Micron Technology Converts China Growth Into Cash in FY2017.

Micron Technology, Inc. (NASDAQ: MU), a global manufacturer of semiconductors, reported US$20.3 billion in sales for the fiscal year ended August 31, 2017. The company was able to derive most of this growth in China without sacrificing cash flow. A few issues stand out about Micro Technology, Inc.’s relationship with China.

First, the company is operating in an industry experiencing falling finished good prices and rising raw material prices. According to the U.S. Bureau of Labor Statistics (BLS), the import price of semiconductors and other electronic components from China experienced the second largest drop on a year over year basis of all the four-digit categories tracked. As of August, 2017, semiconductor import prices had fallen 1.1% over the previous twelve months and 2.9% on an annualized basis over the last five years. According to the United States Geological Survey (USGS), the average U.S. spot price for silicon metal in August, 2017 was 39% higher than the same month in the previous year. Despite this, Micro Technology, Inc. was able to grow global sales revenue by 63.9% between fiscal 2017 and fiscal 2016, but only incur a 20.1% increase in the cost of goods sold.

Second, the company derives more than half of its sales from customers in China, but has minimal transactions in renminbi. Sales in China reached $10.3 billion in fiscal 2017, or 51.1% of global sales. However, it only mentioned the euro, Singapore dollar, New Taiwan dollar, and yen as currencies other than the U.S. dollar that the company’s global operations have significant transactions and balances.

Third, despite selling more to Mainland China, Micro Technology Inc. reduced its net property, plant, and equipment in China on both a nominal and relative basis. Sales to customers in China increased 96.0% from the prior year and growth in China accounted for 64.2% of global 2017 growth. However, net property, plant, and equipment in China declined 7.7%, or $38 million, from the prior year. On a relative basis, 3.3% of the company’s net property, plant, and equipment was located in Mainland China as of September 1, 2016, but this proportion dropped to 2.3% as of August 31, 2017.

In the fiscal year ended August 31, 2017, Micron Technology, Inc. disproportionately benefited from new credit creation and had fantastic performance on a cash flow basis. The company’s U.S. dollar denominated sales in China exceeded the growth in the Chinese money supply and appreciation of the renminbi. Despite global sales increasing US$7.9 billion and China sales increasing US$5.0 billion in fiscal 2017, accounts receivables only increased by US$1.6 billion. On sales of US$20.3 billion, the company generated net income of US$5.0 billion and operating cash flows of US$8.1 billion. New sales did not come at the expense of higher working capital or lower profitability.

Schnitzer Steel Returns to Profitability, Bleeds Cash in 2017.

Schnitzer Steel Industries, Inc. (NASDAQ: SCHN) is one of North America’s largest recyclers of ferrous and nonferrous scrap metal. Worldwide steel production levels drive demand for the company’s products. In the fiscal year ended August 31, 2017, the company generated almost US$1.7 billion of sales globally. Compared with the previous year, sales grew 24.8% and increased more than US$335 million. The company is benefiting from the recent massive credit creation in China, but its ability to generate cash flow is worsening.

Sales to China increased to US$216 million from US$150 million, or 43.6%. The growth of sales to China was almost double the growth rate of global sales. The increase in sales to China accounted for 19.6% of global growth for the fiscal year. There are two ways the company is benefiting from artificial credit creation in China.

First, Schnitzer Steel Industries, Inc. notes that Chinese “steel producers are generally government-owned and may therefore make production decisions based on political or other factors that do not reflect free market conditions.” State owned enterprises have the easiest access to new funds from the Chinese banking system, which they can use to buy products from Schnitzer Steel Industries, Inc.

Second, sales outside of China benefit from higher global commodity prices. The company deals with iron, aluminum, copper, lead, and zinc. According to the World Bank, in the twelve months ended August, 2017, copper increased 36.5%, zinc increased 30.8%, lead increased 27.9%, iron increased 24.9%, and aluminum increased 23.8%. Yesterday, General Motors Company reported global vehicle sales data indicating China accounted for more than half of the world’s growth in vehicle sales. That should mean China is driving demand for industrial metals. Much of this demand has been fueled by the massive increase in corporate demand deposits in China.

Schnitzer Steel Industries, Inc. used this windfall to return to profitability after two years of negative net income and reduce debt, but had poor cash flow execution. Net cash provided by operating activities increased from the prior year by only slightly more than one million dollars. Had accounts payable remained flat, the company’s operating cash flow would have been more than 30% lower than the previous year.

Similar to other companies with significant operations in China, Schnitzer Steel Industries, Inc. has generated impressive revenue growth, but worsening cash flow. Although the company did not provide information on the global market for its products, China contributed significantly to its year-over-year growth. The company’s under-performance during the economic expansion indicates the company will also under-perform during the coming economic contraction.