Cliffs CEO Discusses Iron Ore Pellet Cost & Market

“Cliffs’ steel customers understand and appreciate the value in use attributes of our pellets. In addition to the cost to produce the sinter, sintering plants also create significant air pollution which is visible to the naked eye in China. Neither the cost to produce sinter nor the pollution generation is taken into consideration by the casual observer when comparing Cliffs iron ore pellets and black pellets delivered to the blast furnace of our U.S. customers to Australia fines delivered portside in China.”

Goncalves said there is a misconception is that Cliffs is a high cost producer of iron ore. “This is not the case. Cliffs is a high cost producer at Bloom Lake only which makes up less than 20% of our overall sales volume. All other operations are as good as or better than anyone else in terms of cost.”

During the third quarter, U.S. Iron Ore cash production cost was $59 per ton and that includes the cost of the pelletizing process. During the question and answer period, Goncalves added that, “we are going to continue to drive this cost down. We are going to go to a low $50 per ton to produce pellets in the next couple of years. How fast I will get there? I don’t know. We will see. We’re working.”

Contracts with its Great Lakes customers are “built on formula pricing which helps to mitigate the volatility of seaborne pricing and works as a natural hedge against downward pricing pressure in global markets,” said Goncalves. He went on to comment on black ore spot pricing.

“To illustrate that, this quarter benchmark iron ore pricing average $90 per ton. After sea trade to China and quality discounts, the major iron ore producers in Australia probably realized revenues of $70 to $75 per ton. And that may even be generous. As you saw in our release yesterday, our U.S. iron ore business was able to get above $100 per ton.”

“The second misconception is that Cliffs is a proxy for highly volatile iron ore pricing, said Goncalves.

“This is simply not true. In fact, there is no major iron ore producer in the world whose business model is five less to seaborne iron than Cliffs. More than half of Cliffs iron ore production is sold through stable long-term contracts to steel manufacturing base at the heart of the U.S. market. Also, some of these contracts have downside protection built in. And the current low IO decks [ph] numbers are already below the minimum threshold for these contracts. Cliffs should therefore instead be seen as a proxy for the U.S. economy which is more resilient in growing consistently. In sum, correlating our enterprise value directly to seaborne pricing is not accurate.

“The third and related misconception is that Cliffs is a poor play seaborne producer. Nothing could be further from the truth. Our U.S. Iron Ore business is not seaborne and does not compete with seaborne. But our U.S. Iron Ore business is cost comparative, has low CapEx requirements, healthy cash flows, strong margins, contracts with downside protection and generates more than half of our total revenues. This strong franchise in U.S. Iron Ore supports the company even in the most difficult parts of the commodity cycle.

“These misconceptions are not only frustrating but also harmful. We are neither a high cost producer, a proxy for highly volatile iron ore pricing, nor a poor play seaborne producer. On the contrary, we are a fundamental play on the U.S. industrial economy.”

On the Australian market, Goncalves noted that three largest Australian mining companies are currently in a price war based on the low cash cost of two of the companies.

Cliffs’ Koolyanobbing mine in Australia produces a 50%-50% mix of high quality ore, 61% iron content lumps and 59.5% content fines.

“For the third quarter, our cash production cost was $52 per ton,” said Goncalves. “The depreciation of the Australian dollar against the U.S. dollar in recent months which effectively lowers production and operating costs and results in higher margins for all Australian producers, including Cliffs’ APIO and also including the big three iron ore miners, has helped further alleviate the pressures resulting from the depressant pricing environment.”

“By the way,” added Goncalves, “ I have doubts if the big Australian miners will be able to sustain their huge CapEx requirements out of the cost plus business model or if in a few more quarters their current behavior towards pricing will not change.”

For those of you who may have an interest in learning more about iron ore, pellets, DRI and how they impact the steel making and costing process, you may want to investigate our next Steel 101: Introduction to Steel Making & Market Fundamentals workshop which will be held in late January in Mount Pleasant, South Carolina (Charleston area) and will include a tour of Nucor Berkeley steel mill.