According to KeyBanc Capital Markets:
We are reiterating our cautious view on Cliffs Natural Resources, Inc. (CLF-NYSE; HOLD), noting the sharp 22% sell-off since the Company's equity issuance on February 22 to shore up liquidity in the face of disappointing EBITDA momentum. Looking ahead, maintenance of global iron ore pricing above $150/mt seems tenuous in the face of subdued global markets against new supply. CLF shares may also face incremental pressure as Chinese restocking momentum concludes for 2013. Persistence of elevated Eastern Canada cost issues also add a layer of operational risk to our view of heightened macro-related commodity price risk.
• 2013E: $2.25 from $2.90
• 2014E: $1.30 from $1.40
KEY INVESTMENT POINTS
? We remain cautious on the Company's operating fundamentals, but acknowledge the potential for activist investors to possibly provide a boost to CLF shares. Several typical drivers of activism are present: 1) delayed operational execution (at the large Bloom Lake start-up); 2) perceived investor dissatisfaction; 3) uncertain sources and uses of capital; and 4) lagging financial performance relative to peers (earnings from iron ore down 56% year-over-year in 2012 vs. down 29% for Rio Tinto, down 28% for BHP and down 23% for Fortescue).
? Dilution related to CLF's equity issuance reduces our EPS outlooks by $0.50-$0.55 in 2013 and $0.40-$0.45 in 2014, with roughly one-third due to the creation of 10 million new common shares, and the remaining two-thirds via the mandatory convertible preferred shares. To reflect three quarters of dilution, as well as higher than expected cost guidance at Easter Canadian Iron Ore, we are lowering our 2013 EPS estimate to $2.25 from $2.90. Our 2014 estimate is decreased to $1.30 from $1.40, as we expect lower run-rate SG&A spending to partially offset the impacts of the equity dilution.
? The issuance of equity, reduction of the common share dividend and simultaneous easing of debt covenants should significantly improve the Company's balance sheet and enhance financial flexibility during the next two years of heavy investment at Bloom Lake Phase 2. Following the expected retirement of $847 million in term loan borrowings, we estimate debt-to-capitalization will decline to 36% (from 47%), while debt-to-EBITDA should drop to 2.5x (from 3.2x).
CLF shares trade at 6.6x and 7.5x EV/EBITDA on our 2013 and 2014 outlooks, respectively, vs. a historical normalized range of 4-7x. On a deep value EV/sales basis, CLF shares trade at 1.5x and 1.6x on our 2013 and 2014 assumptions, respectively, vs. a five-year average multiple of 1.9x and normalized range of 1.6-2.3x. We believe shares are garnering the lower end of the range given poor translation of sales into profits in Eastern Canadian Iron Ore, while the midpoint of the range implies a share price in excess of $40.