Jame Cai's  Instablog

November 19, 2012, Cliffs Natural Resources (NYSU: CLF) announced 2013 operation adjustments as follows:

1. Eastern Canada Iron ore: to suspend certain components of the Phase II expansion at Bloom Lake Mine and delay its completion time from 2013 to 2014, but to continue constructions related to Phase I. Expected 2013 sales volume for Eastern iron ore is 9-10 million tons.

2. U.S. iron ore: to idle two of the four production lines at Northshore Mining in Minnesota from the beginning of 2013 and will temporarily idle production at its Empire Mine in Michigan beginning in the second quarter of 2013. These production curtailments will impact approximately 125 employees at Northshore and 500 employees at Empire mine, respectively. Expected 2013 sales volume for U.S. iron ore is 19-20 million tons.

On the day of the announcement, CLF closed at $35.29, only 4 cents lower than it on the previous day. The next day, November 20, before the market open, Goldman Sachs downgraded CLF to sell and lowered its price target to $25. The market seemed to agree to GS's downgrading, and CLF was down near 14% and closed at $30.48. But November 21, CRT upgraded CLF to buy with a price target of $50. The big difference in price target has caught my eye, and therefore I took a closer look into the impact of CLF's operation adjustment on 2013 sales volume and cash costs.

Sales volume will sustain

(in million tons)	Q1-Q3 2012	2012 Full Year	2013 Full Year
	Actual	Expected	Expected
Eastern Canada iron ore	6.6	8-9	9-10
U.S. iron ore	15.4	20-21	19-20
Total	22	28-30	28-30

Sales volume for Eastern Canada iron ore for 2013 will be higher by around 1 million tons compared to 2012. According to the Q3 report, the sales volume for Eastern Canada iron ore for the 9 months ended September 30, 2012 was 6.6 million tons. Considering Christmas holidays and cold winter in Canada, 1.4-2.4 million tons are a reasonable estimate for Q4, and therefore the total sales volume for 2012 will be 8-9 million tons. Though Bloom Lake Phase II expansion will be delayed, the Phase I is ramping up to full capacity, and the company set the expected sales volume for Eastern Canada iron ore for 2013 at 9-10 million tons.

Compared to 2012, sales volume for U.S. iron ore for 2013 will be lower by only about 1 million tons. For the U.S. iron ore segment, the company sold 15.4 million tons for Q1-Q3 2012, and likely the amount for the whole 2012 would be 20-21 million tons. In the November 19 announcement, the company remained the Full-year 2013 expected sales volumes for U.S. Iron Ore unchanged at 19-20 million tons as previously disclosed.

Eastern Canada and U.S. together, the expected iron ore sales volume for 2013 will be 28-30 million tons, roughly the same as it for 2012.

Cash costs per ton will be lower

The Bloom Lake Phase II will be delayed, but the ongoing constructions will put Phase I at full capacity, and then lower cash costs per ton dramatically. The expected cash costs per ton at Bloom Lake are $60-65 over long term, but they were as high as about $100 for Q1-Q3 2012 due to production below designed capacity and lack of supporting facilities. The designed production capacity for Phase I is 8 million tons, or 7.2 million tons as the company has chosen to produce premium, high grade ore, but the production for Q1-Q3 2012 was only 4 million tons, way below the designed capacity. The announced operation adjustments will delay Phase II, but constructions including supporting facilities related to Phase I will continue, and Phase I will be running at full capacity in 2013 to produce 7 million tons of premium ore, consequently the cash costs per ton will decrease significantly.

Compared to 2012, the adjustments for 2013 U.S. iron ore will decrease the sales volume by about 1 million tons, but the substantial labor cost savings will likely keep the cash costs per ton roughly the same range as 2012. The idling production will lay off 650 employees at least temporarily, 150 starting from the January and 500 in the second quarter. Suppose monthly salary and benefits and payroll taxes per employee are $8,000, the savings in labor costs would be around $5 million per month.

Also, despite the market condition, to idle or even eventually shut down Empire mine completely is not unexpected, as the mine is approaching its end of life. According to 2011 annual report, the recoverable reserves of Empire mine as of December 31, 2011 were merely 7.5 million tons, so to close down Empire and shift its demand to other mines should have been well planned long before the November 19 announcement.

Conclusion

Though the company is delaying Bloom Lake phase II expansion in Eastern Canada and idling part of U.S. iron ore production for 2013, the 2013 sales volume for Eastern Canada iron ore and U.S. iron ore together will sustain and the cash costs per ton will decrease. Its stock price is likely to recover soon if the current iron ore price stabilizes.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in CLF over the next 72 hours.

 

Country	Project/Area	Company	Supporter	Incremental Production (Mt/Y)
Australia	Pilbara, expansion	Rio Tinto		105
Guinea	Simandou	Rio Tinto	Chinalco, China	70
Brazil	Carajas Serra Sul	Vale		90
Brazil	Carajas, expansion	Vale		40
Brazil	Apolo	Vale		24
Brazil	Conceicao, expansion	Vale		12
Brazil	Vargem Grande, expansion	Vale		10
Oman	Sohar	Vale		9
Brazil	Tubarao	Vale		7.5
Brazil	Samarco	BHP and Vale		8
Australia	Pilbara, expansion	BHP Billiton		50
Australia	Solomon	Fortescue	Valin Steel, China	60
Canada	Lac Otelnuk	Adriana Resources	WISCO, China	50
Congo	Zanaga	Zanaga Iron Ore	Xstrata	45
Australia	West Pilbara Iron Ore	Aquila Resources	Baosteel, China	40
Australia	Chichester, expansion	Fortescue	Valin Steel, China	35
Cameroon	Mbalam	Sundance Resources		35
Canada	Labrador West, expansion	Iron Ore Company of Canada	Rio Tinto	32
Australia	Sino Iron project	CITIC Pacific, China		27.6
Brazil	Minas-Rio	Anglo American		26.5
Brazil	MIBA and MPB	Eurasian Natural Resources		25
Brazil	Salinas	Honbridge Holding, HK	Shan Steel, China	25
Canada	Taconite	New Millennium Capital	Tata Steel, India	22
China	Dataigou, Liaoning	Yizhongxin Mining		20
Liberia	Putu	Severstal, Russia		20
Brazil	BML	Eurasian Natural Resources		19.5
Canada	Mary River, Baffin Island	Arcelormittal	Nunavut Iron Ore	18
Brazil	Serra Azul, expansion	MMX	WISCO, China	15.3
Australia	Ridley	Atlas		15
Australia	Prairie downs	Dynasty Metals	Xinghua Steel, China	15
Australia	Balmoral	Australasian Resources	Capital Steel, China	12
Australia	China first iron ore project	Resource House ltd.	China Railway Group	12
Sierra Leone	Tonkolili	African Minerals	Shan Steel, China	12
Australia	Extension Hill	Asia Iron Holdings	Chongqing Steel, China	10
Australia	Pilbara, expansion	Atlas		10
Australia	Southern Eyre Peninsula	Centrex Metals	WISCO, China	10
Australia	Karara	Gindalbie	An-Steel, China	10
Bolivia	El Mutun	Jindal Steel, India		10
Canada	Mont-Wright	Arcelormittal		10
China	Macheng, Hebei	Hebei Steel		10
South Africa	Kolomela	Anglo American		9
Canada	Bloom Lake, expansion	Cliffs Natural Resources		8
Canada	Kami	Alderon Resource		8
Australia	Extension Hill, expansion	Mount Gibson Iron		6
Australia	Pilbara	Flinders Mines		5
Canada	Roche Bay	Advanced Explorations	XinXing Pipes, China	5
China	Baima, Sichuan	Pansteel		5
Finland	Kaunisvaara	Northland		5
Ivory Coast	Mount Nimba	Tata Steel		5
Venezuela		FMO	WISCO, China	5
China	Sijiaying, Hebei	Hebei Steel		4.8
Liberia	Yekepa	Arcelormittal		4
Mauritania	Guleb II	SNIM		4
Sierra Leone	Marampa	London Mining		3.6
Australia	Northern Eyre Peninsula	Centrex Metals	Baotou Steel, China	3
Brazil	Itambe	Centaurus Metals		3
Canada	Schefferville	Labrador Iron Mines		3
Australia	Koolyanobbing, expansion	Cliffs Natural Resources		2.5
South Africa	Thabazimbi	Aquila Resources		2.5
Australia	Koolan Island, expansion	Mount Gibson Iron		1
Total				1,170

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.