Sims guides to earnings hit in 2H FY23

Having been on a downward trajectory since trading at a year-to-date high of $22.46 21 April, Sims (ASX: SGM) share price was down a further -10% in early afternoon trade ($11.49) after the scrap metal group’s first quarter update revealed that soft market conditions, announced at the FY22 Financial Results, have persisted throughout the first quarter of FY23.

Due to lower volumes, tighter margins and high inflation the group expects a significant earnings hit in the first half of FY23.

As a result, the group guided to underlying earnings (EBIT) for the first half of FY23 in the range of $65m to $75m, a 79% fall on the $361.7m recorded in the previous period.

The company reminded investors that shipments, scheduled to occur close to the half-year end and in accordance with revenue recognition policies, can potentially impact whether earnings (EBIT) are attributed to first or second half FY23.

Cost containments disappoint

While the group has been looking for ways to trim costs to offset a halving of metal prices in response to sharp rises in interest rates, managements notes that cost containment initiatives, implemented in the first quarter of FY23, have only partially helped to mitigate inflationary pressures.

While the company expects costs to remain elevated in the first half of FY23, the forecast FY23 sustaining capex of $170m is $50m lower than the previous forecast of $220m.

Management also notes that lower scrap volumes resulting from significantly reduced economic activity, plus greater competition for available infeed, has tightened trading margins in both percentage and dollar per tonne terms.

Short-term headwinds

While inflation remains at multi decade highs across all the company’s markets - including in the US, where inflation surged to a 40-year-high – CEO Alistair Field believes headwinds, driven by macroeconomic factors, are only short-term for the S&P/ASX 200 company.

Field still believes the company remains well positioned for when the market recovers, with new and innovative acquisitions, and significant growth in SA Recycling’s footprint, providing a solid platform to work towards the 2025 business goals.

“They do not alter our belief in, and our focus on, the medium-term outlook for the business,” Field noted.

“I have every confidence that the fundamentals for metal recycling remain positive for the medium-term, with the decarbonisation of steel making, growth of EAFs, and the energy transition expected to continue driving demand.”

What brokers think

Sims share price is down -18% over the last 12 months and have been on a notable downtrend since late April.

Consensus on Sims is Hold.

Goldman Sachs rates Sims Neutral with a target price of $14.40.

Based on Morningstar’s fair value of $19.93 the stock appears to be undervalued.

Yesterday, Morgan Stanley lowered its target price on Sims to $13 from $19, after noting a more challenging outlook.

The broker believes a slower global growth environment makes a rebound in scrap prices unlikely but retains an Equal-weight rating.

Based on the six brokers that cover Sims (as reported on by FN Arena) the stock is currently trading with 33.6% upside to target price of $15.01.

Late October Macquarie downgraded Sims to Underperform from Neutral, (target price $10.80) after flagging concerns over high leverage to volumes, noting margins are susceptible to a volume contraction. 

Early October Ord Minnett downgraded Sims to Hold from Buy (target price $15.40) after concluding that the risks for mining stocks are skewed to the downside.

Sims Ltd share price over 12 months.