Cliffs Natural Resources Posts a Surprising Profit in the Second Quarter

By Markets Fool.com

Image source: Getty Images.

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After several years of declining pricing wars and pressure from imported steel, the domestic steel market is starting to look up. That should be a welcome respite for Cliffs Natural Resources (NYSE: CLF). In the meantime, Cliffs has been fighting to get its cost structure down. Based on the company's second-quarter earnings results, things are looking pretty good. Here's a quick look at Cliffs' results for the quarter and why investors should applaud what's going on with the company as of late.

By the numbers

This was the first time in a few quarters that we got to see what you could call a clean income statement. The company didn't have any gains from extinguishing debt or from sales of discontinued operations or asset writedowns. As a result, this quarter was the first in a while in which the company showed profits from its continuing operations.

Results Q2 2016 Q1 2016 Q2 2015
Revenue $496.2 million $305.5million 498.1million
Operating income $74.7million ($0.3million) $25.7million
Net income $12.8million $108million $60.2million
Earnings per share $0.07 $0.62 $0.39

Data source: Cliffs Natural Resources earnings release.

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Keep in mind that the prior quarter and the second quarter of last year had some one-time gains baked into their results. The category that is worth focusing on here is operating income because it shows that the company is generating greater profits from its continuing operations. Here's how those numbers broke down by the company's various business segments.

Data source: Cliffs Natural Resources. Chart by author.

The encouraging sign from Cliffs' recent results is that the improvements in adjusted EBITDA came almost exclusively from cost savings. Iron ore prices in both its U.S. and Asia-Pacific segments were flat to slightly down, but overall cash costs per ton decreased by 8% across the board. In the coming months, the company is going to start to sell more ore as it has recently signed supply contracts with both ArcelorMittal (NYSE: MT) and U.S. Steel Canada. If Cliffs can maintain these costs savings as production ramps up, much better results could be on the horizon.

From the mouth of management

One can never accuse Cliffs CEO Lourenco Goncalves for a lack of bravado. In just about every speech or comment he has made during his tenure at the company, Goncalves has been extremely confident that the company can turn things around as it focuses on profitability and cash flow from its core U.S. iron ore production. This quarter, we got to see some of those seeds bear fruit, and Goncalves was quick to point out how the company did it and how things are going to get better from here:

During the second quarter we finalized a range of deals that are essential to Cliffs' future prosperity and growth. Among them, the most significant was the renewal of our multi-year supply agreement withArcelorMittal. This deal is a win-win for both Cliffs andArcelorMittal, and demonstrates the strength of the Cliffs franchise. We also negotiated a low-cost power agreement inMinnesotathat put cash on the balance sheet, and ensures cost-effective power for years to come. Then, we negotiated additional sales with a new customer, U.S. SteelCanada, previously supplied by its parent company, U.S. Steel. On top of this, we reported very strong quarterly results, earning$102 millionin adjusted EBITDA, with all of the credit going to our superior operating performance and cost discipline. With our clear focus on debt reduction and balance sheet strength, I am very optimistic about where Cliffs can go from here.

What a Fool believes

The markets for steel and iron ore in the U.S. are starting to look up. The recent anti-dumping tariffs that were imposed on steel from several different countries are raising the prices for domestic steel, and that is incentivizing steel manufacturers like ArcelorMittal to ramp up production. It may take a couple of quarters before Cliffs realizes the benefits of this since it writes its pricing contracts on an annual basis, but the increase in sales volumes will be a welcome sight for the rest of the year.

It's also encouraging to see Cliffs continue to bring down cash costs and reduce capital spending so it can get its balance sheet under control. These bare-bones levels of investment can't last forever, but as long as it can keep costs under control, we should continue to see improving results from Cliffs.

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Tyler Crowe owns shares of Cliffs Natural Resources. You can follow him at Fool.comor on Twitter@TylerCroweFool.

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