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United States Steel Corporation (X), Nucor Corporation (NUE): What Is the Best Way to Play a Steel Turnaround?

The point is that although the general trend is agreed to be upward, the magnitude of the upward trend depends on several things that are still up in the air, such as the amount of consolidation in the industry in the coming years, raw materials costs, and increased pricing pressure from competitors (especially overseas).

Minimill competition: Commercial Metals

Commercial Metals Company (NYSE:CMC) is another purely minimill-based steel company, and is a fraction of the size of Nucor Corporation (NYSE:NUE). Commercial Metals Company (NYSE:CMC) trades for 20 times this year’s earnings, and is expected to grow similarly to Nucor over the next few years, but just like Nucor, Commercial Metal’s (NYSE:CMC) earnings growth is far from certain. The consensus calls for $1.78 per share in 2015, but estimates range all the way from $1.35 to $2.15. It is tough to make valuation interpretations in an industry whose future is based on an anticipated turnaround, but using a similar figure as I used for Nucor Corporation (NYSE:NUE), Commercial Metals Company (NYSE:CMC) trades for 10.7 times next year’s expected earnings. So, on the surface Commercial Metals Company (NYSE:CMC) looks a little cheaper, but Nucor has the strength that comes with being an industry leader, which is certainly worth a bit of a premium.

U.S. Steel: cheap, but for a reason

U.S. Steel has certainly had a tough year, and shares are just above their 52-week low. The company is the largest integrated steel producer in North America and its output is actually very close to Nucor Corporation (NYSE:NUE)’s at about 19 million tons last year. U.S. Steel’s decline is due not only to oversupply problems and volatile raw materials costs, but also the company’s enormous pension obligations. Additionally, the company carries a very high level of debt ($3.9 billion), which is actually more than its market cap of $2.5 billion.

As a result of this, U.S. Steel trades at a “cheap” valuation, but the company’s future is even more uncertain than its minimill competitors. Estimates for next year, for example, range from a loss of $0.40 per share to a profit of $3.00 per share. If the most optimistic analysts are correct, that means that U.S. Steel trades for just 5.8 times next year’s earnings, but that’s a big “if”.

The last word

For those with an appetite for risk, these steel companies could provide tremendous gains if the industry turns itself around as expected. Signs of a turnaround would include increased production, higher steel prices, and increased M&A activity in the sector. Of the three mentioned, Nucor is perhaps the least risky and the most appropriate for a long-term investment.

Matthew Frankel owns shares of United States Steel Corporation (NYSE:X). The Motley Fool recommends Nucor Corporation (NYSE:NUE).

The article What Is the Best Way to Play a Steel Turnaround? originally appeared on Fool.com.

Matthew is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.

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