Business context and reporting period
Cliffs Natural Resources Inc. (the registrant named in the filing) reported unaudited results for the three months ended March 31, 2016. Continuing operations comprise U.S. Iron Ore and Asia Pacific Iron Ore. The company had exited its North American coal business in December 2015; Canadian operations were deconsolidated following insolvency proceedings and are reported in discontinued operations.
Financial performance and liquidity
| Metric | Q1 2016 | Q1 2015 or prior date |
|---|---|---|
| Revenue | $305.5 million | $446.0 million |
| Sales margin | $30.9 million; 10.1% | $80.8 million; 18.1% |
| Operating income (loss) | $(0.3) million | $71.9 million |
| Income from continuing operations | $114.3 million | $166.8 million |
| Net income (loss) attributable to Cliffs shareholders | $108.0 million | $(759.8) million |
| Diluted EPS from continuing operations | $0.61 | $0.94 |
| Adjusted EBITDA | $36.3 million | $94.4 million |
| Net cash used by operating activities | $126.5 million | $228.2 million |
| Cash and cash equivalents | $59.9 million | $285.2 million at Dec. 31, 2015 |
| Debt carrying value, including current portion | $2,516.6 million | $2,699.4 million at Dec. 31, 2015 |
| Total liabilities / total assets | $3,583.0 million / $1,886.3 million | — |
Q1 net income included a $178.8 million gain on debt extinguishment/restructuring; the prior-year quarter included a $313.7 million gain. These non-operating gains materially affect the comparison. Q1 2015 also included a $928.5 million loss from discontinued operations. Interest expense was $56.8 million, up from $42.9 million. No cash dividend was declared in Q1 2016.
Cash fell by $225.3 million during the quarter. The company used $4.9 million in investing activities and $93.4 million in financing activities, including $72.9 million to repay equipment loans. At March 31, the ABL Facility had no borrowings; after letters of credit and borrowing-base limits, available capacity was $258.6 million. Cash plus available capacity provided about $318.5 million of liquidity. Current assets were $792.0 million versus current liabilities of $439.8 million. Total deficit was $1,696.7 million.
Material changes versus the prior comparable period
- Revenue declined 31.5%, primarily from lower iron ore sales volumes, weaker realized prices, and the termination of a customer contract. Lower costs partly offset the revenue decline, but sales margin fell $49.9 million.
- U.S. Iron Ore sales margin fell to $13.2 million from $80.0 million, with sales volume down to 1.91 million long tons from 2.95 million. The segment faced lower demand and $24.5 million of additional idle costs.
- Asia Pacific Iron Ore sales margin increased to $17.7 million from $0.8 million, mainly due to lower production and transportation costs and favorable foreign exchange, despite lower sales volume and realized revenue per ton.
- Adjusted EBITDA decreased $58.1 million. Cash used by operations improved year over year, but remained negative.
- Common shares increased following conversion of preferred shares into 26.5 million common shares and a separate 1.8 million-share debt-for-equity exchange.
Outlook, commentary, risks and unusual items
Management maintained 2016 segment volume and cost guidance: U.S. Iron Ore sales of about 17.5 million long tons and production of 16 million tons, with cash production cost of $50–$55 per ton; Asia Pacific sales and production of about 11.5 million metric tons, with cash production cost of $25–$30 per ton. Full-year 2016 guidance also included approximately $100 million of SG&A, $220 million of interest expense (about $185 million cash), $120 million of depreciation, depletion and amortization, and capital expenditures of $75 million, increased from the prior $50 million estimate. Revenue-per-ton assumptions vary with the Platts IODEX iron ore price and, for U.S. Iron Ore, assumed customer hot-rolled steel prices.
Management said 2016 capital spending and debt-service cash needs were expected to exceed estimated operating cash flows, but believed available cash and ABL capacity could fund normal operations and obligations for the next 12 months. It warned that weaker demand or iron ore and steel prices could further pressure liquidity; additional asset sales, cost cuts, refinancing, or lender relief might be needed and might not be sufficient. Iron ore price sustainability remained uncertain despite a Q1 rally. Management cited modest U.S. steel-market improvement, while expecting zero-to-negative growth in Chinese steel production.
- On March 2, the company exchanged $512.2 million principal of existing notes for $218.5 million principal of new 8.00% 1.5-lien notes and recognized a $174.3 million troubled-debt-restructuring gain. Reported interest expense on these notes will differ from contractual cash interest. A putative class action challenges the exchange offers.
- After quarter-end, the company borrowed $60 million on April 1 and $45 million on April 28 under its ABL Facility for general corporate purposes; it expected to repay these borrowings during Q3 2016.
- Canadian asset-sale proceeds are held by the court-appointed Monitor for proceedings and creditor distribution. The company recorded Canadian-related guarantee liabilities and stated it could not estimate possible losses in excess of its accrual; future changes could materially affect results.
- The Essar contract dispute was settled on April 25, subject to documentation and court approval; the settlement provides for pellet supply to resume in the second half of 2016.
- The $84 million settlement of one securities class action was funded by insurers and awaited court approval; a separate $10 million insured settlement was approved April 14. The company said pending litigation outcomes could still have adverse effects, though it did not expect other pending matters to be material based on information then available.
- The company planned to restart Northshore pellet production by May 15, 2016, and increased capital spending guidance to fund specialized pellet production at United Taconite. Several U.S. mines had been idled, contributing to higher costs.
Important facts for investors to verify
- Whether sales volumes, realized prices, and segment cost guidance are achieved amid volatile iron ore and steel markets.
- Actual cash burn, ABL borrowings and availability, debt-service requirements, and compliance with liquidity and covenant conditions.
- Canadian proceedings, creditor recoveries, and the ultimate amount of Cliffs’ guarantee and other contingent exposures.
- Final court approval and implementation of the Essar settlement, and the outcome of litigation challenging the debt exchange offers.
- Whether the planned Northshore restart and United Taconite investment deliver the expected production and customer benefits.