Cliffs Natural Resources Inc. — Q3 2014 Form 10-Q
Reporting period: Three and nine months ended September 30, 2014. The filing is by Cliffs Natural Resources Inc. (the registrant named in the 10-Q). Financial figures are in U.S. dollars; amounts are in millions except per-share data and where noted.
Business context and results
Cliffs produced iron ore and metallurgical and thermal coal through U.S. Iron Ore, Eastern Canadian Iron Ore, Asia Pacific Iron Ore and North American Coal operations. The company reported sharply lower commodity prices, a Wabush mine idling, and a major change in leadership and strategy during the quarter. New CEO Lourenco Goncalves and the board viewed Eastern Canadian Iron Ore, Asia Pacific Iron Ore, North American Coal and Ferroalloys as non-core assets and were evaluating strategic alternatives, including possible divestitures.
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Revenue | $1,298.2 | $1,546.6 | $3,339.0 | $4,175.6 |
| Sales margin | $127.5 | $348.7 | $282.7 | $854.8 |
| Sales margin as % of revenue | 9.8% | 22.5% | 8.5% | 20.5% |
| Operating income (loss) | $(7,759.1) | $224.0 | $(7,821.5) | $654.3 |
| Net income (loss) attributable to Cliffs common shareholders | $(5,892.4) | $104.3 | $(5,977.4) | $334.3 |
| Diluted earnings (loss) per common share | $(38.49) | $0.66 | $(39.05) | $2.14 |
Cash flow, debt and liquidity
- Operating cash flow was $104.0 for the first nine months, down from $685.9 in 2013. Investing cash outflow was $207.9, versus $734.4; financing cash flow was $17.4, versus $162.0.
- Cash and cash equivalents were $244.0 at September 30, down from $335.5 at year-end 2013. Cash was reduced by $91.5 over the nine-month period.
- Total debt carrying value was $3,247.2, including $234.7 of short-term and current debt and $3,012.5 of long-term debt. Cash less total debt implies net debt of approximately $3,003.2.
- At September 30, the revolving facility was $1.25 billion, with no revolving loans drawn; letters of credit reduced reported available capacity to approximately $1.2 billion. The company reported approximately $1.4 billion of cash plus facility availability entering Q4.
- Total assets were $4,811.2 and total liabilities $4,988.5; total equity was negative $177.3, following the quarter’s impairment charges. The company reported compliance with its financial covenants as of September 30.
Material changes and unusual items
- Q3 revenue declined 16.1% and nine-month revenue declined 20.0% year over year. Management attributed much of the decline to lower product pricing: reported pricing impacts were $311.5 for Q3 and $656.4 year to date. The Platts 62% Fe iron-ore spot average fell 31.9% to $90 per ton in Q3 and 23.0% to $104 year to date.
- A $7,769.1 impairment charge was recorded in Q3: $7,695.6 for long-lived assets and $73.5 for Asia Pacific goodwill. The charges reflected lower long-term iron-ore and metallurgical-coal price assumptions and strategic review of non-core operations. Bloom Lake accounted for a particularly large impairment.
- The nine-month income tax benefit was $1,012.3, primarily associated with impairment charges, partly offset by valuation allowances and other tax items. The benefit did not prevent a substantial net loss.
- Wabush idling and related costs were $85.9 for the first nine months; management estimated approximately $100 for full-year 2014. Minimum shipment penalties were $81.6 year to date, including penalties associated with Bloom Lake expansion delays and cancellation of a Wabush rail contract.
- Adjusted EBITDA, a company-defined non-GAAP measure, was $233.3 in Q3 and $582.9 year to date, down from $423.5 and $1,045.2, respectively. The measure excludes impairment and specified other items; reported EBITDA was deeply negative because of impairment charges.
- Capital spending fell to $233.2 for the first nine months from $742.2. Cash dividends declared were $0.15 per common share per quarter and $0.44 per preferred depositary share per quarter during Q3.
Outlook, management commentary and risks
- For 2014, management maintained expected sales and production volumes of 22 million long tons for U.S. Iron Ore, 6.5 million metric tons for Bloom Lake, 11 million metric tons for Asia Pacific Iron Ore and 7 million short tons for North American Coal. Wabush was excluded from Bloom Lake guidance.
- Expected 2014 cash cost per ton: U.S. Iron Ore $65–$70; Bloom Lake $80–$85; Asia Pacific $50–$55, lowered from $55–$60; North American Coal $80–$85, lowered from $85–$90. The filing gives segment-specific DD&A expectations and consolidated 2014 DD&A of approximately $485.
- Management expected 2014 capital expenditures at the low end of its prior $275–$325 range, SG&A of approximately $165 excluding about $45 of severance, change-in-control and proxy-contest costs, and exploration cash outflow of $10. It expected operating cash flow to be exceeded by capital expenditures and dividends in 2014, while stating available liquidity should fund requirements for at least 12 months.
- Management assumed a Q4 seaborne iron-ore price of $80 per ton for full-year iron-ore revenue sensitivities. It cited U.S. demand as relatively supportive but expected weaker Chinese demand and rising supply to keep pressure on raw-material prices. Bloom Lake’s future and any Phase II expansion remained undecided; the company was seeking steelmaker equity partners and said it would pursue alternatives if unsuccessful.
- After quarter-end, an October 24 credit amendment reduced the revolving facility to $1.125 billion, added collateral, replaced the debt-to-capitalization covenant with a secured-debt-to-EBITDA limit of 3.5 times, and made restricted payments subject to a $400 million liquidity test. It also eliminated the receivables securitization facility and restricted certain investments and subsidiary debt. The filing described the amendment as preserving flexibility, but the tighter facility terms and collateral requirements warrant attention.
- Risks include commodity-price declines, liquidity and financing access, Bloom Lake’s economics and expansion, possible asset sales, customer and joint-venture obligations, currency and energy costs, mine-closure and environmental liabilities, and litigation. A Worldlink arbitration decision was pending; Cliffs claimed damages exceeding $85 and faced a counterclaim exceeding $100. Other disclosed matters included a pipeline-related lawsuit and EPA notices alleging taconite regulatory violations. A new Minnesota rule requires plans to reduce mercury emissions, though the company said proven technology to meet targets was not yet available.
Important facts for investors to verify
- Whether forecast commodity prices and segment cost assumptions are achieved, especially for Bloom Lake and North American Coal.
- Bloom Lake’s funding, Phase II prospects, operating economics and any resulting strategic decision or additional closure obligations.
- Liquidity headroom and compliance under the amended credit agreement, including collateral actions, covenant calculations and the $400 million liquidity test.
- Whether Wabush closure costs and minimum shipment penalties stay within management’s estimates, and whether further asset impairments arise.
- Potential outcomes and financial exposure from the Worldlink arbitration, shareholder litigation, pipeline lawsuit and environmental matters.