Business context and reporting period
Cliffs Natural Resources Inc. (the registrant identified in the request as Cleveland-Cliffs Inc.) filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2011. It is an international mining company focused on iron ore and metallurgical coal, with operations in North America and Australia. On May 12, 2011, it acquired Consolidated Thompson, adding the Bloom Lake iron ore operation; results include that business from the acquisition date.
Financial performance and position
Unless otherwise noted, amounts are in U.S. dollars. The prior-year six-month comparative includes retrospective adjustments related to the Wabush acquisition.
| Metric | Three months ended June 30 | Six months ended June 30 |
|---|---|---|
| Revenue | $1,805.8 million, up from $1,184.3 million | $2,989.0 million, up from $1,912.0 million |
| Sales margin | $730.8 million; 40.5% of revenue, versus $414.7 million and 35.0% | $1,329.5 million; 44.5% of revenue, versus $564.7 million and 29.5% |
| Operating income | $616.9 million, versus $365.8 million | $1,158.1 million, versus $479.2 million |
| Net income attributable to Cliffs shareholders | $407.7 million, versus $260.7 million | $831.1 million, versus $338.1 million |
| Diluted EPS | $2.92, versus $1.92 | $6.02, versus $2.49 |
| Cash from operating activities | Not separately provided for the quarter | $725.0 million, versus $235.7 million |
At June 30, cash was $238.1 million, down from $1,566.7 million at year-end 2010. Current assets were $1,688.3 million and current liabilities $1,191.0 million (a current ratio of approximately 1.42). Debt was approximately $3.96 billion, including the current term-loan portion, versus $1.71 billion of long-term debt at year-end. The company reported $533.4 million of available capacity on its $600 million revolving credit facility and compliance with financial covenants.
Capital spending was $244.5 million in the first half, while investing cash outflow was $4,720.8 million, principally reflecting the $4,423.4 million net Consolidated Thompson acquisition outlay. Financing cash inflow was $2,659.4 million and included $853.7 million net proceeds from a share offering, $998.1 million from senior notes and $1,250.0 million in term-loan borrowings. The company declared dividends of $0.14 per share in the quarter; the board raised the quarterly dividend to $0.28 after quarter-end.
Material changes versus the prior comparable period
- Revenue and earnings increased substantially, driven chiefly by stronger iron ore pricing, higher sales volumes from acquired businesses, and the ArcelorMittal settlement. The company reported a $201.5 million first-half revenue impact from that settlement.
- Consolidated Thompson contributed $145.8 million of revenue and a $7.2 million operating loss from acquisition through quarter-end. Purchase accounting added $48.4 million of stepped-up inventory expense.
- Eastern Canadian Iron Ore sales margin rose to $68.5 million for the quarter and $103.0 million for the half-year. North American Coal reported sales-margin losses of $14.8 million and $17.7 million, respectively, amid mine disruptions and higher costs.
- Interest expense rose to $81.0 million for the quarter and $119.2 million for the half-year, reflecting acquisition financing and outstanding notes. Foreign-exchange contract gains supported other income: $50.4 million for the quarter and $106.7 million for the half-year.
- Cash fell sharply following the acquisition, despite improved operating cash generation; inventories also increased, from $269.2 million at year-end to $605.3 million.
Outlook, commentary, risks and unusual items
Management cited improving steel production and demand, particularly in China, and expected demand to remain steady through the rest of 2011. It estimated 2011 cash from operations of approximately $2.6 billion and maintained a capital-expenditure budget of approximately $1 billion. Full-year expected tax rate was approximately 26%; expected depreciation, depletion and amortization was raised to $440 million from $360 million.
- 2011 outlook: U.S. Iron Ore sales of about 25 million long tons, revenue per ton of $130–$135 and cash cost per ton of $55–$60.
- Eastern Canadian Iron Ore: sales of about 9 million metric tons, revenue per ton of $170–$175 and cash cost per ton of $85–$90. Bloom Lake’s initial production target was being expanded from 8 million to 16 million metric tons annually, with approximately $615 million approved for the expansion.
- Asia Pacific Iron Ore: sales outlook reduced to 8.8 million metric tons from 9 million; revenue per ton of $160–$165 and cash cost per ton of $60–$65.
- North American Coal: sales outlook reduced to 4.5 million short tons from 5.1 million; revenue per ton of $120–$125 and cash cost per ton of $110–$115.
- Management increased expected 2011 SG&A to about $240 million, citing acquisition costs and added Consolidated Thompson expenses. It expected $65–$70 million for global exploration and approximately $45 million for the Ontario chromite project.
Significant operational items include tornado damage at Oak Grove, with an estimated $55 million repair project and potential additional casualty losses; insurance recovery was uncertain. Pinnacle production was disrupted by elevated carbon monoxide, and the longwall was not expected to resume until early in the fourth quarter. Coal sales were also constrained by rail and port congestion. Northshore faced potential MPCA enforcement over elevated PM10 readings; the penalty amount was not yet disclosed. The filing also identifies the proposed Australian Minerals Resource Rent Tax, expected to apply from July 2012 if enacted, as a possible material risk.
Iron ore prices under certain U.S. and Eastern Canadian contracts remained provisional and subject to final settlement; the filing estimates a 25% change in settlement prices could change the relevant derivative value and revenue by approximately $34.2 million. Management also cautioned that changing spot-linked pricing, foreign exchange, fuel costs, integration of acquisitions, mine execution, regulatory approvals and litigation outcomes could affect results. ArcelorMittal and Algoma pricing disputes were settled during the period. Management believed pending litigation would not result in a material liability, while acknowledging adverse outcomes remain possible.
Important facts for investors to verify
- Final purchase-price allocation and integration performance for Consolidated Thompson, including Bloom Lake ramp-up, expansion costs and expected production.
- Realized iron ore pricing and the eventual settlement of provisional-price shipments, including the sensitivity disclosed by management.
- Coal production and sales recovery at Oak Grove and Pinnacle, repair spending, insurance proceeds and regulatory status.
- Liquidity and debt trajectory after the acquisition, including capital spending, term-loan repayment and the 2012 revolving-facility maturity.
- Potential costs or operational impacts from Northshore air-quality enforcement and any enacted Australian resource-rent tax.