Algoma Steel Inc. reported net income of $78.0 million on revenues of $439.8 million for the quarter, and net income of $100.1 million on revenues of $777.6 million for the six months ended June 30, 2004.

Second Quarter Results—Net income of $78.0 million ($1.93 fully diluted income per common share) compares to net income of $3.8 million in the second quarter of 2003 and $22.1 million in the first quarter of 2004. The improvement was due mainly to higher selling prices for all products as steel markets continued to be very strong.

Revenue of $439.8 million represents an increase of $135.9 million versus the three months ended June 30, 2003, and $102.0 million versus the first quarter of 2004. The increase over both quarters was the result of a significant improvement in steel selling prices. The average steel price per ton of $729 compares to $472 for the comparable three-month period in 2003 and $556 for the first quarter of 2004.

EBITDA was $144.2 million, compared to $9.7 million for the same quarter of 2003 and $59.9 million for the first quarter of 2004.

Raw steel production was 613,000 tons, versus 608,000 tons for the same period in 2003 and 622,000 tons for the first quarter of 2004. Steel shipments totaled 543,000 tons, down 47,000 tons from the second quarter of 2003 and 30,000 tons from the first quarter of 2004. Shipments for both the first quarter of 2004 and the second quarter of 2003 benefited from a reduction in steel inventories.

Average steel revenue per ton (excludes coke and other non-steel revenue) increased to $729 in the second quarter compared to $556 in the first quarter and $472 in the second quarter of 2003. Non-steel sales increased substantially to $29.3 million, which included $20.8 million of coke sales. The average cost of steel products per ton increased to $471, which compares to $427 in the first quarter and $433 in the second quarter of 2003. This increase versus the same period last year was mainly attributable to an accrual for profit sharing and higher costs for natural gas and certain raw materials.

The improvements in earnings and cash flow resulted in a further strengthening of the balance sheet. The cash balance increased by $103.1 million to $178.8 million at June 30 despite the payment of accrued interest of $19 million for the 11% and 1% Notes. The company has no bank borrowings and unused availability under the Revolving Credit Facility increased to $172 million.

Comments—Denis Turcotte, President and CEO, said, "The continued strengthening in North American sheet and plate pricing has resulted in strong margins. The focus of the management team and workforce on improving our commercial and operating performance within this environment allowed us to achieve better than expected second quarter results. This has improved our financial position with our cash balance exceeding our interest bearing debt at the end of the quarter. We believe the new collective agreements with the two USWA Locals, representing approximately 2900 employees, are fair and balanced and reward our employees for their contributions to our success. These improvements in our risk profile, along with increased financial flexibility, position Algoma well for the future."

The company's profitability is highly correlated with the level of steel prices which is the major factor causing variation in quarterly operating results. Industry pricing is largely dependent on global supply, the level of steel imports into North America and economic conditions in North America. Since U.S. markets establish pricing levels, the exchange rate of the Canadian dollar to the U.S. dollar significantly impacts pricing realizations for Canadian producers.

Industry pricing levels increased throughout most of 2002 because of strong demand and a decline in production capacity in the U.S. Sales revenue in the fourth quarter of 2002 was negatively impacted by a maintenance shutdown that was necessary to complete maintenance on the blast furnace. Steel prices declined in the first three quarters of 2003 due to higher steel production in the U.S., low-priced imports and lower steel demand in North America. The significant strengthening of the Canadian dollar in 2003 contributed to lower pricing realizations for Canadian producers. Pricing levels increased in the fourth quarter of 2003 and the first and second quarters of 2004 due to stronger global markets, particularly China, and improved steel demand in North America. Pricing for the first and second quarters of 2004 included a cost surcharge on the majority of shipments due to higher costs of raw materials and other cost inputs.

Six Month Results—Net income of $100.1 million ($2.68 per fully diluted share) represents a significant improvement from last year's results of $10.6 million ($0.34 per diluted share). Sales, $777.6 million, represent an increase of $159.9 million versus the same period last year. Average steel price per ton was $640, an improvement of $145 (29%) versus the comparable six-month period in 2003.

Steel shipments totaled 1,116,000 tons, down 39,000 tons from the six-month period ended June 30, 2003. The variance is mainly attributable to a reduction in steel inventories in the first six months of 2003 from the 2002 year-end levels.

EBITDA was $204.1 million, an improvement of $172.6 million versus the same period last year. The significant improvement over the comparable period was mainly attributable to higher steel prices. Raw steel production was 1,235,000 tons, down 18,000 tons from the same period last year.

Financial Expense (Income)—The Canadian dollar weakened versus the U.S. dollar over the second quarter, resulting in a foreign exchange loss of $3.5 million, mainly attributable to the long-term debt denominated in U.S. funds. This compares to a gain of $18.9 million in the second quarter of 2003 and a loss of $0.6 million in the first quarter of 2004. For the six months ended June 30, 2004, the company has recognized a foreign exchange loss of $4.1 million, versus a gain for the same period last year of $32.5 million. Whereas the Canadian dollar has weakened against the U.S. dollar over the first six months of 2004, the dollar strengthened significantly during the comparable period last year.

Interest expense, net of interest income, was $4.2 million in the second quarter, versus $6.7 million for the same period last year and $5.3 million for the first quarter in 2004. For the six months ended June 30, 2004, net interest expense was $9.6 million, versus $14.5 million for the same period in 2003. The improvement in interest expense is mainly due to lower borrowings and interest income earned on cash balances originating from improved earnings levels and the February 2004 equity issue.

Financial Resources and Liquidity—Cash provided by operating activities was $121.3 million for the three months ended June 30, 2004 compared with $70.2 million for the three months ended June 30, 2003. Operating working capital increased by $20.2 million in the quarter primarily due to an increase in accounts receivable because of higher selling prices and a seasonal increase in inventories, offset by an increase in accounts payable and accrued liabilities. The increase in accounts payable and accrued liabilities was mainly due to the restructuring obligation to employees ($10 million) due June 30, 2005 changing from a long-term liability to a current liability and the increased profit sharing accrual.

For the six months ended June 30, 2004, cash provided by operating activities was $130.8 million compared with $101.9 million for the six months ended June 30, 2003. Operating working capital increased by $68.7 million primarily due to an increase in accounts receivable of $97.9 million because of higher selling prices and a decrease in accrued interest on long-term debt because of an interest payment at the end of the current quarter, offset by an increase in accounts payable and accrued liabilities due to the restructuring obligation to employees and the profit sharing accrual noted above.

The current liability for pensions and other post-employment benefits has been increased to $42.0 million from $29.3 million at March 31, 2004 to reflect higher pension funding estimated for 2005. The related long-term liability has been reduced to reflect this change.

Capital expenditures for the three and six month periods ended June 30, 2004 were $8.3 million and $17.4 million, respectively. Expenditures in the corresponding periods of 2003 were $7.4 million and $13.6 million. Proceeds on the sale of capital assets in the quarter were $0.4 million and $14.6 million for the six months ended June 30, 2004. These proceeds relate to the sale of tube mill assets and surplus land.

Financing activities for the three months ended June 30, 2004 included a decrease in other long-term liabilities of $10.0 million (restructuring obligation to employees). For the six months ended June 30, 2004, financing activities also included proceeds of a common share issue of $81.5 million and a decrease in bank indebtedness of $20.4 million. For the three months ended March 31, 2003, financing activities included a $10 million repayment of the term loan and a decrease in bank indebtedness of $52.7 million. For the six months ended June 30, 2003, financing activities consisted of payments on the term loan of $20 million and a decrease in bank indebtedness of $68.2 million.

Unused availability under the revolving credit facility at June 30, 2004 was $172 million compared to $169 million at March 31, 2004. The corporation is required to maintain a minimum availability of $25 million.

Outlook—With continued strength in the steel markets, the company expects to realize further increases in revenue on a per ton basis in the third quarter. The company estimates that the amount of its contract business will increase to approximately 47% from 38% in the first half of 2004. A further increase in costs is anticipated in the third quarter, but escalation in selling prices is expected to exceed cost increases.

Higher steel margins, combined with additional coke sales, are expected to result in a further increase to the cash balance. Imports into North America have increased in 2004 and have the potential to place downward pressure on steel prices.