Cleveland-Cliffs Inc. — Q3 2019 Form 10-Q
Reporting period: Three and nine months ended September 30, 2019. Figures are unaudited and in U.S. dollars; dollar amounts are in millions unless noted. Cleveland-Cliffs’ continuing operations consisted of Mining and Pelletizing and Metallics; the Toledo HBI plant was under construction, with no Metallics revenue.
Financial results and condition
- Q3 revenue: $555.6, down 25.1% from $741.8 in Q3 2018. Sales margin was $154.9 (27.9% of revenue), versus $261.6 (35.3%). Operating income was $121.6, versus $225.5.
- Q3 earnings: Continuing-operations net income was $91.8, compared with $199.8; diluted continuing-operations EPS was $0.33 versus $0.64. Total net income was $90.9 versus $437.8, with the prior-year total substantially boosted by discontinued operations.
- Nine-month results: Revenue was $1,455.8 versus $1,636.1; sales margin was $448.8 versus $607.6. Operating income was $347.6 versus $510.0. Continuing-operations net income was $231.1 versus $415.8; diluted continuing-operations EPS was $0.80 versus $1.37.
- Adjusted EBITDA: $144.1 for Q3 and $413.7 for the first nine months, down from $250.3 and $578.3, respectively, in the comparable 2018 periods. Management attributed the declines primarily to lower sales margin; prior-year comparisons also included discontinued-operation effects in unadjusted EBITDA.
- Cash flow and investment: Nine-month operating cash flow was $388.1, compared with $188.7. Investing cash outflow was $449.5, including substantial HBI construction and Northshore upgrade spending. Cash capital expenditures, including deposits, were $460.7. Financing cash outflow was $366.9, including share repurchases, dividends and debt transactions.
- Liquidity and debt: September 30 cash and equivalents were $399.3, down from $823.2 at year-end 2018; including $8.0 of cash classified in other current assets for discontinued operations, total cash was $407.3. Available ABL borrowing capacity was $366.7, with no amounts drawn, for reported liquidity of $774.0 including cash and ABL availability. Current assets were $1,064.6 and current liabilities $458.5. Long-term debt carrying value was $2,109.1; principal maturities totaled $2,238.0, with no debt maturities before 2024.
- Balance sheet and capital returns: Total assets were $3,491.2 and equity $359.9. The company repurchased 24.4 million shares for $252.9 during the first nine months, paid $45.1 of dividends and declared a Q3 regular and special dividend totaling $0.10 per share, paid after quarter-end.
Material changes versus the prior comparable period
- Lower customer demand reduced Q3 sales volume to 5.75 million long tons from 6.48 million; nine-month sales volume declined to 13.53 million from 14.06 million. Q3 realized product revenue per ton fell 9.5% to $95.65; nine-month realized revenue per ton fell 4.9% to $103.26.
- Higher iron ore benchmark prices partly offset lower hot-rolled coil steel prices and lower estimated pellet premiums. The company cited the hot-rolled coil price decline as a significant drag on realized revenue.
- Q3 production rose 9% year over year to 5.16 million long tons, while nine-month production was essentially flat at 14.74 million tons. Cash cost of goods sold per ton increased 1.1% in Q3 and 4.8% for the nine-month period.
- Cash declined amid expansion spending, share repurchases and dividends. Property, plant and equipment, net, increased to $1,769.9 from $1,286.0, with construction-in-progress rising to $668.9 from $284.8.
- The company issued $750 million of 5.875% notes due 2027, used proceeds and cash to retire all $124 million of 2021 notes and repurchase $600 million principal of 2025 notes, and recorded an $18.2 debt-extinguishment loss.
- Q3 2018 total net income included a $228.1 foreign-currency translation gain recognized in discontinued operations after the Australia exit. The company reported a $0.9 discontinued-operations loss in Q3 2019.
Outlook, commentary and risks
- 2019 Mining and Pelletizing outlook: Sales volume was revised to 19.5 million long tons; production guidance was 20.0 million tons. Cash cost of goods sold guidance remained $62–$67 per long ton. Based on year-to-date index averages, management estimated full-year realized revenue of $101–$106 per ton; using October 22 spot prices, it estimated $97–$102.
- Other 2019 guidance: SG&A of $120 million, net interest expense of $100 million, depreciation, depletion and amortization of approximately $85 million, and an effective tax rate of approximately 10% (reduced from 12–14%). Cash tax payments were expected to be zero. Capital expenditure guidance was lowered to $625–$675 million.
- The Toledo HBI plant was expected to begin commercial production in the first half of 2020. Total expected project spending was approximately $830 million plus contingency of up to 20%; management expected about $180 million in Q4 2019 and $245 million in 2020. Management expected total cash capital expenditures of approximately $540 million over the next 12 months, including HBI development and sustaining capital.
- Management said cash, operating cash generation and ABL availability should be adequate for operations, investment and commitments for at least 12 months, subject to steelmaker demand and commodity-price volatility. It also stated that it expected operating cash flow to cover operations, debt service and dividends.
- Key exposures include iron ore prices, pellet premiums, hot-rolled coil prices, customer demand, energy and fuel costs, production execution, HBI construction and ramp-up, environmental and mine-closure obligations, permits, and legal proceedings. The company had not hedged the customer steel-price derivative or provisional-pricing exposures. A $75/ton change in the relevant HRC estimate was estimated to change the customer-agreement derivative value by about $24 million; specified iron ore and pellet-premium changes could alter the provisional-pricing net derivative value by about $14 million and $11 million, respectively.
- Management said pending legal matters were not expected, based on information then available, to have a material effect, while noting adverse outcomes could be material. The Mesabi Metallics litigation remained ongoing; the Seneca litigation was dismissed with prejudice in August 2019. Disclosure controls were concluded effective.
Most important facts for investors to verify
- Whether lower steel demand, HRC prices and pellet premiums persist, and how customer contract pricing translates into realized revenue and sales margin.
- Whether 2019 sales, production, cost and capital-spending guidance is achieved, including the planned HBI schedule, final cost and production ramp-up.
- Whether operating cash flow and liquidity remain sufficient after expansion spending, dividends and other commitments; monitor cash balance and ABL availability.
- Debt terms, refinancing execution and the implications of the 2027 notes and convertible notes, including the distinction between debt principal and carrying value.
- Potential effects of derivative fair-value changes, legal proceedings, environmental and mine-closure obligations, and other disclosed operational and regulatory risks.