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2.64 - 0.49
7/18/03 4:02:00 PM ET

REUTERS
TEXT-Moody's cuts AK Steel ratings, outlook now stable
Reuters, 07.18.03, 4:30 PM ET


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Metals - Steel  Ratings News 
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(The following statement was released by the rating agency)

Approximately $1.3 Billion of Debt Securities Affected

NEW YORK, July 18 - Moody's Investors Service lowered its ratings for AK Steel Corporation and changed its rating outlook for the company to stable.

The downgrade of AK Steel's senior implied rating, to B1 from Ba3, reflects near-term revenue and margin erosion due to soft steel prices and cost pressures, potentially large pension contributions if funding levels for its defined benefit pension plans do not improve, and a possible lessening of cost competitiveness as other steel companies take actions to limit pension and retiree healthcare liabilities. However, AK Steel's good liquidity, rich product mix, and favorable long-term prospects for its ability to make cost saving modifications to its employee benefit plans support the current ratings and stable outlook. This concludes Moody's review of AK Steel.

The following ratings were downgraded: (i) AK Steel's $125 million of senior secured notes due 2004, to Ba3 from Ba2, (ii) senior unsecured debt, to B2 from B1; this includes $117 million of 9% guaranteed senior notes due 2007, $33.5 million of 8.875% guaranteed senior notes due 2008, $450 million of 7.875% guaranteed senior notes due 2009, and $550 million of 7.75% guaranteed senior notes due 2012, (iii) senior implied rating, to B1 from Ba3, and (iv) senior unsecured issuer rating, to B2 from B1.

AK Steel's SGL-2 speculative grade liquidity rating was confirmed. The rating downgrade reflects a combination of cost and price factors that are expected to negatively impact AK Steel's cash flow over at least the next year, and possibly longer. In the first half of 2003, the company's margins and cash flow were impacted by higher costs, particularly for natural gas, scrap steel, slabs, and pension and healthcare benefits, and by lower shipments and production volumes due to weak steel demand and high inventory levels.

Moody's estimates that higher prices for natural gas, scrap and slabs have increased AK Steel's costs in the first half of 2003 by approximately $25/ton when compared to 2002. While these costs have moderated somewhat in recent weeks, they are likely to continue to be higher this year than they were in 2002. At the same time, soft steel demand and the restart of previously idled carbon flat-rolled steelmaking capacity have lowered spot prices for flat-rolled steel by about $30/ton since the beginning of the year. Reduced light vehicle production in the US and automakers' narrow profit margins are expected to exert downward pressure on selling prices for steel destined for the automotive market, which accounts for around 60% of AK Steel's sales.

Approximately 80% of AK Steel's sales of flat-rolled products in 2002 were made to contract customers. About one-third of these contracts are renegotiated at the end of every year. AK Steel's margins are also being impacted by higher pension and healthcare benefit costs, and the cash requirements of these benefit plans place an additional strain on AK Steel's cash flow and debt protection measurements. Its underfunded pension plans may require significant cash contributions within several years and cash payments for its other postretirement benefit (OPEB) plans are expected to be around $100 million in 2003, up from $70 million in 2002.

While the $100 million of expected 2003 pension costs is mostly non-cash, there is a high probability that the company will have to make a significant ERISA-mandated pension contribution in 2005, depending on pension plan asset return performance and discount rate assumptions. Moody's believes that the pension contribution could be $150 - 200 million per year. The company may also elect to make voluntary pension contributions in 2003 or 2004. It contributed $39 million to its pension plans in 2002. Despite these near- and intermediate-term pressures, Moody's believes that AK Steel benefits from a number of favorable factors, which are reflected in the stable rating outlook. The company's mix of high value-added products is probably unequalled in the industry. Its excellent reputation for quality, service, and technological leadership should enable it to maintain its role as a major supplier of coated, cold-rolled, and specialty steels to demanding customers. AK Steel's track record is one of the reasons that Moody's believes the company will be able to work with its employees and labor unions to modify labor agreements and benefit costs to obtain some of the cost advantages that steel companies such as ISG and US Steel have negotiated. While these efforts will be made more difficult by the various unions that represent AK Steel's workers and past labor acrimony, the unions will want to promote the health of a successful large employer such as AK Steel.

Industry-wide pricing and cost trends and the competitiveness of AK Steel's cost structure will be key rating factors for the company going forward. AK Steel is well-positioned from a liquidity standpoint, and Moody's confirmed its SGL-2 speculative grade liquidity rating for the company. It ended the June 2003 quarter with $193 million of cash and it had no drawings under its $300 million receivable-based credit facility, although letter of credit usage was $90 million. AK Steel is also close to closing on a new $400 million inventory-based senior secured credit facility. AK Steel's capex is estimated to be around $100 million for 2003 and its only required debt payment is a $62.5 million payment due in December 2003.

The acquisition of ArvinMeritor's Central Tubing Facility, which is expected to close in the third quarter, will reduce liquidity somewhat. Nevertheless, assuming it has full access to the new inventory-based credit facility, AK Steel will have ample liquidity with which to sustain a protracted period of weak operating cash flow and, if needed, fund pension contributions. Weak economic and steel market conditions have caused AK Steel's operating income and EBITDA to decline over the last two-and-one-half years. For the 12 months ended June 30, 2003, AK Steel had operating income of negative $49 million, EBITDA of $180 million (these two figures exclude the $817 million "corridor" pension and OPEB charge taken in 4Q02), and cash from operating activities of $140 million. Interest expense and capex have averaged around $230 million per year. At June 30, AK Steel's debt was $1,323 million and, as of 12/31/02, its pension plans were underfunded by $980 million per GAAP. Therefore, debt was 7.3 times EBITDA and debt plus underfunded pension was 12.8 times EBITDA.

AK Steel, headquartered in Middletown, Ohio, produces flat-rolled carbon, stainless and electrical steel products for automotive, appliance, construction, and other markets.

Copyright 2003, Reuters News Service





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