The Iron Age
Iron is one of the most important base commodities of the modern world. It is the main component in steel, without which many of the things we find commonplace today would not be possible. The world produces over 3 billion tons of iron ore per year, 98% of which is used in the production of steel. While North American iron consumption is more or less stable, the real source of increased demand over the last few decades has of course been the BRICS, particularly China and India. At the peak of the boom before the Great Recession ore prices peaked at just over $175 dollars per ton, and as the global economy recovered they continued their march upward to just under $190 dollars per ton. Since then, prices have pulled back to $120, leaving investors reeling. It’s no surprise then that steel and iron stocks have been dumped en masse. But is it possible that the street was overreacting when it sent shares of Cliffs Natural Resources Inc (NYSE:CLF) to its recent lows?
Once in a decade
Given the roller coaster ride that long-term holders of Cliffs Natural Resources have been on since the turn of the millennium, what do foolish investors have to work with in order to assess a good entry point? It’s tricky but Foolish investors have something working in their favor: the market capitalization of Cliffs in relation to the value of its assets. The companies value in the eyes of Mr. Market has varied a great deal but it has traded for a healthy discount to book value just twice since the year 2000. Investors brave enough to step up to the plate at either of those times were rewarded handsomely in subsequent years. For the quarter ended Mar. 31, 2013, Cliffs Natural Resources Inc (NYSE:CLF) showed 13.8 billion in assets and 8.1 billion in liabilities, yielding an equity value of $5.7 billion. This compares with Cliffs’ current market capitalization of $2.7 billion for a discount to book value of over 50% Not only that but thanks to a $1 billion goodwill write down in the fourth quarter of 2012 the company’s book value more closely approximates its tangible value. Opportunity may be knocking, again.
Best bet on a recovery
A bet on Cliffs is a bet on continued global recovery, particularly in the steel industry. Cliffs Natural Resources Inc (NYSE:CLF) is not the only option available to investors, however.
One of Cliffs largest customers, ArcelorMittal (ADR) (NYSE:MT) also trades at a rare discount to tangible book value. The company is one of the world’s largest steel companies sporting a market capitalization of $20 billion, which is not bad considering the shareholder equity shown on its most recent 10-Q report was $50 Billion. ArcelorMittal (ADR) (NYSE:MT) is a top notch organization, and its hard to imagine its stock doing anything but well in the long term as global growth resumes. However when compared to Cliffs Natural Resources it seems to be a riskier bet, given the fact that Cliffs remains solidly profitable while ArcelorMittal (ADR) (NYSE:MT) lost $3.7 Billion last year and is expected to only break even this year.
A similar, but far more risky, situation exists with AK Steel Holding Corporation (NYSE:AKS). Its most recent balance sheet shows $3.9 Billion in assets supporting a whopping $4.4 billion in liabilities, yielding a negative book value of over $500 million. AK Steel Holding Corporation (NYSE:AKS) lost $10 Million in the first quarter of 2013 following a loss of $128 Million from operations last year (the company showed a much larger loss on a GAAP basis due to a tax provision.) Should the steel industry turn around soon, AK Steel will likely be a big winner. This is especially true when taking into account the fact that the company has no significant debt maturities coming up in the next few years. When compared to the likes of Cliffs Natural Resources, however, AK Steel Holding Corporation (NYSE:AKS) seems unnecessarily risky.
Conclusion
While iron ore prices are wildly unpredictable thanks in part to its dependence on continued growth across Asia, it is clear that Cliffs Natural Resources is worth further analysis by Foolish investors. The company trades at a rare 50% discount to book value, is still profitable, and has no significant debt maturities in the near future. For those that hold a belief that the steel industry is due for a turnaround Cliffs is clearly the best way to play it. Cliffs Natural Resources Inc (NYSE:CLF) is not without risks and a significant slowdown in Asia, China in particular, could lead a further decline in the spot price of iron. Despite the negatives and obvious volatility, Cliffs is at least worth a look to Foolish investors looking to make a bet on a turnaround in global steel production as the global economy continues to recover.
The article Cliffs Natural Resources: A Once-in-a-Decade Opportunity? originally appeared on Fool.com and is written by Sean O’Reilly.
Sean O’Reilly has no position in any stocks mentioned. The Motley Fool owns shares of ArcelorMittal. Sean is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
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