Cliffs Natural Resources (NYSE:CLF) announced its third quarter earnings for 2013 on October 24 and conducted a conference call with analysts on October 25. It reported revenues of $1.546 billion, a slight increase year-over-year. In Q3 2012, the revenues were $1.544 billion. The higher revenues were driven by a 17% increase in global seaborne iron ore pricing, partially offset by lower market pricing for metallurgical coal products and a 2% decrease in global iron ore sales volumes. Net income stood at $113.9 million compared to $78.4 million in Q3 2012.
Net income increased due to lower costs and expenses that boosted margins. Cost of goods sold and operating expenses decreased by 11% from $1.35 billion to $1.2 billion, primarily driven by lower cost rates across all business segments. Cliffs also adopted measures to reduce exploration spending on drilling and other professional services for certain projects, and scaled back spending on chromite-related projects. 
Cliffs maintained its sales and production outlook for the U.S. Iron Ore division, North American Coal and the Asia-Pacific Iron Ore divisions. However, for the Eastern Canadian Iron Ore division, it narrowed its full-year sales volume expectations. 
Our price estimate for Cliffs Natural Resources is $32 after the latest results, which represents 30% upside to the current market price.
Higher Realized Iron Ore Prices
China is the world’s biggest consumer of iron ore and its surprisingly robust economic growth rate in face of slowdown expectations drove prices higher in the third quarter. The country is in the process of reorienting its economy away from investment in capital assets and towards greater domestic consumption, but the government chose to provide a monetary stimulus earlier this year to sustain the growth rate. Inventories of iron ore were also low, which led to a higher demand from the steel sector. China reported a GDP growth rate of 7.8% in the third quarter this year. However, the export data for September suggested that growth may moderate going forward as the central bank moderates its monetary policy stance. This will lead to lower iron ore prices going ahead. 
Although the majority of Cliffs’ revenues come from its North American iron ore business which sells primarily to U.S. customers, sales prices are nevertheless benchmarked to global prices, which are influenced to a large extent by the Chinese demand. In accordance with these trends, the pricing agency Platts reported an iron ore price of $133/tonne for the quarter, higher than $113/tonne in Q3 2012. 
Performance Of Various Business Segments
The U.S. Iron Ore business sales volumes of 6.3 million tons was down from 6.6 million last year. The decrease was primarily due to reduced sales to one customer arising out of a force majeure situation and the expiration of another customer’s contract. The impact was partially offset by increased domestic spot and export sales. Despite a 2% increase in revenue per tonne, total segment revenues decreased year-over-year from $796 million to $782.4 million due to lower volumes.
The Eastern Canadian Iron Ore business sold 2.6 million tons, an increase from 2.4 million tonnes sold in the third quarter last year. The increase was driven by higher sales from the Wabush mine. Year-over-year revenues increased from $253.1 million in Q3 2012 to $284.2 million, due to higher volumes as well as a 2.8% increase in revenue per tonne.
The Asia-Pacific Iron Ore division reported sales volumes of 2.8 million tons, down from 3 million tonnes last year. Revenues, however, rose from $254.2 million in Q3 2012 to $301.7 million due to a steep 28.4% rise in iron ore prices.
The North American Coal business recorded revenue of $178.3 million, a decrease from $241.8 million in Q3 2012. This was due to a steep fall in coal prices of 23.2% and lower sales volumes.
Other Business Developments
Cliffs’ Ring of Fire chromite project in Canada was thrown into jeopardy when Ontario’s land and mining commissioner rejected its application for permission to build a road to its deposits. The project is crucial for Cliffs because it would give it an opportunity to diversify its business which is heavily dependent on iron ore at the moment. In a previous article we wrote, you can read about the issues surrounding this project, the adverse ruling, and the ramifications for Cliffs. Since then, Cliffs has appealed the ruling in a higher court, but remains pessimistic about the project because the litigation process is likely to take a long time and the company cannot afford to wait that long. ((It’s off to court for Cliffs, Northern Ontario Business))
Outlook For 2013
Cliffs has maintained its sales outlook for the U.S. Iron Ore, North American Coal and Asia-Pacific Iron Ore business for the full year. It expects to sell 20-21 million tonnes from the U.S. Iron Ore operations, 10-11 million tonnes from the Asia-Pacific Iron Ore operations and 6-7 million tonnes from the North American Coal operations. For the Eastern Canadian Iron Ore division, the sales outlook has been narrowed to 8.5-9 million tonnes from the earlier broader range of 8-9 million tonnes.
Sales, general and administrative (SG&A) costs are expected to come down in the forthcoming quarters due to an enterprise cost reduction program that has been rolled out to optimize workforce strength through early retirements as well as voluntary and involuntary reductions in the number of personnel.
Capital expenditures for 2013 are expected to come down from previous estimates by $50 million and is expected to stand at $950 million. This is due to Cliffs’ plans to lower spending in the Eastern Canadian Iron Ore division in the fourth quarter.Notes: