Business Context and Reporting Period
Company: Cliffs Natural Resources Inc. (formerly Cleveland-Cliffs Inc.)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2009
Business Overview: An international mining and natural resources company and the largest producer of iron ore pellets in North America. Operations include North American Iron Ore, North American Coal, Asia Pacific Iron Ore, and a 30% interest in the Amapá iron ore project in Brazil. The company is navigating a severe global economic downturn characterized by a collapse in steel demand and significant downward pressure on commodity prices.
Key Financial Metrics
| Metric (in millions, except per share) | Three Months Ended June 30, 2009 | Six Months Ended June 30, 2009 |
|---|---|---|
| Revenues from Product Sales and Services | $390.3 | $855.1 |
| Sales Margin | $(11.7) | $30.7 |
| Operating Income (Loss) | $(17.3) | $(5.9) |
| Net Income Attributable to Cliffs Shareholders | $45.5 | $38.1 |
| Earnings Per Share (Diluted) | $0.36 | $0.32 |
| Cash and Cash Equivalents (Balance Sheet) | $274.6 (as of June 30, 2009) | |
| Long-Term Debt | $525.0 (as of June 30, 2009) | |
| Net Cash Used by Operating Activities | $(160.3) (Six Months) |
Material Changes vs. Prior Period
- Revenue Decline: Consolidated revenues decreased 61% for the quarter and 43% for the six-month period compared to 2008. This was driven by a 58% volume decline in North American Iron Ore and a 50% volume decline in North American Coal due to reduced steel demand.
- Margin Compression: Sales margin turned negative for the quarter at $(11.7) million compared to $426.3 million in the prior year quarter. The six-month margin dropped to $30.7 million from $508.8 million.
- Foreign Exchange Impact: Results were favorably impacted by a $76.0 million unrealized gain on foreign currency contracts due to the appreciation of the Australian dollar (from A$0.69 to A$0.81). Without this gain, operating losses would have been significantly deeper.
- Cost Structure: Cost of goods sold decreased due to lower volumes and cost reduction efforts, but was offset by approximately $101 million in idle expenses related to production curtailments in North America.
- Equity Losses: Equity loss from ventures increased to $34.7 million for the six months, primarily due to operating losses and asset impairments at the Amapá project in Brazil.
Guidance, Outlook, and Risks
Management Commentary and Outlook
- Production Adjustments: The company has curtailed production at North American mines to align with demand. Full-year 2009 North American Iron Ore production is expected to be approximately 14.7 million equity tons (down from 22.9 million in 2008).
- 2009 Guidance:
- North American Iron Ore: Expected sales volume of 13-14 million tons; revenue per ton of $75-$80; cost per ton of $70-$80.
- North American Coal: Expected sales volume of 1.5 million tons; revenue per ton of $95-$100; cost per ton of $150-$160.
- Asia Pacific Iron Ore: Expected sales volume of 8.5 million tonnes; revenue per tonne of $60-$65; cost per tonne of $45-$55.
- Capital Actions: In May 2009, the company completed a public offering of 17.25 million shares, raising approximately $348 million. The quarterly dividend was reduced by 55% to $0.04 per share to enhance financial flexibility.
Risks and Contingencies
- Amapá Environmental Litigation: A court order in Brazil could require the cessation of activities at the Amapá mine pending an environmental audit. If served, operations may be suspended with daily penalties of approximately $26,000.
- Liquidity and Covenants: While the company currently has over $900 million in liquidity (cash plus credit facilities), continued economic decline or unfavorable currency changes could impact compliance with financial covenants in debt agreements.
- Customer Credit Risk: Consolidations in the steel industry and the economic crisis have increased the credit risk of customers, potentially affecting the ability to collect receivables.
- Energy Costs: The company faces supply concentration risks for electricity and natural gas, with recent rate increase proposals from suppliers like WEPCO.
Investor Verification Checklist
- Revenue Recognition: Verify the treatment of "bill and hold" sales and the impact of deferred revenue from 2008 on 2009 recognition.
- Foreign Exchange Sensitivity: Assess the sustainability of the $76 million unrealized FX gain and the exposure to AUD/USD fluctuations.
- Amapá Status: Monitor the status of the Brazilian court order and the potential for operational suspension or additional capital calls.
- Debt Covenants: Review the specific financial covenants (debt-to-earnings and interest coverage) and the company's compliance status given the current operating losses.
- Production Volumes: Confirm actual production rates against the revised 2009 guidance, particularly regarding the idling of North American assets.