The Rising Influence of Rising Affluence

[Democritus_of_Abdera]

Regarding possible CLF projection reduction...

The main reason that I fear CLF might reduce its FY2012 projections in the upcoming CC (i.e. on July 25) is that Cliff’s original projections were based upon an average $150/ton iron ore spot price as delivered to China. Whereas, during the past quarter the Chinese spot price has been stuck in the $130-140/ton range.

Secondarily, I suspect that CLF might continue to experience unexpected costs associated with its recent acquisition binge, although I have no hard data ... just following the trend. I doubt, however, that SG&A cost increases will have a meaningful impact upon projections.

At the out start I should warn that my fears are rarely realized, ...unfortunately, the same holds true for my hopes.... And, my actions don’t reflect my fears... i.e. I’m considering purchasing more CLF at these levels. The question is, do I make the purchase before or after the July 25th CC. Hence, the reason that I am focusing upon this issue at this time.

I have found the table published in CLF’s April news release summarizing the 2012 guidance for its four business segments useful... it is found at http://www.sec.gov/Archives/edgar/data/764065/000119312512184213/d340908dex991.htm

1) The first point is that almost half of CLF’s profits are derived from US Iron Ore sales... These sales are stable and unlikely to deviate much from current projections. ... The US income does rely in some part upon Seaborne spot prices, but according to an answer in the Apr 26 CC, this reliance is minor.

2) The second point is that changes in the expectations regarding coal income is unlikely to have a meaningful impact upon the guidance, since coal profits currently represent only a small portion of the total income.

3) So, a downgrade in revenue projections would most likely come from the Eastern Canadian and Asia Pacific iron ore accounts.

Eastern Canadian Iron Ore (12M tons estimated for FY2012) was projected to produce revenue at $140-145/ton with costs of $80-85/ton. Estimating shipping costs at about $30/ton, I believe that the net income from Eastern Canadian iron ore was projected to be about $360M... This would be reduced to about $240M if the FY2012 spot price average is reduced by $10. A reduction of $120M.

Similarly, Asian Pacific net income would be reduced from about $625M to $510M (assuming shipping costs of about $15/ton, a wild guess). A reduction of $115M.

Hence, I suspect that the basis for CLF’s projections will include an incremental reduction in net income of about $200-250M from that reported by CLF in April.

Thus, I’m speculating that CLF’s report next week will include a reduction in the guidance for cash from operations from $1.7 billion to about $1.45 billion, still above the $1.3 billion needed to cover projected CapEx and dividends.

4) SG&A costs are expected to approximate $325M in FY2012... Even though I fear that costs might increase, I doubt that the increase will be enough to meaningfully move overall cash flow guidance.

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Admittedly this is a very amateurish analysis... but I don’t have access to critical raw data and I feel that a more detailed analysis on my part might sound better, but would not be any more reliable.

An important timing question (i.e. should one purchase CLF stock before or after the CC) relates to whether or not my expectation for reduced guidance is already priced into the stock. In April CLF stock was priced at about $70/share... It is now at about $45/share.

My estimate of $30/ton for freight charges to China come from the following exchange in the Q&A of the April 26th CC:

Nathan Littlewood – Credit Suisse (Australia) Ltd
Good morning, guys. And thank you for the call. I’ve got a few questions. I’ve got a few questions about Bloom Lake. And also, a clarification on the MRRT. So first thing on Bloom Lake, the pricing of, what was it 116, I suspect that’s a lot lower than what most people on this call were looking for. If we start with a Platts price of about 144 I think you said and then you take off say $30 a ton freight, you’d get an FOB price for index funds of about 115, 116. There should then be a premium for the grade and there should be another premium for the pellets at Wabash. So I just wonder if you could give us a bit more color on why it was so low.

Joseph Carrabba – Cliffs Natural Resources, Inc.
As we talked about what with the grade, those premiums are shrinking as the market has tightened up with that. And the other thing that I explained earlier on the call, was as we put these trial cargoes in, obviously there’s some negotiation to get the first trial cargoes in as well. So you would anticipate that at any time you’re trying to get an entry point going in from there. We’ve also seen the pellets premiums shrink as well, around the world. And particularly those pellets that might be going into Asia, which are always the first that are cut off when the market tightens. But our sales folks have been able to continue to supply those as they come through the Wabush pipeline.