CLEVELAND-CLIFFS INC. quarterly report, Q1 FY2019

Cleveland-Cliffs Inc. — Q1 2019 Form 10-Q

Reporting period: Three months ended March 31, 2019; unaudited. Cleveland-Cliffs supplies iron ore pellets to North American steelmakers and is building a hot briquetted iron (HBI) plant in Toledo. Results are from continuing operations unless stated otherwise.

Financial results and liquidity

Metric	Q1 2019	Q1 2018
Revenue	$157.0 million	$180.0 million
Sales margin	$30.9 million	$61.5 million
Operating income (loss)	$(0.8) million	$30.3 million
Net loss	$(22.1) million	$(84.3) million
Adjusted EBITDA	$21.1 million	$52.3 million
Cash used by operating activities	$(111.2) million	$(142.9) million
Cash used by investing activities	$(125.6) million	$(71.4) million

Revenue declined 12.8%, while sales margin fell $30.6 million. Management attributed weaker margin mainly to lower realized product revenue and higher unit costs. Sales margin per long ton declined 47.8%, to $19.93.
Net loss improved from the prior-year quarter largely because the 2018 period included a $70.9 million loss from discontinued operations, primarily the Asia Pacific Iron Ore exit. Continuing-operations loss widened from $13.4 million to $22.1 million. Adjusted EBITDA decreased $31.2 million.
Cash and cash equivalents were $430.2 million at quarter-end, down from $823.2 million at year-end. Including $10.8 million classified in other current assets for discontinued operations, cash was $441.0 million. ABL borrowing capacity available was $240.0 million, with no borrowings; reported combined liquidity was $681.0 million.
Long-term debt had a carrying value of $2.087 billion. Principal maturities totaled $2.202 billion, including $114 million due in 2021 and $400 million in 2024. The company repurchased $10.0 million principal amount of 2021 notes during the quarter.
Capital expenditures and deposits drove investing outflows, including approximately $90 million for the Toledo HBI project and $20 million for Northshore upgrades. The company repurchased 11.5 million shares for $124.3 million and paid $14.8 million in dividends.

Material changes and management commentary

Mining and Pelletizing revenue was $157.0 million versus $180.0 million; sales volume was 1.550 million long tons versus 1.611 million. Production attributable to Cliffs was 4.401 million long tons versus 4.500 million.
Realized product revenue was $93.81 per long ton, down 10.7%. Management cited weaker hot-rolled coil steel pricing, partly offset by higher estimated iron ore pricing. Cash cost of goods sold rose 8.6% to $61.94 per long ton; cited factors included maintenance, lower energy rebates, transport, stripping and royalties.
Management described iron ore market conditions as favorable, citing Vale-related supply disruptions and elevated pellet premiums. The Platts 62% iron ore price averaged $83 per metric ton and the Atlantic Basin pellet premium averaged $67 per metric ton in Q1. Domestic hot-rolled coil steel averaged $692 per net ton, 9% below the prior-year quarter.
Level 3 derivative assets tied to a customer supply agreement were $106.4 million. Management estimated that a $75 per net ton change in hot-rolled coil steel price could change the derivative’s fair value and revenue by approximately $25.5 million.
Toledo HBI construction is expected to finish and production to begin in 2020. The company expects total HBI investment of approximately $830 million through 2020, excluding construction contingencies and capitalized interest; approximately $265 million had been spent or deposited through March 31.

Outlook, risks and contingencies

For 2019, management maintained sales and production expectations of 20 million long tons each and Mining and Pelletizing cash cost of goods sold guidance of $62–$67 per long ton. At specified year-to-date average pricing assumptions, expected revenue was $108–$113 per long ton; using April 24 spot prices, the indicated range was $111–$116.
Other maintained or updated expectations: SG&A of $120 million (about $20 million non-cash), net interest expense of $100 million, depreciation/depletion/amortization of about $80 million, and total capital expenditures of about $555 million including capitalized interest. The estimated effective tax rate was revised to approximately 12%–14%; cash taxes were expected to be zero. Management expected a $117 million cash tax refund in Q2.
Management expected operating cash generation to meet operating needs, debt service and dividends over the next 12 months, while noting exposure to steelmaker demand and volatile iron ore and domestic steel prices. Principal risks include commodity-price volatility, project execution and cost, permitting and environmental obligations, energy supply and costs, liquidity and indebtedness, and customer or partner performance.
Environmental and mine-closure obligations totaled $177.3 million. The company reported various claims and proceedings, but management did not expect them, individually or in aggregate, to materially affect results; unfavorable outcomes could nonetheless have a material effect in a future period.
After quarter-end, the board authorized an additional $100 million share-repurchase program; together with remaining prior authorization, approximately $129 million was available as of April 25, 2019. Repurchases are discretionary. The company also expected a final $44 million Empire partnership distribution and quarterly dividends of about $15 million.

Important facts for investors to verify

Whether realized pellet pricing and unit costs support the company’s 2019 margin and cash-cost guidance.
Progress, remaining committed spending and schedule for the Toledo HBI plant and Northshore upgrades.
Cash conversion and liquidity after significant capital spending, dividends, share repurchases and the Empire distribution.
Exposure of revenue and reported derivative value to hot-rolled coil steel and iron ore prices, including the Level 3 valuation assumptions.
Debt maturities, ongoing interest burden, and the sustainability of dividends and discretionary buybacks under weaker market conditions.