UPDATE 2-Australia's BlueScope profit down, shares up on outlook

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MELBOURNE, Feb 25 (Reuters) - BlueScope Steel Ltd BSL.AX, Australia's largest steelmaker, posted a 21 percent drop in first-half profit due to increased iron ore costs, but its shares rose 6 percent after it said it expects a better second half.

BlueScope, which makes flat steel products for building and construction, said the second half would be largely driven by steel price increases, reflecting strong demand. It would also be able to pass on higher iron ore costs to customers.

For the second half, higher steel prices were expected mainly in the three months to the end of June, but there were risks from a softening in business in the United States due to slower non-residential construction.

Higher zinc and aluminium costs could also affect its coated steel businesses.

“They hope they can pass on the higher costs, but domestically it will be a far greater challenge,” said one analyst, who asked not to be identified.

BlueScope traded up 4.3 percent at A$11.89 by 0155 GMT.

Its underlying net profit for the six months to Dec. 31 fell to A$305 million ($282 million) from A$384 million, slightly above a forecast of A$294 million provided by Reuters Estimates.

Iron ore prices and freight costs have increased sharply, while the strong Australian currency has eaten into BlueScope’s U.S. dollar-denominated earnings.

Expected price increases in iron ore will generally not apply to BlueScope until July 1 because of supply contracts.

But Managing Director Paul O’Malley said steelmakers were well positioned to pass on massive increases in iron ore prices.

“With raw material price increases of 65 percent for iron ore, that is a big cost for an industry to swallow. It will be inflationary,” O’Malley told a briefing. “The industry is in a better structural position to pass that through than at any time in the past.”

The results included a writedown in value of a metallic coating and painting plant in Suzhou in China of A$190 million, hit by tight margins. BlueScope said it remains committed to the Asian businesses.

It also recorded a profit after tax of A$90 million on the sale of its stake in Smorgon Steel, as part of the carve-up of the smaller steel firm with rival OneSteel Ltd OST.AX.

Reported net profit was A$116 million. ($1=A$1.08) (Reporting by Victoria Thieberger; Editing by James Thornhill & Jan Dahinten)