Business context and reporting period
Cliffs Natural Resources Inc. (the registrant identified in the filing; the request metadata names Cleveland-Cliffs Inc.) filed this unaudited Form 10-Q for the quarter ended September 30, 2012. The company produces iron ore and metallurgical and thermal coal across U.S., Canadian and Australian operations. Results cover the three and nine months ended September 30, 2012, compared with the same 2011 periods.
Financial performance and position
Amounts are in U.S. dollars unless noted. Figures below are in millions except per-share data.
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Revenue | $1,544.9 | $2,089.1 | $4,336.8 | $4,960.2 |
| Sales margin | $198.3 | $843.1 | $933.6 | $2,130.8 |
| Sales margin as % of revenue | 12.8% | 40.4% | 21.5% | 43.0% |
| Operating income | $76.3 | $817.1 | $661.3 | $1,945.4 |
| Net income attributable to Cliffs shareholders | $85.1 | $601.2 | $719.0 | $1,433.6 |
| Diluted EPS from continuing operations | $0.61 | $4.27 | $5.00 | $10.19 |
- Cash flow: Nine-month operating cash flow was $275.5, down from $1,545.7. Investing cash outflow was $784.7, including $793.6 of cash capital expenditures. Financing cash inflow was $27.2. Cash and cash equivalents ended the period at $36.3, versus $519.3 at year-end 2011.
- Liquidity: The $1.75 billion revolving facility had $250.0 drawn and approximately $1.477 billion available after letters of credit and other commitments. The company reported covenant compliance and approximately $1.5 billion of cash plus available credit.
- Debt: Balance-sheet debt was $3,884.0, including $369.7 current and $3,514.3 long-term, versus $3,683.5 at December 31, 2011. The October 16, 2012 amendment extended the revolving facility maturity to October 16, 2017. Disclosed principal maturities include $369.7 in 2013 and approximately $2.4 billion thereafter.
- Balance sheet: Total assets were $15,296.8 and total equity $7,689.2 at September 30, 2012. Current assets were $1,665.4 versus current liabilities of $1,714.3.
- Dividends: Dividends declared were $0.63 per share in Q3 and $1.54 per share for the nine months.
Material changes versus the prior comparable period
- Revenue fell 26.0% in Q3 and 12.6% for the nine months; sales margin fell $644.8 and $1,197.2, respectively. Management cited lower iron ore and coal pricing, higher costs and, for some operations, changing sales volumes and mix. Prior-year comparisons also include nonrecurring settlements and acquisition-related effects.
- Platts 62% Fe iron ore spot prices averaged $113.23 per ton in Q3 and $132.71 year to date, down 36.2% and 25.6%, respectively, from comparable 2011 averages.
- Eastern Canadian Iron Ore posted a $40.5 Q3 sales-margin loss and a $43.0 nine-month loss, versus margins of $191.0 and $293.5 in 2011. Asia Pacific Iron Ore had a $15.8 Q3 loss and $256.1 nine-month margin, versus $214.6 and $615.4. North American Coal improved to a $3.8 nine-month margin from a $60.4 loss, supported by higher volumes and recovery from prior-year mine disruptions.
- Lower earnings and timing of tax payments reduced operating cash flow. 2011 cash flow included $275.0 of ArcelorMittal and $129.0 of Algoma pricing true-up receipts that did not recur in 2012.
- Nine-month continuing earnings benefited from a $314.7 tax benefit related to Australia’s Minerals Resource Rent Tax (MRRT), partly offset by $60.5 of tax expense from currency elections; a $26.9 benefit also followed reversal of a tax-position liability. The tax benefit materially affects comparability.
- Capital additions rose to $974.0 from $553.3, principally reflecting investment in the Bloom Lake expansion. The company completed the Cockatoo Island asset sale in September for nominal consideration; transfer of certain rehabilitation obligations remained subject to registration of the mining tenements.
Outlook, commentary, risks and contingencies
- 2012 outlook: Management lowered its full-year seaborne iron ore price assumption to about $128 per ton from $145, and Chinese crude steel production expectation to about 715 million tons from 730 million. It reduced operating cash-flow guidance to about $600 million from $1.3 billion, while maintaining approximately $1.0 billion of capital expenditures.
- Segment guidance: U.S. Iron Ore sales volume was reduced to 22 million long tons from 23 million; revenue per ton remained $115–$120 and cash cost $60–$65. Eastern Canadian Iron Ore sales volume was reduced to 9.4 million metric tons and revenue per ton to $110–$115. Asia Pacific Iron Ore maintained sales guidance of 11.6 million metric tons but reduced revenue per ton to $100–$105. North American Coal sales guidance fell to 6.4 million short tons and revenue per ton to $120–$125; cash-cost guidance improved to $105–$110.
- Management expected full-year SG&A of about $275 million, DD&A of about $515 million, and an effective tax-rate benefit of about 35%; excluding MRRT and other discrete tax items, it expected an effective tax rate of about 8%. It forecast a $25 million equity loss from Amapá and expected the Sonoma sale to close in Q4 for approximately AUD $141 million.
- Bloom Lake Phase II requires more than $1.3 billion of capital investment. Management revised expected Phase I annual production to approximately 7.2 million tons and expansion-phase production to 14.5 million metric tons annually, below the 16.0 million nameplate capacity, to produce higher-grade concentrate.
- Key risks: Continued weakness or volatility in iron ore and metallurgical coal prices, reduced Chinese demand, operating or production shortfalls, foreign-exchange and energy costs, customer and joint-venture disputes, and project execution could pressure earnings, cash flow and asset values. CQIM goodwill of $997.3 million was particularly sensitive to iron ore price, cost and expansion assumptions; its 2011 tested fair value exceeded carrying value by about 7.8%.
- A proposed EPA regional-haze plan could require $200–$330 million of U.S. Iron Ore capital expenditures over four years; the company was pursuing a lower-cost alternative. Other disclosed matters include a proposed $1 million Pinnacle mine penalty, a proposed $250,000 Northshore penalty, and Bloom Lake arbitration with WISCO over minimum distributions and expansion funding. A proposed Rio Tinto site consent decree provides for approximately $12 million as the company’s share of a $25 million settlement.
- Management said available liquidity and financing arrangements were expected to fund operations and strategic plans, but projected 2012 operating cash flow below capital expenditures, debt payments, dividends and other cash requirements. The filing states disclosure controls were effective at a reasonable-assurance level.
Important facts for investors to verify
- Whether iron ore and coal prices, demand and realized revenue per ton support management’s lowered 2012 guidance and 2013 volume expectations.
- Whether operating cash flow, working-capital needs and available revolver capacity can support the Bloom Lake expansion, planned capital spending, debt maturities and dividends.
- Bloom Lake’s production ramp, cash costs, expansion budget and schedule, and the outcome of the WISCO arbitration.
- Results of the October 1, 2012 goodwill impairment test for CQIM and the assumptions used for long-term iron ore prices and project costs.
- Final regional-haze requirements and resulting capital costs, along with developments in the disclosed environmental and legal matters.
- Completion and proceeds of the Sonoma sale, and transfer of Cockatoo Island rehabilitation obligations upon registration of its tenements.