 

$

2.74

 

 

During the three and nine months ended September 30, 2007, holders of the company’s subordinated convertible 4.0% notes converted $250,000 of the notes to Steel Dynamics common stock, resulting in the issuance of 29,000 shares of the company’s treasury stock. There are currently 4.4 million shares still available for conversion pursuant to these notes.

 

Note 7. Inventories

Inventories are stated at lower of cost or market. Cost is determined principally on a first-in, first-out basis. Inventory consisted of the following (in thousands):

 

 

 

September 30,
2007

 

December 31,
2006

 

Raw Materials

 

$

345,953

 

$

243,770

 

Supplies

 

156,145

 

130,373

 

Work-in-progress

 

68,543

 

54,555

 

Finished Goods

 

173,893

 

140,619

 

Total Inventories

 

$

744,534

 

$

 569,317

 

 

6



 

Note 8. Segment Information

The company has three segments: steel, steel fabrication operations, and steel scrap and scrap substitute operations. Steel operations include the company’s Flat Roll Division, Structural and Rail Division, Engineered Bar Products Division, Roanoke Bar Division, Steel of West Virginia and The Techs operations. These facilities consist of mini-mills, producing steel from steel scrap, using electric arc furnaces, continuous casting and automated rolling mills and the galvanizing facilities of The Techs. Steel fabrication operations include the company’s five New Millennium Building System’s plants located in Butler, Indiana; Continental, Ohio; Salem, Virginia; Florence, South Carolina; and Lake City, Florida. Revenues from these plants are generated from the fabrication of trusses, girders, steel joists, and steel decking. The steel scrap and scrap substitute operations include the revenues and expenses associated with the company’s steel scrap collection and processing locations and from the company’s scrap substitute manufacturing facility, Iron Dynamics.

 

Revenues included in the category “All Other” are from a subsidiary operation that is below the quantitative thresholds required for reportable segments. These revenues are from the further processing and resale of certain secondary and excess flat rolled steel products. In addition, “All Other” also includes certain unallocated corporate accounts, such as the company’s senior secured credit facilities, senior unsecured notes, convertible subordinated notes, certain other investments, and profit sharing expenses.

 

The company’s operations are organized and managed as operating segments. Operating segment performance and resource allocations are primarily based on operating results before income taxes. The accounting policies of the reportable segments are consistent with those described in Note 1 to the financial statements. Refer to the company’s Annual Report on Form10-K for the year ended December 31, 2006, for more information related to the company’s segment reporting. Inter-segment sales and any related profits are eliminated in consolidation. The company’s segment results for the three and nine-month periods ended September 30 are as follows (in thousands):

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

 

2007

 

2006

 

2007

 

2006

 

Steel Operations

 

 

 

 

 

 

 

 

 

Net sales

 

 

 

 

 

 

 

 

 

External

 

$

1,019,332

 

$

816,951

 

$

2,576,016

 

$

2,155,438

 

Other segments

 

76,656

 

75,547

 

207,814

 

166,469

 

Operating income

 

189,283

 

217,748

 

553,039

 

533,624

 

Income before income taxes

 

174,666

 

213,399

 

527,448

 

522,333

 

Assets

 

2,552,072

 

1,831,023

 

2,552,072

 

1,831,023

 

Steel Fabrication Operations

 

 

 

 

 

 

 

 

 

Net sales

 

 

 

 

 

 

 

 

 

External

 

$

97,900

 

$

80,665

 

$

262,882

 

$

188,485

 

Other segments

 

14,173

 

3,684

 

24,449

 

4,801

 

Operating income

 

6,868

 

5,013

 

19,005

 

5,633

 

Income before income taxes

 

7,525

 

4,624

 

18,065

 

4,773

 

Assets

 

234,729

 

185,598

 

234,729

 

185,598

 

Steel Scrap and Scrap Substitute Operations

 

 

 

 

 

 

 

 

 

Net sales

 

 

 

 

 

 

 

 

 

External

 

$

18,895

 

$

1,730

 

$

37,760

 

$

5,302

 

Other segments

 

38,427

 

27,355

 

110,403

 

63,725

 

Operating income (loss)

 

4,602

 

260

 

10,997

 

(3,989

)

Income before income taxes

 

4,569

 

(50

)

10,859

 

(4,353

)

Assets

 

218,016

 

185,417

 

218,016

 

185,417

 

All Other

 

 

 

 

 

 

 

 

 

Net sales

 

 

 

 

 

 

 

 

 

External

 

$

20,466

 

$

12,516

 

$

56,857

 

$

49,762

 

Other segments

 

409

 

273

 

1,028

 

712

 

Operating loss

 

(24,558

)

(21,820

)

(70,215

)

(48,653

)

Income before income taxes

 

(24,533

)

(21,957

)

(82,704

)

(48,373

)

Assets

 

107,215

 

80,926

 

107,215

 

80,926

 

Eliminations

 

 

 

 

 

 

 

 

 

Net sales

 

 

 

 

 

 

 

 

 

Other segments

 

$

(129,665

)

$

(106,859

)

$

(343,694

)

$

(235,707

)

Operating income (loss)

 

(2,268

)

(2,621

)

72

 

(2,775

)

Income before income taxes

 

(2,300

)

(3,907

)

(23

)

(11,216

)

Assets

 

(16,731

)

(74,161

)

(16,731

)

(74,161

)

Consolidated

 

 

 

 

 

 

 

 

 

Net sales

 

$

1,156,593

 

$

911,862

 

$

2,933,515

 

$

2,398,987

 

Operating income

 

173,927

 

198,580

 

512,898

 

483,840

 

Assets

 

3,095,301

 

2,208,803

 

3,095,301

 

2,208,803

 

Income before income taxes

 

159,927

 

192,109

 

473,645

 

463,164

 

Net sales to non-US companies

 

75,503

 

27,725

 

172,723

 

63,404

 

 

7



 

Note 9. Condensed Consolidating Information

Certain 100%-owned subsidiaries of SDI have fully and unconditionally guaranteed all of the indebtedness relating to the issuance of $500.0 million of senior notes due April 2015 and $700.0 million of senior notes due October 2012. Following are condensed consolidating financial statements of the company, including the guarantors. The following condensed consolidating financial statements present the financial position, results of operations, and cash flows of (i) SDI (in each case, reflecting investments in its consolidated subsidiaries under the equity method of accounting), (ii) the guarantor subsidiaries of SDI, (iii) the non-guarantor subsidiaries of SDI, and (iv) the eliminations necessary to arrive at the information for the company on a consolidated basis. The following condensed consolidating financial statements (presented dollars in thousands) should be read in conjunction with the accompanying consolidated financial statements and the company’s Annual Report on Form 10-K for the year ended December 31, 2006.

 

Condensed Consolidating Balance Sheets

 

As of September 30, 2007

 

Parent

 

Guarantors

 

Combined
Non-Guarantors

 

Consolidating
Adjustments

 

Total
Consolidated

 

Cash

 

$

4,585

 

$

5,791

 

$

435

 

$

 

$

10,811

 

Accounts receivable

 

304,035

 

368,110

 

9,991

 

(190,679

)

491,457

 

Inventories

 

535,927

 

203,694

 

13,818

 

(8,905

)

744,534

 

Other current assets

 

39,995

 

2,979

 

417

 

(47

)

43,344

 

Total current assets

 

884,542

 

580,574

 

24,661

 

(199,631

)

1,290,146

 

Property, plant and equipment, net

 

1,044,824

 

282,862

 

30,518

 

-

 

1,358,204

 

Other assets

 

958,628

 

411,964

 

398

 

(924,039

)

446,951

 

Total assets

 

$

2,887,994

 

$

1,275,400

 

$

55,577

 

$

(1,123,670

)

$

3,095,301

 

 

 

 

 

 

 

 

 

 

 

 

 

Accounts payable

 

$

243,404

 

$

124,211

 

$

12,627

 

$

(22,939

)

$

357,303

 

Accrued expenses

 

117,237

 

45,708

 

1,154

 

(1,307

)

162,792

 

Current maturities of long-term debt

 

152,683

 

 

9,307

 

(9,307

)

152,683

 

Total current liabilities

 

513,324

 

169,919

 

23,088

 

(33,553

)

672,778

 

Other liabilities

 

257,625

 

736,459

 

3,328

 

(704,610

)

292,802

 

Long-term debt

 

1,044,648

 

 

4,138

 

 

1,048,786

 

Minority interest

 

(358

)

 

 

1,334

 

976

 

 

 

 

 

 

 

 

 

 

 

 

 

Common stock

 

541

 

19,753

 

7,748

 

(27,501

)

541

 

Treasury stock

 

(661,427

)

(818

)

 

818

 

(661,427

)

Additional paid in capital

 

392,269

 

117,753

 

20,622

 

(138,375

)

392,269

 

Retained earnings

 

1,341,372

 

232,334

 

(3,347

)

(221,783

)

1,348,576

 

Total stockholders’ equity

 

1,072,755

 

369,022

 

25,023

 

(386,841

)

1,079,959

 

Total liabilities and stockholders’ equity

 

$

2,887,994

 

$

1,275,400

 

$

55,577

 

$

(1,123,670

)

$

3,095,301

 

 

As of December 31, 2006

 

Parent

 

Guarantors

 

Combined
Non-Guarantors

 

Consolidating
Adjustments

 

Total
Consolidated

 

Cash

 

$

15,571

 

$

12,610

 

$

1,192

 

$

 

$

29,373

 

Accounts receivable

 

291,521

 

282,152

 

5,425

 

(170,722

)

408,376

 

Inventories

 

419,519

 

148,958

 

11,336

 

(10,496

)

569,317

 

Other current assets

 

28,041

 

877

 

263

 

(50

)

29,131

 

Total current assets

 

754,652

 

444,597

 

18,216

 

(181,268

)

1,036,197

 

 

 

 

 

 

 

 

 

 

 

 

 

Property, plant and equipment, net

 

947,745

 

181,999

 

7,076

 

(117

)

1,136,703

 

Other assets

 

164,955

 

156,353

 

398

 

(247,589

)

74,117

 

Total assets

 

$

1,867,352

 

$

782,949

 

$

25,690

 

$

(428,974

)

$

2,247,017

 

 

 

 

 

 

 

 

 

 

 

 

 

Accounts payable

 

$

142,593

 

$

37,952

 

$

4,490

 

$

(6,596

)

$

178,439

 

Accrued expenses

 

108,453

 

28,927

 

935

 

2,050

 

140,365

 

Current maturities of long-term debt

 

80,665

 

22

 

7,907

 

(7,908

)

80,686

 

Total current liabilities

 

331,711

 

66,901

 

13,332

 

(12,454

)

399,490

 

Other liabilities

 

(31,435

)

402,163

 

3,498

 

(117,423

)

256,803

 

Long—term debt

 

358,049

 

143

 

1,837

 

(1,837

)

358,192

 

Minority interest

 

(98

)

 

 

1,522

 

1,424

 

 

 

 

 

 

 

 

 

 

 

 

 

Common stock

 

537

 

10,745

 

7,946

 

(18,691

)

537

 

Treasury stock

 

(230,472

)

 

 

 

(230,472

)

Additional paid in capital

 

367,772

 

116,868

 

 

(116,868

)

367,772

 

Retained earnings

 

1,071,288

 

186,129

 

(923

)

(163,223

)

1,093,271

 

Total stockholders’ equity

 

1,209,125

 

313,742

 

7,023

 

(298,782

)

1,231,108

 

Total liabilities and stockholders’ equity

 

$

1,867,352

 

$

782,949

 

$

25,690

 

$

(428,974

)

$

2,247,017

 

 

8



 

Condensed Consolidating Statements of Income

 

 

 

 

 

 

 

Combined

 

Consolidating

 

Total

 

For the three months ended, September 30, 2007

 

Parent

 

Guarantors

 

Non-Guarantors

 

Adjustments

 

Consolidated

 

Net sales

 

$

752,243

 

$

1,191,678

 

$

20,875

 

$

(808,203

)

$

1,156,593

 

Costs of goods sold

 

587,735

 

1,121,477

 

20,158

 

(801,228

)

928,142

 

Gross profit

 

164,508

 

70,201

 

717

 

(6,975

)

228,451

 

Selling, general and administrative

 

32,698

 

22,942

 

1,428

 

(2,544

)

54,524

 

Operating income (loss)

 

131,810

 

47,259

 

(711

)

(4,431

)

173,927

 

Interest expense

 

12,154

 

2,391

 

192

 

(135

)

14,602

 

Other (income) expense, net

 

51,642

 

(52,392

)

(18

)

166

 

(602

)

Income (loss) before income taxes and equity in net income of subsidiaries

 

68,014

 

97,260

 

(885

)

(4,462

)

159,927

 

Income taxes

 

24,778

 

34,625

 

(82

)

15

 

59,336

 

 

 

43,236

 

62,635

 

(803

)

(4,477

)

100,591

 

Equity in net income of subsidiaries

 

61,832

 

 

 

(61,832

)

 

Net income (loss)

 

$

105,068

 

$

62,635

 

$

(803

)

$

(66,309

)

$

100,591

 

 

 

 

 

 

 

 

Combined

 

Consolidating

 

Total

 

For the three months ended, September 30, 2006

 

Parent

 

Guarantors

 

Non-Guarantors

 

Adjustments

 

Consolidated

 

Net sales

 

$

722,188

 

$

943,861

 

$

12,789

 

$

(766,976

)

$

911,862

 

Costs of goods sold

 

523,755

 

887,972

 

11,624

 

(756,293

)

667,058

 

Gross profit

 

198,433

 

55,889

 

1,165

 

(10,683

)

244,804

 

Selling, general and administrative

 

30,734

 

16,862

 

1,846

 

(3,218

)

46,224

 

Operating income (loss)

 

167,699

 

39,027

 

(681

)

(7,465

)

198,580

 

Interest expense

 

5,359

 

2,077

 

69

 

(60

)

7,445

 

Other (income) expense, net

 

44,633

 

(45,679

)

(18

)

90

 

(974

)

Income (loss) before income taxes and equity in net income of subsidiaries

 

117,707

 

82,629

 

(732

)

(7,495

)

192,109

 

Income taxes

 

45,170

 

30,126

 

(233

)

(1,677

)

73,386

 

 

 

72,537

 

52,503

 

(499

)

(5,818

)

118,723

 

Equity in net income of subsidiaries

 

52,004

 

 

 

(52,004

)

 

Net income (loss)

 

$

124,541

 

$

52,503

 

$

(499

)

$

(57,822

)

$

118,723

 

 

 

 

 

 

 

 

Combined

 

Consolidating

 

Total

 

For the nine months ended, September 30, 2007

 

Parent

 

Guarantors

 

Non-Guarantors

 

Adjustments

 

Consolidated

 

Net sales

 

$

2,113,349

 

$

3,017,614

 

$

57,886

 

$

(2,255,334

)

$

2,933,515

 

Costs of goods sold

 

1,628,185

 

2,827,010

 

55,722

 

(2,238,838

)

2,272,079

 

Gross profit

 

485,164

 

190,604

 

2,164

 

(16,496

)

661,436

 

Selling, general and administrative

 

95,942

 

56,172

 

3,760

 

(7,336

)

148,538

 

Operating income (loss)

 

389,222

 

134,432

 

(1,596

)

(9,160

)

512,898

 

Interest expense

 

22,525

 

6,386

 

535

 

(398

)

29,048

 

Other (income) expense, net

 

159,085

 

(149,322

)

(50

)

492

 

10,205

 

Income (loss) before income taxes and equity in net income of subsidiaries

 

207,612

 

277,368

 

(2,081

)

(9,254

)

473,645

 

Income taxes

 

77,509

 

99,512

 

(249

)

177

 

176,949

 

 

 

130,103

 

177,856

 

(1,832

)

(9,431

)

296,696

 

Equity in net income of subsidiaries

 

176,024

 

 

 

(176,024

)

 

Net income (loss)

 

$

306,127

 

$

177,856

 

$

(1,832

)

$

(185,455

)

$

296,696

 

 

9



 

 

 

 

 

 

 

Combined

 

Consolidating

 

Total

 

For the nine months ended, September 30, 2006

 

Parent

 

Guarantors

 

Non-Guarantors

 

Adjustments

 

Consolidated

 

Net sales

 

$

2,006,422

 

$

2,460,279

 

$

50,474

 

$

(2,118,188

)

$

2,398,987

 

Costs of goods sold

 

1,494,601

 

2,352,997

 

45,415

 

(2,094,872

)

1,798,141

 

Gross profit

 

511,821

 

107,282

 

5,059

 

(23,316

)

600,846

 

Selling, general and administrative

 

77,727

 

42,475

 

2,913

 

(6,109

)

117,006

 

Operating income (loss)

 

434,094

 

64,807

 

2,146

 

(17,207

)

483,840

 

Interest expense

 

19,143

 

4,608

 

243

 

(388

)

23,606

 

Other (income) expense, net

 

123,763

 

(127,056

)

(117

)

480

 

(2,930

)

Income (loss) before income taxes and equity in net income of subsidiaries

 

291,188

 

187,255

 

2,020

 

(17,299

)

463,164

 

Income taxes

 

108,136

 

67,677

 

861

 

(5,151

)

171,523

 

 

 

183,052

 

119,578

 

1,159

 

(12,148

)

291,641

 

Equity in net income of subsidiaries

 

120,738

 

 

 

(120,738

)

 

Net income (loss)

 

$

303,790

 

$

119,578

 

$

1,159

 

$

(132,886

)

$

291,641

 

 

Condensed Consolidating Statements of Cash Flow

 

For the nine months ended, September 30, 2007

 

Parent

 

Guarantors

 

Combined
Non-Guarantors

 

Total
Consolidated

 

Net cash provided by (used in) operations

 

$

(303,603

)

$

652,130

 

$

(160

)

$

348,367

 

Net cash used in investing activities

 

(172,509

)

(470,825

)

(24,130

)

(667,464

)

Net cash provided by (used in) in financing activities

 

465,126

 

(188,124

)

23,533

 

300,535

 

Decrease in cash and equivalents

 

(10,986

)

(6,819

)

(757

)

(18,562

)

Cash and equivalents at beginning of year

 

15,571

 

12,610

 

1,192

 

29,373

 

Cash and equivalents at end of period

 

$

4,585

 

$

5,791

 

$

435

 

$

10,811

 

 

For the nine months ended, September 30, 2006

 

Parent

 

Guarantors

 

Combined
Non-Guarantors

 

Total
Consolidated

 

Net cash provided by (used in) operations

 

$

180,128

 

$

122,546

 

$

(580

)

$

302,094

 

Net cash used in investing activities

 

(81,343

)

(91,017

)

(858

)

(173,218

)

Net cash provided by (used in) in financing activities

 

(152,839

)

(21,555

)

843

 

(173,551

)

Increase (decrease) in cash and equivalents

 

(54,054

)

9,974

 

(595

)

(44,675

)

Cash and equivalents at beginning of year

 

62,842

 

132

 

2,544

 

65,518

 

Cash and equivalents at end of period

 

$

8,788

 

$

10,106

 

$

1,949

 

$

20,843

 

 

10



 

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Forward-Looking Statements

 

This report contains some predictive statements about future events, including statements related to conditions in the steel marketplace, our revenue growth, costs of raw materials, future profitability and earnings, and the operation of new or existing facilities. These statements are intended to be made as “forward-looking,” subject to many risks and uncertainties, within the safe harbor protections of the Private Securities Litigation Reform Act of 1995. Such predictive statements are not guarantees of future performance, and actual results could differ materially from our current expectations. Factors that could cause such predictive statements to turn out other than as anticipated or predicted include, among others:  changes in economic conditions affecting steel consumption, increased foreign imports, increased price competition, difficulties in integrating acquired businesses, risks and uncertainties involving new products or new technologies, changes in the availability or cost of steel scrap or substitute materials, increases in energy costs, occurrence of unanticipated equipment failures, and plant outages, labor unrest, and the effect of the elements on production or consumption.

 

In addition, we refer you to the sections denominated “Special Note Regarding Forward-Looking Statement” and “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2006, as well as, in other reports which we, from time to time, file with the Securities and Exchange Commission, for a more detailed discussion of some of the many factors and variable risks and uncertainties that could cause actual results to differ materially from those we may have expected or anticipated. These reports are available publicly on the SEC Web site, www.sec.gov and on our Web site, www.steeldynamics.com. Forward-looking or predictive statements we make are based on our knowledge of our businesses and the environment in which they operate as of the date on which the statements were made. Due to these risks and uncertainties, as well as matters beyond our control which can affect forward-looking statements, you are cautioned not to place undue reliance on these predictive statements, which speak only as of the date of this report. We undertake no duty to update or revise any forward-looking statement, whether as a result of new information, future events, or otherwise.

 

Income Statement Classifications

 

Net Sales. Net sales from steel operations are a factor of net tons shipped, product mix and related pricing. Net sales from steel fabrication are recognized from construction contracts utilizing a percentage-of-completion method, which is based on the percentage of steel consumed to-date as compared to the estimated total steel required for each contract. Steel fabrication revenues accounted for approximately 8% and 9% of our total net sales for the three months ended September 30, 2007 and 2006, respectively, and approximately 9% and 8% for the nine months ended September 30, 2007 and 2006, respectively. Our net sales are determined by subtracting product returns, sales discounts, return allowances and claims from total sales. We charge premium prices for certain grades of steel, product dimensions, or certain smaller volumes, and for value-added processing or coating of steel products. We also charge marginally higher prices for our value-added products. These products include hot rolled and cold rolled galvanized products, cold rolled products, and painted products from our Flat Roll Division, galvanized products from The Techs, certain special-bar-quality products from our Engineered Bar Products Division, and certain industrial truck and trailer products from our Steel of West Virginia operations.

 

Costs of Goods Sold. Our costs of goods sold represent all direct and indirect costs associated with the manufacture of our products. The principal elements of these costs are steel scrap and scrap substitutes, alloys, zinc, natural gas, argon, direct and indirect labor and related benefits, electricity, oxygen, electrodes, depreciation, materials and freight. Our metallic raw materials, steel scrap and scrap substitutes, represent the most significant component of our costs of goods sold.

 

Selling, General and Administrative Expenses (SG&A). Selling, general and administrative expenses consist of all costs associated with our sales, finance and accounting, and administrative departments. These costs include labor and benefits, professional services, financing cost amortization, property taxes, and profit-sharing expense.

 

Interest Expense. Interest expense consists of interest associated with our senior credit facilities and other debt, as described in the notes to our financial statements as set forth in our 2006 Annual Report on Form 10-K and as updated in the notes included in our 2007 quarterly filings on Form 10-Q, net of capitalized interest costs that are related to construction expenditures during the construction period of material capital projects.

 

Other (Income) Expense. Other income consists of interest income earned on our cash balances and any other non-operating income activity, including realized gains on short term investments. Other expense consists of any non-operating costs, including losses incurred due to interest rate hedging activities.

 

Acquisitions.

 

OmniSource. On October 26, 2007, we completed our acquisition of OmniSource Corporation, one of North America’s largest scrap recycling companies. We acquired all of the outstanding stock of OmniSource in a transaction valued at approximately $1.1 billion, including $425 million in cash, 9.7 million shares of Steel Dynamics common stock valued at approximately $455 million, and the assumption of approximately $220 million of debt, which was repaid at closing. OmniSource will operate as a wholly-owned subsidiary of Steel Dynamics and will continue to focus on the ferrous and nonferrous scrap processing, brokerage, and industrial scrap management needs of its customers. OmniSource operations will be reported in our steel scrap and scrap substitute operating segment.

 

The Techs. On July 2, 2007, we purchased The Techs for approximately $373.4 million, which was funded from our existing senior secured revolving credit facility. The Techs is a Pennsylvania-based flat-rolled steel galvanizing company, which consists of three non-union galvanizing facilities: GalvTech, MetalTech, and NexTech. Each facility specializes in the galvanizing of specific types of flat-rolled steels in non-automotive applications, servicing a variety of customers in the HVAC, commercial construction, and consumer goods markets. About  

 

11



 

85% of The Techs sales are to customers in the eastern U.S. and the Midwest. In 2006, the privately held company shipped 958,000 tons of galvanized steel and generated revenues of $831 million.

 

We purchased The Techs to expand our market-share in the value-added steel coating business. With the addition of The Techs, we will have an annual estimated galvanizing capacity of approximately 2 million tons. The Techs complement our three existing galvanizing lines located in Butler, Indiana and Jeffersonville, Indiana. The purchase of The Techs will allow us to access markets that require widths or gauges that our existing facilities can not currently supply. The Techs operations are reflected in our steel operations segment beginning July 2007.

 

Elizabethton Herb & Metal. We purchased the property, plant and equipment and inventory of Elizabethton Herb & Metal, Inc (Elizabethton) on April 1, 2007. Elizabethton is comprised of two scrap processing yards located in Elizabethton and Johnson City, Tennessee. These two yards generally process in excess of 225,000 tons of ferrous scrap annually. Elizabethton supplied our Roanoke Bar Division with a portion of its steel scrap requirements before the purchase and will continue to do so. The Elizabethton operations are reflected in our steel scrap and steel scrap substitute operating segment beginning April 1, 2007.

 

In addition, due to the fact that the Roanoke Electric merger was effective April 11, 2006, the results of these operations are reflected in our results from the effective date of the merger through September 30, 2006.

 

Third Quarter Operating Results 2007 vs. 2006

 

Net income was $100.6 million or $1.06 per diluted share during the third quarter of 2007, compared with $118.7 million or $1.09 per diluted share during the third quarter of 2006. Our gross margin percentage was 20% during the third quarter of 2007, as compared to 27% for the third quarter of 2006 and as compared to 24% on a linked-quarter basis. The decrease in gross margin percentage for the third quarter of 2007 was affected by the operations of The Techs. The Techs generally elicits higher selling values, but operating margins are lower than we traditionally have experienced as The Techs purchases its substrate from external suppliers as opposed to our Flat Roll Division which produces its own. Our third quarter 2007 average consolidated selling price per ton shipped decreased $2 per ton, when compared to the second quarter of 2007, and at the same time costs associated with our metallic raw materials on a comparative basis decreased $21 per net ton consumed.

 

Gross Profit. During the third quarter of 2007, our net sales increased $244.7 million, or 27%, to $1,156.6 million, while our consolidated shipments increased 324,000 tons, or 26%, to 1.6 million tons, when compared with the third quarter of 2006. The increase in shipments was due primarily to increased shipments from the steel scrap and scrap substitute operations of 74,000 tons, along with shipment of approximately 231,000 tons from The Techs. Increases in shipments from our Flat Roll Division of approximately 46,000 tons and from our Structural and Rail Division of approximately 40,000 tons were partially offset by lower shipments of approximately 24,000 tons from the Roanoke Bar Division and approximately 17,000 tons from Steel of West Virginia. We expect continued strength at our Structural and Rail Division for steel that is used in the non-residential construction markets. In addition, demand for our flat-rolled steel should improve in the fourth quarter of 2007 due to inventory de-stocking and limited import levels.

 

As depicted by the following graph, our third quarter 2007 average consolidated selling price per ton shipped increased $4 compared with the third quarter of 2006. During the third quarter of 2007, inventories continued to decline at steel service centers and are at their lowest levels in two years. We are anticipating demand for flat-roll steel to improve in the fourth quarter due to inventory de-stocking and limited imports. Continued strength within the non-residential construction market has resulted in sustained strong demand for structural steel and building fabrication products. Currently, we expect improved market conditions in the fourth quarter. However, the improved market conditions could be offset by scheduled outages for upgrades at three of our five mills. We anticipate our steel scrap costs will be in the same range as the third quarter of 2007.

 

Average Consolidated Quarterly Sales Price

 

 

12



 

Generally, we incur higher production costs when manufacturing value-added products such as cold rolled, galvanized, and painted flat roll steels, and special-bar-quality steels. The following table depicts our product-mix by major product category including inter-divisional shipments for the three and nine-month periods ended September 30, 2007 and 2006, based on tons shipped.

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

 

2006

 

2007

 

2006

 

2007

 

Flat Rolled:

Hot Band

 

21

%

20

%

23

%

21

%

 

Pickled & Oiled

 

2

 

3

 

2

 

2

 

 

Cold Rolled

 

2

 

3

 

3

 

2

 

 

Cold Rolled Galvanized

 

8

 

6

 

9

 

6

 

 

Hot Rolled Galvanized

 

8

 

5

 

8

 

6

 

 

Painted

 

4

 

3

 

5

 

3

 

Structural:

Wide Flange Beams, H-Piling and Specialty

 

24

 

20

 

23

 

23

 

Bar:

SBQ and Merchant Shapes

 

20

 

15

 

17

 

18

 

Fabrication:

Joists, Girders and Decking

 

5

 

4

 

4

 

4

 

Scrap and Scrap Substitutes

 

6

 

21

 

6

 

15

 

 

 

100

%

100

%

100

%

100

%

 

Metallic raw materials used in our electric arc furnaces represent our most significant manufacturing cost. Our metallic raw material cost per net ton consumed increased $10 during the third quarter of 2007 as compared to the third quarter of 2006 and decreased $21 on a linked-quarter basis. During the third quarter of 2007 and 2006, respectively, our metallic raw material costs represented 42% and 55% of our total manufacturing costs. During the second quarter of 2007, our metallic raw material costs represented 58% of our total manufacturing costs. This linked-quarter decrease was primarily due to the inclusion of the operating results of The Techs, which purchases its substrate from external suppliers rather than consuming metallic raw materials in an electric arc furnace.

 

Historically our metallic raw material costs represented between 45% and 50% of our total manufacturing costs; however, this percentage increased to as high as 65% in 2004, when the industry encountered historically high steel scrap prices. We anticipate steel scrap prices to remain relatively stable in the fourth quarter.

 

Quarterly Charge in Cost of

Metallic RawMaterials Consumed

 

Selling, General and Administrative Expenses. Selling, general and administrative expenses were $54.5 million during the third quarter of 2007, as compared to $46.2 million during the same period in 2006, an increase of $8.3 million, or 18%. During both the third quarter of 2007 and 2006 our selling, general and administrative expenses represented 5% of our total net sales.

 

We recorded expense of $13.0 million and $14.5 million during the third quarter of 2007 and 2006, respectively, related to our Steel Dynamics performance-based profit sharing plan allocation, which is currently calculated as 8% of pretax earnings. Our board of directors approved an increase from 6% to the current 8% in the profit sharing rate effective August 1, 2006, in recognition of the additional plan participants added as a result of the Roanoke Electric merger.

 

Interest Expense. During the third quarter of 2007, gross interest expense increased $11.9 million to $19.8 million and capitalized interest increased $4.9 million to $5.2 million, when compared to the same period in 2006. The increase in gross interest expense is a result of increased borrowings under our senior secured credit facilities, including our $550 million Term A Loan which was issued mid-September. These additional borrowings were primarily the result of funding the purchase of The Techs and the purchase of approximately 4.9 million shares of our common stock during the third quarter. The interest capitalization that occurred during these periods resulted primarily from the interest required to be capitalized with respect to construction activities at our Engineered Bar Products, Structural and Rail, and steel fabrication divisions. We currently anticipate gross interest expense to increase in the fourth quarter as compared to the third quarter due to the issuance on

 

13



 

October 12, 2007, of $700 million of 73/8 % Senior Notes due 2012, from which the net proceeds were used in part to finance our acquisition of OmniSource.

 

Other (Income) Expense. Other income was $602,000 during the third quarter of 2007, as compared to $974,000 during the same period in 2006. During 2007 other income was principally composed of certain non-operating revenues recognized at several of the Roanoke Electric subsidiaries. During the third quarter of 2006, other income was principally from the sale of certain equity securities held as short-term investments. .

 

Income Taxes. During the third quarter of 2007, our income tax provision was $59.3 million, as compared to $73.4 million during the same period in 2006. Our effective income tax rate was 37.1% and 38.2%, during the third quarters of 2007 and 2006, respectively. We decreased our estimated annual effective tax rate in the second quarter of 2007 to 37.5% to reflect, among other things, the recognition of research and development tax credits and the increase in the Domestic Production Activities Deduction from 3% to 6% of qualifying domestic activities income, effective January 1, 2007.

 

In July 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 48. Accounting for Uncertainty in Income Taxes-an interpretation of FASB Statement No. 109 (FIN 48) which clarifies the accounting and disclosure for uncertainty in tax positions, as defined. FIN 48 seeks to reduce the diversity in practice associated with certain aspects of the recognition and measurement related to accounting for income taxes. We adopted the provisions of FIN 48 on January 1, 2007. The implementation of FIN 48 did not have significant impact on our financial position or results of operations.

 

As of January 1, 2007, we had unrecognized tax benefits of $24.0 million, including interest and penalties. There has been no significant change in the unrecognized tax benefits during the nine months ended September 30, 2007. If recognized, the effective tax rate would be affected by the unrecognized tax benefits. We recognize interest and penalties related to our tax contingencies on a net-of-tax basis in income tax expense. Our January 1, 2007 tax contingencies included $1.7 million of interest and penalties.

 

We file U.S. federal income tax returns as well as income tax returns in various state jurisdictions. The Internal Revenue Service (IRS) completed an examination of our federal income tax returns for 1997 through 2001 in the third quarter of 2007. The final examination adjustments did not result in a material change to our financial position or results of operations. We may be subject to examination by the IRS for calendar years 2004 through 2006. We are currently under examination by the state of Indiana for calendar years 2000 through 2005. It is reasonably possible that the amounts of unrecognized tax benefits could change in the next twelve months as a result of this audit or other state audits. Based on the current audits in process, the payment of taxes as a result of audit settlements, could be from zero to $27.0 million during the next twelve months. We are no longer subject to state and local tax examinations by tax authorities for years ended before 2004 for other major state tax jurisdictions.

 

First Nine Months Operating Results 2007 vs. 2006

 

Net income was $296.7 million or $3.02 per diluted share during the first nine months of 2007, compared with $291.6 million or $2.74 per diluted share, during the first nine months of 2006.

 

Gross Profit. During the first nine months of 2007, our net sales increased $534.5 million, or 22%, to $2.9 billion, and our consolidated shipments increased 536,000 tons, or 15%, to 4.0 million tons, compared with the first nine months of 2006. The increase in shipments was due in part to the inclusion of The Techs, acquired in July 2007. The Techs shipments were approximately 231,000 tons. In addition, shipments at the Structural and Rail Division increased approximately 144,000 tons; shipments at the Roanoke Bar Division increased approximately 141,000 tons; and shipments from Steel Scrap and Scrap Substitute operations increased approximately 207,000 tons. The increase in consolidated volumes were somewhat offset by decreased shipments from the Flat Roll Division, due to the continued softness in the flat rolled sheet markets, and increased intercompany activity. During the first nine months of 2007 our average consolidated selling price per ton shipped increased $42, or 6%, to $723, as compared with the same period of 2006.

 

Selling, General and Administrative Expenses. Selling, general and administrative expenses were $148.5 million, during the first nine months of 2007, as compared to $117.0 million, during the same period in 2006, an increase of $31.5 million, or 27%. The increase was attributed, in part, to the increase in combined profit sharing expense of $8.1 million and the additional expenses of approximately $9.5 million associated with the inclusion of the SG&A costs of Elizabethton and The Techs during 2007. During the first nine months of 2007 and 2006, respectively, selling, general and administrative expenses represented approximately 5% of net sales.

 

Interest Expense. During the first nine months of 2007, gross interest expense increased $13.2 million, or 54%, to $37.6 million, and capitalized interest increased $7.7 million, as compared to the same period in 2006. The increase in gross interest expense is a result of increased borrowings under our senior secured credit facilities and note issuances. These additional borrowings were primarily the result of funding the purchase of The Techs and the purchase of approximately 10.6 million shares of our common stock during 2007. In addition, during the first quarter of 2007, interest expense was reduced by $3.4 million due to the recognition of unamortized bond premium related to the redemption of our 9½% Senior Notes due 2009 (9½% Notes). Capitalized interest during these periods resulted primarily from the interest required to be capitalized with respect to the construction activities at our Engineered Bar Products, Structural and Rail and steel fabrication divisions.

 

Other (Income) Expense. Other expense was $10.2 million during the first nine months of 2007, as compared to other income of $2.9 million, during the same period of 2006. The increase in other expense during 2007 primarily resulted from the $7.1 million call premium

 

14



 

associated with the redemption of our 9½% Notes and the related termination of a fixed-to-floating interest rate swap resulting in a $5.0 million loss on hedging activities.

 

Income Taxes. During the first nine months of 2007, our income tax provision was $176.9 million, as compared to $171.5 million, during the same period in 2006. During the first nine months of 2007 and 2006, our effective income tax rate was 37.4% and 37.0%, respectively.

 

Liquidity and Capital Resources

 

Our business is capital intensive and requires substantial expenditures for, among other things, the purchase and maintenance of equipment used in our steelmaking and finishing operations and to remain in compliance with environmental laws. Our short-term and long-term liquidity needs arise primarily from capital expenditures, working capital requirements, and principal and interest payments related to our outstanding indebtedness. We have met these liquidity requirements with cash provided by operations, equity offerings, long-term borrowings, and state and local grants.

 

Working Capital. During the first nine months of 2007, our operational working capital position, representing our cash invested in trade receivables and inventories less trade payables and accruals, increased $57.0 million to $715.9 million compared to December 31, 2006. Trade receivables increased $83.1 million, or 20%, during the first nine months of 2007 to $491.5 million, of which approximately 98% were current or less than 60 days past due. Our largest customer is an affiliated company, Heidtman Steel, which represented 8% and 13% of our outstanding trade receivables at September 30, 2007 and December 31, 2006, respectively. During the first nine months of 2007, our inventories increased $175.2 million, or 31%, to $744.5 million. Raw materials, primarily steel scrap inventories, increased significantly during the first nine months of 2007 for all of our steelmaking divisions and were the primary driver of total inventory increases. Our trade payables and general accruals increased $204.0 million, or 84%, during the first nine months of 2007. Operational working capital was also increased due to the acquisition of The Techs during 2007.

 

Capital Expenditures. During the first nine months of 2007, we invested $255.8 million in property, plant and equipment, of which $171.8 million, or 67%, related to the construction of a second rolling mill at our Structural and Rail Division; and the continued reconfiguration of the three joist plants acquired in April 2006 pursuant to the Roanoke Electric merger. The remaining capital expenditures represented improvement projects at our other existing facilities, including the addition of Galvalume coating capabilities and a paint line facility at our Jeffersonville, Indiana facility. We believe these capital investments will increase our net sales and related cash flows as each project develops.

 

Capital Resources and Long–term Debt. During the first nine months of 2007, our total outstanding debt increased $762.6 million to $1,201.5 million. During the first nine months of 2007, holders of our 4.0% convertible subordinated notes converted $250,000 of the notes to Steel Dynamics common stock, resulting in the issuance of 29,000 shares from our treasury reserves. There are currently 4.4 million shares still available for conversion pursuant to these notes. Our long-term debt to capitalization ratio, representing our long-term debt divided by the sum of our long-term debt and our total stockholders’ equity, was 53% and 26% at September 30, 2007 and December 31, 2006, respectively.

 

On September 11, 2007, we amended our existing $750 million senior secured credit facility to allow for the addition of a $550 million Term A Loan Facility (Term A Loan). The net proceeds for the Term A Loan were used to repay a portion of the borrowings outstanding under the $750 million senior secured revolving credit facility, which had been used to fund our recent purchase of The Techs; to fund additional share repurchases pursuant to our share repurchase program; to fund various capital expenditures; and for general working capital purposes.
 

The combined facilities are due June 2012 and are secured by substantially all of our and our wholly-owned subsidiaries’ receivables and inventories, and by pledges of all shares of our wholly-owned subsidiaries’ capital stock. The addition of the Term A Loan resulted in an increase of 50 basis points in the related senior secured facility variable rate pricing grid. The Term A Loan amortizes 2.5% per quarter beginning December 2007, with the remaining principal due at maturity.

 

At September 30, 2007, there were outstanding borrowings of $97.0 million under our $750.0 million senior secured revolving credit facility. The senior secured credit agreement is secured by substantially all of our and our wholly-owned subsidiaries receivables and inventories and by pledges of all shares of capital stock and inter-company debt held by us and each of our wholly-owned subsidiaries. The senior secured credit agreement contains financial covenants and other covenants that limit or restrict our ability to make capital expenditures; incur indebtedness; permit liens on property; enter into transactions with affiliates; make restricted payments or investments; enter into mergers, acquisitions or consolidations; conduct asset sales; pay dividends or distributions; and enter into other specified transactions and activities. Our ability to borrow funds within the terms of the revolver is dependent upon our continued compliance with the financial covenants and other covenants contained in the senior secured credit agreement, as amended and restated. We were in compliance with these covenants at September 30, 2007, and expect to remain in compliance during the next twelve months.

 

On October 12, 2007, we issued $700 million of 73/8 % Senior Notes due 2012, which are non-callable. The net proceeds from the 73/8 % Notes were used to finance our acquisition of OmniSource and to repay a portion of the amounts then outstanding under our senior secured revolving credit facility.

 

15



 

Comm