In less than a year, Russian steel has
moved from a boom straight into
recession: we cut our price, volume and
capex assumptions
􀀗 We upgrade NLMK to OW (V) from N (V),
but downgrade Evraz to N (V) from OW
(V); we also cut our target prices
significantly
􀀗 We screen our stocks; NLMK is our
preferred play, based on its strongest
financial position; Evraz is our least
preferred play
Picking the right stock
Based on our screening, NLMK comes out as the top pick.
We believe that, in an environment with extremely low
visibility, it pays to focus on companies with solid financial
positions and healthy balance sheets. However, we do not
expect a rapid share price recovery in the near term due to a
lack of catalysts and believe that constant (and largely negative)
newsflow will add volatility to share price performances.
We expect 2009 to be the lowest point in the cycle, and
foresee more downside risks to steel prices as sluggish
demand in the consuming industries prevails. We now
expect a further fall in steel prices in 2Q09, which would
mean a 50% year-on-year decrease versus 2008. We believe
steel companies’ financials will take a big hit in 2009, but
then expect a fast pace of recovery from 2010 onwards;
which should be driven by both volume and price increases,
as well as lower raw material costs from 2Q09. We also
incorporate new commodity price forecasts (published in the
Chartbook, 21 January 2009): declines of 30% in iron ore
and 60% in coking coal. Finally, we increase our WACC to
reflect current market conditions.
Investment summary
􀀗 We take a pessimistic (realistic) view: demand continues to suffer
in 2009, and prices have not yet bottomed out
􀀗 We expect 2009 to be an extremely difficult year for all Russian
steelmakers, with 3 out of 4 posting close to zero net profit
􀀗 Based on our screening, we like NLMK most; our least preferred
play is Evraz

Picking the stocks: summary
After falling 90-95% from peak to trough, valuations
now look cheap for most of the stocks under
coverage; however, a high degree of uncertainty
makes us reluctant to base our view entirely on
valuation. Given that visibility is extremely low and
the companies themselves are struggling with
forecasts for 2009, we run a screening that is skewed
much more towards financial analysis rather than
valuation. We focus on balance sheet and cash flow
analysis. A breakdown of our screening criteria
together with the individual scores is shown in the
table on the next page.
Debt position: the higher the leverage, the higher
the interest expense payment, ie, fixed charge
which will not fall in 2009 but might even rise.
The most-leveraged companies (Evraz has guided
for USD700m in interest expense in 4Q08-3Q09)
are at a relative disadvantage. The least-leveraged
(MMK and NLMK) are in our view the bestplaced.
However, at the same time MMK has the
highest share of short-term debt and therefore
faces highest refinancing risk.
According to our liquidity and payables analysis,
Severstal and NLMK are best-placed; this is
further supported by recent newsflow that MMK
is being taken to court by suppliers and Evraz is
trying to conserve cash. Rouble depreciation
benefits those companies with the highest export
ratio, ie NLMK; the worst-positioned on this
measure is MMK, which not only has a very high
share of domestic sales, but also has a high share
of costs benchmarked to USD. Diversification
(both product and geographical) is also not in
favour of MMK.
Valuation-wise, Severstal and MMK trade at the
lowest multiples and P/B.
Based on these criteria, NLMK comes out as our
preferred play, although we note that it does not
have the highest potential return indicated by our
target prices. We like the stock for its strong
balance sheet and cash flow position,
geographical and product exposure (both flat and
long) and its electrical steel segment. Finally,
NLMK is the only Russian steel company that, on
our estimates, will show meaningful positive
profits in 2009. We upgrade to OW (V) from
Neutral (V), our new target price is
USD13.9/GDR (down from USD54.8). Now that
the overhang of the JMC deal has been removed,
we expect the stock to start outperforming once
the market turns around.

Evraz, on the other hand, is our least preferred
exposure to Russian steel due to its highest-geared
balance sheet and associated risks: the company’s
strategy of active M&A worked successfully on
the way to the top of the cycle but has turned
against Evraz on the way down: we downgrade to
N (V) from OW (V). Our new TP is USD10.0,
down from USD98 previously. What adds
uncertainty to the stock are the current discussions
about setting up a metals and mining giant of
which Evraz could be a part along with Norilsk
Nickel, Metalloinvest, Rusal and Uralkaly in
which case the outcome for minorities is unclear.
Stock screening
Evraz MMK NLMK Severstal
Liquidity analysis 1 2 3 4
Payables analysis 1 2 4 3
Refinancing risk 3 1 4 2
Gearing analysis 1 4 3 2
FX impact 2 1 4 3
Diversification 4 1 2 3
Valuation 1 3 2 4
Total score 13 14 22 21
Source: HSBC estimates
Even though we are using what we feel to are
extremely conservative steel price assumptions,
we still arrive at significant potential returns for
almost of our companies. We believe that, as
market sentiment calms down and we see the first
signs of revival in the steel industry towards the
end of the year, Russian steel companies could
start to retrace their steps.

Finally, as one would expect, the highest beta names
(eg. Evraz) were those most oversold in the recent
sell-off; however they will likely be the ones that
outperform most if the market turns around.
Steel industry
We expect 2009 to be the trough year when the
financials of steel companies across the globe
suffer significantly. On our estimates, global steel
production will fall 7.2% in 2009 on the back of
extremely weak demand, and we see further
downside risk to prices as raw materials prices fall
- by 30% for iron ore and by 60% for coking coal
- putting pressure on steel makers to cut prices.
We expect global steel demand to contract by
6.8% in 2009. On the positive side, wellsyncronyzed
production cuts in 4Q08-1H09 mean
that inventory may be better controlled and should
allow for a more rapid recovery, once the
economy turns around.