Cliffs Turnaround Plan Derailed by Iron Ore at 5-Year Low

Activist investor Casablanca Capital LLC’s plan to revive the fortunes of the largest iron ore producer in the U.S. is crumbling as the price of the commodity drops to a five-year low.

Casablanca went public in January with demands for Cliffs Natural Resources Inc. to spin off or sell foreign mines and return more cash to investors. Casablanca won a proxy contest in July with the election of its slate of directors on the Cliffs board, one of whom was appointed chief executive officer.

With the iron ore market now in a worse state than it was at the start of the year, Cliffs may struggle to sell mines for a satisfactory price. Instead of raising its dividend, the Cleveland-based miner may have to eliminate the payout entirely, analysts at Citigroup Inc. and Nomura Holdings Inc. say.

A higher dividend “was something Casablanca promised before I joined,” Chairman and CEO Lourenco Goncalves said by phone in an Oct. 14 interview. “I’m not Casablanca.”

Iron ore prices have tumbled about 39 percent this year. Goncalves has had to adjust his strategy accordingly, said Lucas Pipes, an analyst at Brean Capital LLC in New York.

“A good way to put it diplomatically is strategy slippage,” Pipes said in an interview.

Cliffs is one of several iron ore producers struggling as a slowdown in Chinese demand and a surge of new supply adds to a global glut. Its credit rating was cut to junk by Standard & Poor’s this month. Fifty percent of available Cliffs shares have been sold short, the second-highest proportion of any U.S. mining company, according to data compiled by Bloomberg.

Idled Mines

The company is scheduled to report earnings after the close today, its first since the change in management. Third-quarter profit excluding one-time items will fall to a penny per share from 71 cents a year earlier, according to the average of 18 analysts’ estimates compiled by Bloomberg.

Cliffs was 2.1 percent lower at $9.43 at 1:25 p.m. in New York. The shares have fallen 51 percent since Casablanca published a January letter pressing the company for changes.

Casablanca, which has a 5.2 percent stake in Cliffs, declined to comment on the mining company.

Casablanca was founded by Donald Drapkin, a former lieutenant of billionaire investor Ronald Perelman, and Douglas Taylor. The New York-based firm acquired its stake after a tumultuous 2012 and 2013 for Cliffs, during which the iron-ore producer idled mines, cut its dividend and saw Joseph Carrabba retire as CEO after seven years.

Job Hunt

It was Carrabba who led Cliffs’ ill-fated expansion in Canada, adding the Bloom Lake mine in Quebec as part of the acquisition of Consolidated Thompson Iron Mines Ltd. for $4.3 billion. When that deal was completed in May 2011, iron ore was trading at more than $160 a ton, about double the price now. In 2012, Cliffs delayed a plan to expand the mine after prices dropped.

Bloom Lake is the world’s most expensive iron ore mine and the source of most of Cliff’s problems, Nathan Littlewood, a Credit Suisse Group AG analyst, said in an Oct. 21 report.

Goncalves had been CEO of steel distributor Metals USA Holdings Corp. until last year, when the company was sold. Looking for a new job, Goncalves said he approached Cliffs about being Carrabba’s successor, without success. He said Casablanca’s campaign grabbed his attention and spurred him to make contact again; after a meeting with Taylor, the activist’s co-founder, he became a director nominee and CEO candidate.

Bloom Lake

“All these clients used to be my suppliers,” he said of Cliffs’ customers. “I understand their problems because I am a steelmaker.”

There was upheaval in the Cliffs boardroom in the weeks that followed Goncalves’ appointment as CEO. Timothy Sullivan resigned as director Aug. 11, saying in a letter that neither Goncalves nor the other new directors “wanted to hear anything that might be contrary to your pre-scripted plan.”

In his Sept. 4 letter tendering his resignation as director, Richard K. Riederer said there “was an unwillingness to discuss options and bullying of directors who considered other options.”

Goncalves said his preferred strategy is to abandon Cliffs’ ambitions to be a major exporter in the so-called seaborne iron-ore market like Vale SA and Rio Tinto Group. At the same time he’s looking at holding on to foreign mines where possible.

Australian Mines

Cliffs has talked with steelmakers about selling a stake in Bloom Lake, Goncalves said. If successful, his plan would let the steelmakers lock in long-term iron-ore supplies. In return, Cliffs would get funds to expand the mine and wouldn’t have to sell all of it. The company has similar long-term customer relationships for its U.S. mines.

“I believe in the business model we have in the U.S.,” he said. “If we can replicate that in Cliffs Canada, great.”

Australian iron ore producers Mineral Resources Ltd. and Mount Gibson Iron Ltd. are weighing bids for Cliffs’ Australian assets, people with knowledge of the matter said last month. Goncalves said he may not sell those mines, either, as they’re still profitable.

Goncalves faces a dilemma over whether to sell at a price that’s not very attractive, or sell at any price to focus on the U.S., said Jeremy Sussman, a New York-based analyst at Clarkson Capital Markets LLC.

‘Rat Race’

“The problem is in this environment there’s probably a very big range between the asking price and the ultimate selling price,” Sussman, who recommends selling Cliffs, said in an interview.

Other assets are being sold off quickly. The sale of a minority holding in a graphite mining company was completed in August. Goncalves said he’s trying to sell a chromite project in Canada’s Ring of Fire mining region “as soon as I can.”

The outlook for the seaborne iron-ore market looks tough for Cliffs. Vale, Rio and BHP Billiton Ltd. remain committed to adding new supply. The global surplus will more than triple next year to 163 million tons and reach 334 million tons in 2018, according to Goldman Sachs Group Inc., which also sees prices averaging $80 a ton next year.

“The seaborne market became a rat race,” Goncalves said. “I don’t want to participate in that.”

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