Cliffs To Exit Eastern Canadian Iron Ore Operations As Part Of Ongoing Response To Poor Market Conditions

-0.35%
Downside
20.07
Market
20.00
Trefis
CLF: Cleveland-Cliffs logo
CLF
Cleveland-Cliffs

Cliffs Natural Resources (NYSE:CLF) has announced that it is pursuing exit options for its Eastern Canadian Iron Ore operations. This may result in the closure of the Bloom Lake mine, Cliffs’ only operational mine in Canada. [1] The company has made the decision to exit its Eastern Canadian Iron Ore operations, as it has been unable to attract strategic investors in order to undertake Phase II expansion of the mine. The management had stated  in its Q3 earnings conference call that the ongoing Phase I operations at Bloom Lake are not economically feasible, and that it would continue to operate the mine in 2015 only if it could find equity investors for Phase II expansion by the end of the year. [2]

Cliffs’ review of its Bloom Lake mine was prompted by the sharp decline in iron ore prices over the last twelve months. The decline in iron ore and metallurgical coal prices has negatively impacted Cliffs’ operations.

See our complete analysis for Cliffs Natural Resources

Relevant Articles
  1. What’s New With Cleveland-Cliffs Stock?
  2. What’s Happening With Cleveland-Cliffs Stock?
  3. Why We Are Raising Our Price Estimate For Cleveland-Cliffs Despite A Weak Q4
  4. With Contracted Prices For 2023 Up, Is Cleveland-Cliffs Stock A Buy?
  5. Company Of The Day: Cleveland-Cliffs
  6. What To Expect From Cleveland-Cliffs Q3 Results?

Iron Ore and Coal Prices

Iron ore and metallurgical coal are important raw materials for the steel industry. Thus, demand for these raw materials by the steel industry plays a major role in determining their prices. Though a majority of Cliffs’ iron ore sales are to the North American steel industry, sales agreements are benchmarked to international iron ore prices. International iron ore prices are largely determined by Chinese demand, since China is the largest consumer of iron ore in the world. It accounts for more than 60% of the seaborne iron ore trade. [3] Weak demand for steel in China has translated into weak demand for iron ore. Chinese steel demand growth is expected to slow to 3% and 2.7% in 2014 and 2015 respectively, from 6.1% in 2013. [4] A slowdown in economic growth has tempered the demand for steel. China’s GDP growth is expected to slow to 7.3% and 7.1% in 2014 and 2015 respectively, from 7.7% in 2013. [5] Furthermore, a Chinese government crackdown on polluting steel plants has forced many of them to shut down. In addition, the tightening of credit by Chinese banks to steel mills that are not performing well, will negatively impact these mills’ prospects. [6] The Chinese leadership has proposed structural reforms of the economy, shifting the emphasis from investment and export driven growth to services and consumption led growth. Such a transformation of the Chinese economy may negatively impact Chinese demand for steel in the long term. The weak Chinese economic prospects are captured by the Manufacturing Purchasing Managers’ Index (PMI). The Manufacturing Purchasing Managers Index (PMI) measures business conditions in the manufacturing sector of the concerned economy. When the PMI is above 50, it indicates growth in business activity, whereas a value below 50 indicates a contraction. Chinese Manufacturing PMI, reported by China’s National Bureau of Statistics, stood at 51.1 for September, and has ranged between 50.2 and 51.7 for the whole year. [7] With weak Chinese manufacturing growth, demand for steel is expected to remain subdued in China.

On the supply side, expansion in production by majors such as Rio Tinto and BHP Billiton has created an oversupply situation. A combination of weak demand and oversupply is likely to result in lower iron ore prices in the near term. [8] Iron ore prices stood at $82.38 per dry metric ton (dmt) at the end of September, around 38% lower than at the corresponding point of time last year. [9] This fall in iron ore spot prices was mirrored by the reported realized prices by the company in Q3. The realized prices for the company’s Eastern Canadian Iron Ore and Asia Pacific Iron Ore business segments fell 33.5% and 36.5% respectively, on a year-over-year basis in Q3. [10] The realized prices for the U.S. Iron Ore operations fell only 10.6% year-over-year in Q3, as contracts for this division are mostly priced based on 12-month averages and are less susceptible to volatility in iron ore spot prices. [11]

As per Goldman Sachs, the worldwide surplus of seaborne iron ore supply will rise to 175 million tons in 2015, from an expected 72 million tons for 2014 and 14 million tons for 2013. [12] In view of the persisting oversupply situation, iron ore prices will remain subdued in the near term.

China is also the largest consumer of metallurgical coal in the world. Demand for the commodity by the Chinese steel making industry has been weak, adding to subdued demand from other major consumers such as Japan and the EU. Weak demand coupled with an oversupply situation due to expansion in production by major mining companies, has resulted in plummeting coal prices. [13] This will have a negative impact on Cliffs’ North American coal business, which primarily sells metallurgical coal, whose prices are linked to prices of Australian metallurgical coal. The benchmark Australian metallurgical coal price stands at around $119 per ton, around a third of its 2011 peak level of $330 per ton. [14] Cliffs’ North American Coal division reported a 23.5% year-over-year decline in realized prices in Q3. [11] In view of the oversupply situation, metallurgical coal pricing is expected to remain subdued in the near term.

Trefis Estimate

In view of the management’s decision to exit the Eastern Canadian Iron Ore operations, we have revised our estimates for shipments and margins for the company’s North American operations. This has led to a revision in our price estimate for Cliffs from $10.35 to $8.87. We will be keenly following developments at Cliffs in order to fully understand how the company intends to operate in the prevailing subdued commodity pricing environment.

View Interactive Institutional Research (Powered by Trefis):
Global Large CapU.S. Mid & Small CapEuropean Large & Mid Cap
More Trefis Research

 

Notes:
  1. Cliffs Natural Resources Inc. To Pursue Exit Options For Its Eastern Canadian Operations, Cliffs Natural Resources News Release []
  2. Cliffs Natural Resources Q3 2014 Earning Call Transcript, SEC []
  3. China Ore Stockpiles Rise to Record on Financing Deals, Bloomberg []
  4. Short Range Outlook for Apparent Steel Use 2013-2015, World Steel Association []
  5. Goldman Sachs cuts China growth forecast sharply, Market Watch []
  6. The Latest Iron Ore Price Slump: Causes and Effects, Forbes []
  7. China Manufacturing PMI, Trading Economics []
  8. BHP, Rio Gamble with Stacked Iron ore Deck, Mineweb []
  9. Iron Ore Spot Prices, Y Charts []
  10. Cliffs Natural Resources Q3 2014 Earnings Release, SEC []
  11. Cliffs Natural Resources Q3 2014 Earnings Release, SEC [] []
  12. Iron Ore Price Forecast Cut by Morgan Stanley on Supply, Bloomberg []
  13. Coking coal price crashes through $100, Mining.com []
  14. Metallurgical Coal at 6-Year Low as Chinese Demand Slows, Bloomberg []