Replies to post #8512 on The Rising Influence of Rising Affluence

[jbog]

BARRON'S TAKE

Cliffs, Casablanca Clash Won't Help Struggling Stock
An iron-ore slump has torpedoed the stock. And a clash with an activist investor may not help either.

By TERESA RIVAS
Updated May 30, 2014 2:21 p.m. ET

Cliffs investors can be forgiven for thinking it's Groundhog Day.

Shares are lower, yet again, Friday as the back-and-forth between the struggling miner and activist investor Casablanca Capital heats up.

Late Thursday, Cliffs Natural Resources responded to Casablanca's latest salvo, writing that the management team is committed to cutting costs, shoring up the balance sheet, spending wisely and assessing the "strategic fit and value creation potential of all of Cliffs' assets to enhance shareholder value." Casablanca, which disclosed a 5.2% stake in the company in January, has urged Cliffs to split its domestic and international businesses.

Cliffs wrote that, contrary to the hedge fund's claims, it is "Casablanca's actions that have put shareholders' interests at risk," not those taken by Cliffs. The company also criticized Casablanca's push to gain control of the board of directors "without providing a credible and clear path to increase long-term shareholder value."

In previous statements, Cliff has struck a more neutral tone, saying it was willing to work with Casablanca to address their ideas.

Cliffs, which dropped 3.3% to $16.05 in morning trading, has fallen 45% in the past six months. But even after this latest slide there is little relief in sight for shareholders.

Cliffs and Casablanca can continue trading barbs for months, but neither side can likely combat the effect of soft commodity prices that are at the heart of the decline in Cliffs' stock price, one of the five-worst performers in the S&P 500 last year.

Although the presence of an activist investor is "as a possible catalyst to the upside… we believe in the end the fundamentals will determine value for the shares, for average investors and activists," wrote Macquarie analyst Aldo Mazzaferro when he downgraded the stock to Underperform earlier this month. "Even in the event of an outside takeover attempt, we think any bidder's valuation work will be instilled with the same fundamental concerns we see, and likely to be comparable to our target price of $10."

Until the ongoing slump in iron ore prices ends, Cliffs is in a tough spot, one that cost-cutting and other maneuvers can only go so far to solve.

Indeed, Cliff's response to Casablanca comes just a day after it announced that it would cut capital expenditures by 25%, or $100 million, this year as it attempts to offset ongoing weakness in iron and coal. But that move drew few cheers from Wall Street.

Wells Fargo's Sam Dubinsky reiterated an Underperform rating on the stock on the news, writing that while management is "doing the best they can….pain is inevitable" in an environment of diminished earnings power: "While we think the new CEO is doing a commendable job tightening operations, we see no easy way out for CLF shares due to negative long-term fundamentals for iron ore and ongoing cost challenges in Canada."

And while the cost-cutting should help the company conserve cash, that hardly means it is in strong financial shape. As RBC Capital Markets' Fraser Phillips noted earlier this week, "Cliffs' debt covenant holiday is over, and a breach of covenants is possible if the current weak iron ore price environment persists…. Our analysis indicates that if the average spot price for 2014 is $114.30/tonne CFR China or below, Cliffs will trigger its total funded debt/Ebitda covenant."

So it seems that little can help the stock until prices recover. Even though it has fallen 8% in the past year, Cliffs is still a pricey 44.5 times forward earnings, given that profit expectations continue to shrink.

"We see excess global iron ore market supply continuing to pressure prices over the next few years," wrote S&P Capital IQ analyst Christopher Muir in a note earlier this month. "Combined with the falling volumes that we expect this year for the Asia-Pacific and Eastern Canadian iron ore operations, we believe a recovery in EPS is a few years away."

A few years is a long time to wait, but that looks like the time frame for Cliff's real rebound, no matter who wins this latest fight.

E-mail: [e-mail]

[DewDiligence]

CLF concedes 2 seats to Casablanca by nominating 9 directors for 11 open seats; CLF also intends to exploit cumulative voting to elect as many of its 9 nominees as possible (using the votes cast for any of them):

http://www.sec.gov/Archives/edgar/data/764065/000076406514000072/clf2014prec14a.htm

Because the Board of Directors has nominated a slate of nine directors for the available 11 seats at the 2014 Annual Meeting of Shareholders, we expect that two nominees that were not nominated by the Board of Directors will be elected at the 2014 Annual Meeting of Shareholders. At this time, Casablanca is the only shareholder that has notified Cliffs of its intention to nominate directors for election at the 2014 Annual Meeting of Shareholders. Therefore, the Board of Directors expects that the remaining two board seats will be filled by two of the Casablanca nominees.

…If cumulative voting is in effect with respect to the election of directors, which we currently anticipate will be the case, the named proxies intend to cumulate the votes represented by the proxies they receive and distribute such votes in accordance with their best judgment in order to elect as many of the nominees of the Board of Directors as possible.

If CLF thinks granting two seats to Casablanca will foster some kind of compromise, I think they're badly mistaken.

[DewDiligence]

CLF reworks credit line—onerous debt/EBITDA covenant replaced:

http://www.sec.gov/Archives/edgar/data/764065/000076406514000113/a20140630-defa14axcliffsis.htm

Cliffs Natural Resources Inc. announced today that it has entered into an agreement to amend its existing $1.75 billion unsecured revolving credit facility with its syndicate of banking partners.

…this amendment addresses the leverage covenant for the life of the facility, while also retaining the full $1.75 billion facility size and the existing maturity date of Oct. 16, 2017. The new amended terms are effective June 30, 2014 and received the unanimous support of the entire lender group…

…The amended terms replace the current leverage covenant ratio of Debt-to-EBITDA less than 3.5 times with a Debt-to-Capitalization ratio of less than 45% [i.e. EBITDA no longer figures into this covenant at all]. This new covenant will allow the Company’s borrowing capacity to be less susceptible to the impact of volatile iron ore and met coal pricing.

The amendment agreement also increases the current EBITDA-to-Interest covenant to a minimum requirement ratio of 3.5 times.

The old covenant for interest coverage had been EBITDA/interest >=2.5x, so the new interest coverage covenant is actually stricter than the old one; however, replacement of the onerous debt-to-EBITDA covenant in the third quoted paragraph above by a debt-to-total-capital covenant greatly outweighs the tightening of the interest coverage covenant, resulting in greater financial flexibility for CLF. (Total debt is obviously a very much greater number than annual interest payments.)

Today’s announcement eliminates the threat of the “proxy put” (#msg-102645938), which was presumably a bluff by management all along.