This week, after seeing CLF trending on Reddit I decided to do an in-depth analysis to determine the true value of this company and its outlook for the rest of 2021. I found that this company is undervalued at its current trading price and presents an upside of approx. 85% for an implied share price of $42.42. The company has made prospective developments that will generate increased revenues in their end markets and have strong leadership to continue leading the way for long-term growth. For more analyses similar to this one, give my account a follow and be updated whenever I post about popular stocks that I believe are undervalued.
Cleveland-Cliffs Inc. (NYSE:CLF) is the largest flat-rolled steel company and the largest iron ore pellet producer in North America. They specialize in the mining, beneficiation, and pelletizing of iron ore, as well as steelmaking, including stamping and tooling. Founded in 1847 as a mine operator, they are the largest supplier of iron ore pellets in North America.
After the acquisitions, CLF’S updated its segment structure to coincide with its new business model which now includes operating segments based on differentiated products (1) Steelmaking, (2) Tubular, (3) Tooling and stamping, and (4) European operations. Prior to these acquisitions, CLF operating through 2 reportable segments; the steel and manufacturing segment and the mining and pelletizing segment which has now been updated to 1 reportable segment – the steelmaking segment.
Markets (% of 2020 net sales):
Revenues: FY2020, CLF had revenues of $5.4 which was a YoY change of 169% or an increase of approx. $3.4B from 2019. The increase was primarily due to the addition of $4.0B in revenues as a result of acquisitions, partially offset by a decrease in revenue from iron products of $656M resulting from lower sales volumes. Overall, the company experienced lower customer demand during 2020 as a result of the reduced manufacturing activity caused by the COVID-19 pandemic. FY2020, their revenue in the automotive market declined by 20% and infrastructure and manufacturing increased by 6%.
Improving their financial position through increased cash flow and lowering debt levels: As of the most recent quarter, CLF posted cash and cash equivalents of $110M, and total debt of $5.73B. Since their business conditions have improved, they are expecting the generate healthy free cash flow during 2021 and believe they have the ability to lower their long-term debt balance.
Acquisition of ArcelorMittal USA – At the end of 2020, CLF purchased AM USA from ArcelorMittal. The assets of AM USA acquired include 6 steelmaking facilities, 8 finishing facilities, 3 coke-making operations, 2 iron ore mining and pelletizing operations and 1 coal mining complex.
In connection with the acquisition, CLF became the sole owner of Tek and Kote which generated a combined $121M of adjusted EBITDA in 2019. In revenues for the period prior to the acquisition (December 9, 2020 – December 31, 2020), AM USA generated revenues of $446M and a loss of $40M.
“Our new footprint expands our technological capability and enhances our operational flexibility, elevating Cleveland-Cliffs to a prominent role as a major player in supporting American manufacturing, American future investments in infrastructure, and the prosperity of the American people through good paying middle-class jobs” - Lourenco Goncalves, Chairman, President and Chief Executive Officer on the closing deal for AM USA
Acquisition of AK Steel – In March 2020, CLF completed the acquisition of AK Steel as a wholly-owned subsidiary of CLF. AK Steel is a North American producer of flat-rolled carbon, stainless and electrical steel products, primarily for the automotive, infrastructure and manufacturing markets. These operations consist of seven steelmaking and finishing plants, 2 coke-making operations, 3 tube manufacturing plants and 10 tolling and stamping operations. This acquisition helps transform CLF into a vertically integrated producer of valued-added iron ore and steel products. As well, it will help their high-performing market in the automotive end and add strength in increasing the infrastructure and manufacturing market.
For the period prior to the acquisition (March 2020-December 2020), AK steel generated revenues of $3,573M and a loss of $302M.
“This is a new era for Cleveland-Cliffs as a producer of differentiated, high-quality iron ore, metallics and steel in North America. The new Cliffs will begin from a unique position of strength in our industry, with a dynamic combination of assets…” - Lourenco Goncalves on the closing of deal AK Steel
Cleveland-Cliff's primary operations were in the iron ore mining industry by supplying pellets to steelmakers but have since gone through a turnaround that has been helped by their vertical integration in the supply of raw material. The vertical integration starts with the mining of iron ore and coal to the production of metallics and coke and through iron making, steelmaking, rolling finishing and downstream tubing, stamping and tooling.
The acquisition of AM USA allows economies of scale from their operating iron ore mines across 7 countries and makes for ease of expansion due to these advantageous geographic locations. The addition of AK Steel to their portfolio added new product line revenues into CLF that diversifies their offerings and further targets their current markets. Of total revenues, 96.8% were from North America and the remaining from other countries. Prior to acquiring AM and AK, revenues from other countries were 1.9% of total revenues and have since increased by almost double primarily due to international customers from the acquired firms. Despite their main focus in the American markets, we can expect CLF to expand its presence beyond North America and establishing a stronger position internationally driven by the acquisition of these 2 companies.
The 2 acquisitions also allow CLF to attain an industry-leading market position in their automotive market and also adding strength in their other markets. On a forward-looking note, the company’s profits opportunities have significantly increased due to the positive industry outlook the company is operating in and the new customers these acquisitions rake in.
Cleveland-Cliffs almost went under in 2014 due to lack of profitability but has since been transformed into a new company under a strong management team. It was described as a company “fighting for survival, with a disjointed portfolio full of underperforming assets accumulated under a horribly misguided strategy.”
Lourenco Goncalves - Chairman, President and Chief Executive Officer: Goncalves played a drastic role in turning the company around and leading CLF to the leading player in the U.S steel industry it is now. Prior to CLF, Goncalves served as Chairman of the Board, President and CEO of Metals USA Holdings Corp. a leading American manufacturer and processor of steel and other metals for over a decade. Goncalves holds a strong background in the steel industry of varying executive roles and brings value to CLF that can be evident in his work so far in the company. Goncalves entered the company in 2014 and started restructuring the business and financials by leaving the coal business, followed by growth initiatives into the metallics market and entry into the steel industry. He successfully led both acquisitions in 2020 that made CLF the largest flat-rolled steel company and the largest iron-ore pellet producer in North America. Given his success thus far, we can expect that Goncalves has more initiatives in the company’s plan to further grow the company and therefore generate attractive returns for shareholders.
Using a comparative analysis model, I found 5 companies of competition to Cleveland-Cliffs and of similar market caps. These companies are Steel Dynamics (NASDAQ: STLD), Reliance Steel and Aluminum (NYSE: RS), CNX Resources Corp. (NYSE:CNX), United States Steel Corp. (NYSE: X), and Nucor Corporation (NYSE: NUE).
EV/REVENUE: Using YoY revenue change, I forecasted FY2021 revenues and used them in calculating EV/REVENUE values. Taking the 1st quartile, mean, and 3rd quartile, I generated a bear, base, and bull case, respectively. I arrived at an implied share value of $42.42 representing approx. 85% upside.
PEG Ratio: In this case, we use the PEG ratio for confirming EV/REVENUE numbers. With an expected PEG ratio of 0.19, CLF is interpreted as undervalued compared to competitors which generated a mean PEG ratio of 0.70. The below-average ratio CLF presents is helpful in confirming that their investors can expect significant earnings growth in the future and that its currently trading at a discount compared to the true value it’ll present in coming years.
Under new operating segments with the vertical integration of their iron ore business with quality-focused steel production, and the strong leadership of Lourenco Goncalves, CLF looks well-positioned to continue being a leader in the steel industry and generate high profits from their growth opportunities. I am bullish on CLF and believe CLF is a great investment opportunity for those looking to open a position or add to an existing one.