Time To Seriously Consider Cliffs Natural Resources

Feb.14.14 | About: Cliffs Natural (CLF)

Executive summary:


Cliffs Natural Resources is showing a high level of bullish activity on Stock Twits shortly after the release of earnings for 2013. In after-hours trading, CLF has already jumped over 7% shortly after the earnings release. There has been a flurry of positive information for Cliffs lately, a bottom in the price most certainly emerged not long ago, and the price will most likely rise during the coming weeks. Cliffs has a 52 week trading low of $15.41 and a high of $38.55. At current price levels, a high upside potential exists. Here is a brief analysis of the latest information surrounding Cliffs.

Q4 Earnings Report:

The fourth quarter's earnings report for 2013 has come in at $1.22, after adjustments for one-time events. Analysts at Zach's Investment Research had a consensus estimate of $0.77, indicating that the quarter performed roughly $0.45 better then the expectation. This will certainly drive the share price upwards.

With an annual EPS for 2013 of $3.85 we now have a Twelve Month Trailing P/E of 5.7 which clearly shows the stock as undervalued at current prices. In an article early in January, I had indicated that the CAPE Ratio was probably an early indication that this stock was undervalued. Now that the negative quarter from over a year ago has fallen out of analysis for the more commonly used Twelve Month Trailing P/E Ratio, it would appear that the CAPE Ratio and the P/E ratio are roughly the same.

Additionally the earnings report indicated a reduction in debt that clearly improves the picture for the P/B ratio which had already been favorable at 0.66. Debt now stands at roughly 2.7 Billion.

New CEO - Gary Halverson:

In a previous article I had mentioned that Gary Halverson was operating at the helm of Cliffs since Mid-November. While Gary was earning the CEO spot at Cliffs, Casablanca Capital had attempted to back another candidate who might have been more accepting of their proposal for a split of the company.

However a strong move towards changing the management structure at Cliffs is important for an improvement in the share price, especially after several poor decisions by prior management. Halverson brings a strong track record in management of mining companies which will surely benefit Cliffs. This key change, and confirmation of change in management, is critical for an improved share price.

Capital Expenditures:

The new CEO Gary Halverson who has for all intents and purposes been at the helm of Cliffs since Mid-November, has indicated that "sharper allocation of capital" is necessary for Cliffs to be profitable. The press release indicated that the capital expenditures for 2014 will be more in the range of 375 million to $425 million as opposed to $862 million as it was in 2013. This represents a sharp reduction from its full-year 2013 capital spending of $862 million.

Part of this reduction in capital expenditures is the close of the Wabash Mine which produces Iron Ore at a cost too great for the market to bear.

With respect to Bloom Lake, Halverson indicated the following:

Bloom Lake's ore body is well suited for a global market that increasingly values quality and diversification of supply, but it also requires time and capital to be properly developed, built out, and operated to realize its full potential. Ultimately we must extract the highest value from Bloom Lake for our shareholders and operating Phase I preserves all possible options for this asset.

However if Iron Ore prices fall significantly for an extended period of time Cliffs will discontinue operations with respect to Phase II. This will allow for preservation of the asset until the price levels increase.

The news of the CAPEX reductions was not met by very positive reviews from the various analysts covering the stock. These analysts include Goldman Sachs, Nomura, and Credit Suisse.

On Wednesday Goldman Sachs issued a statement indicating that it retained its Neutral rating on the stock, and maintained its price target of $21.00. Goldman Sachs also reiterated its position that the Iron Ore market is headed for a decline and that the spot price will soon be in the mid $80's range. It should be noted that Goldman Sachs has the most pessimistic view of the Iron Ore market as a consensus of analysts puts the future spot price closer to $115 - $120.

Additional analysts at Nomura and Credit Suisse indicated that the decision to leave Bloom Lake open and delay the pursuit of Phase II, was simply delaying the inevitable. Credit Suisse indicated that most investors already had assumed that Bloom Lake would eventually be discontinued.

However the right move for Cliffs is to reduce the capital expenditures and, if the spot price for Iron Ore does not stay at adequate levels, not push forward with Phase II. In Michael Porter's landmark book entitled Competitive Advantage from 1985, he indicates that one of the benefits of competitors within the same industry or field, is that they Absorb Demand Fluctuations. It is important that companies not pursue increased ability to supply demand unless it is cost effective. While some analysts might consider the decision by Cliffs to be a negative, it is most likely that others will consider it to be a positive.


The board at Cliffs Natural Resources has confirmed a good CEO, Gary Halverson, with a proven track record to lead Cliffs. There has been a clear shift in allocating capital as CAPEX has been reduced by over 50%. Most likely, the increased focus on reducing CAPEX for 2014 at Cliffs will have the same salutary effects that Rio Tinto (NYSE:RIO) had for 2013 which were unveiled Thursday. If so, we are looking at a good long-term hold as RIO increased earnings by roughly 10% last year.

The cherry on top for Cliffs, is the positive earnings report that beat analysts' expectations. At an adjusted $1.22 per share EPS, Cliffs has completed a solid quarter that will most assuredly result in a share price increase. Even with the one-time event write-downs for Wabash and the Chromite project, Cliffs is seeing a positive profit for the quarter.

Since Cliffs has had a change in management, an improvement in earnings from 2012, and followed RIO's lead on reducing capital expenditures, it is time to be long on CLF.

Disclosure: I am long CLF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.