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Investing.com -- Following its third-quarter results, Jefferies raised its rating on Nippon Steel Corp (TYO:5401) shares to Hold from Underperform and the price target to 3,200 Japanese yen from 2,200.
The investment bank’s analysts pointed to the steelmaker’s strong balance sheet, which would allow it to maintain year-over-year dividend levels without the need to raise equity.
They also believe Nippon Steel will not be able to buy United States Steel Corporation (NYSE:X), thus incurring a $565 million termination fee.
“Nippon insists on buying the whole franchise for $14.9bn and invest billions more to upgrade existing facilities in the US including a full technology transfer,” Jefferies analysts led by Thanh Ha Pham said in a note.
“We think that a minority stake in US Steel is not an option as it is not in Nippon’s interest to nurture a strong rival,” they added.
They also noted Nippon’s history of inadvertently bolstering competitors through technology transfers, referencing past assistance to Baosteel and POSCO (NYSE:PKX).
Jefferies’ skepticism around the acquisition is driven by several concerns. The firm argues that the purchase price is high, given that recent EBITDA was inflated by supply constraints during COVID-19.
It also questions Nippon’s ability to manage such a large overseas operation independently, noting its limited track record in this area. Additionally, they highlight the significant concessions made to U.S. workers and warn that Nippon may need to dilute shareholders to finance the deal.
At this juncture, we think that Nippon will not be able to purchase US Steel, and we bake the $565m termination fee into our earnings forecast for FY3/26,” analysts noted.
“Still, this is a blessing in a disguise, as Nippon won’t have to raise new equity, and will be able to sustain its ¥160 dividend per share (DPS), in our view.”
Analysts have updated their earnings forecasts for Nippon Steel, expecting a business profit of 799 billion yen for the fiscal year ending March 2026, up from an estimated 681 billion yen in the previous year.
They project that the stock will find support at the 3,200 level with a 5% dividend yield.
The upgrade reflects Jefferies’ expectation of stable domestic margins and slight cost reductions due to the shutdown of a blast furnace at Kashima Works in the fourth quarter of the fiscal year ending March 2025.
The firm projects that domestic blast furnace operations will contribute 290 billion yen in business profit for the fiscal year ending March 2026, with auto production slightly increasing year-over-year.
Jefferies also assumes that raw material costs for iron ore and coking coal will remain steady, with exchange rates at 150 yen per US dollar. However, it expects weak steel supply and demand (S/D) conditions to negatively impact overseas steel operations, and one-off gains from the previous fiscal year will not be repeated.
While Nippon’s newly acquired assets like Blackwater coking coal and stainless steel businesses may contribute to earnings, analysts argue overall profits are likely to stagnate without a significant growth driver.