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Text: So many of those listening today know him already.
In his previous role as Senior Vice President of Finance and Treasurer here at Cleveland-Cliffs, Celso was instrumental to our business and financial transformation.
Over the past five years, he has led all of our capital structure efforts, being the key person behind the execution and financing for our transformational acquisitions and managed our liquidity through the pandemic.
Prior to Cliffs, Celso had a very successful career as an investment banker, first at Jefferies and then at Deutsche Bank.
Also, if you couldn't tell by his last name, Celso is my son.
During the last several years, Keith Koci and I have been preparing Celso for this job.
With Keith now in charge of our new business unit as president of Cleveland-Cliffs Services, we could not have a better or more prepared professional to lead our financial organization.
I am humbled by the opportunity to serve as Cliffs' CFO, fully aware of not only our rich 174-year legacy, but also our position of immense influence as the largest flat-rolled steel producer in the United States.
I also fully expect that given my family name and the high standards set by our CEO, the expectations for me will be even greater than for anyone else in this seat.
I am prepared to deliver.
My experience here at Cliffs over the past five years has taught me that strategic and financial opportunities exist at all points in the cycle.
My priorities as CFO are simple: one, allocate capital in a way that strengthens our business; two, maintain and enhance our financial flexibility; three, deleverage the capital structure; four, evaluate and execute opportunistic M&A and capital market transactions, always with a focus on long-term shareholder returns; and five, continue our five-year track record of share outperformance relative to our peer group and the broader market.
With those introductory remarks aside, I will jump right into our third-quarter results.
We reported another quarter of record revenues of $6 billion, record net income of $1.3 billion and record adjusted EBITDA of over $1.9 billion, ahead of the guidance we recently set of $1.8 billion.
Our 42% quarter-over-quarter growth in adjusted EBITDA was primarily driven by continued price increases on our index linked and spot shipments.
These sharp increases on the revenue side were only partially offset by gradual increases on the cost side, including for labor, natural gas, and additional repairs and maintenance, most notably the reline of Indiana Harbor No.
7, the largest blast furnace in North America.
And even though it was clearly a one timer, we did not add back to EBITDA, the vaccination bonus payment of $45 million that was awarded and paid out to our workforce under our very successful vaccination incentive bonus program, which resulted in over 75% of our workforce fully vaccinated against COVID-19.
In the Steelmaking segment, we sold 4.2 million net tons of steel products with a mix of 32% hot-rolled, 18% cold rolled and 31% coated steel, with the remaining 19% consisting of stainless, electrical, plate, slab, and rail.
Our automotive percentage of revenue was 20% compared to 33% just two quarters ago, clearly reflecting the reduced volumes and the legacy annual prices from that sector.
Both of which should dramatically improve next year.
We expect the trends on pricing and costs in Q3 to carry over into Q4, with higher prices from both index-linked contracts and some of our repriced automotive contracts, offset by similar cost impacts we experienced in Q3.
Shipments will likely be lighter in Q4 due primarily to seasonality and lower automotive shipments.
Offsetting this, we will be moving up to the fourth quarter, some planned maintenance outages originally scheduled for next year, including the Dearborn hot end and both blast furnaces at Burns Harbor, along with a few other associated rolling and finishing facilities.
These outages are being accelerated to this year in anticipation of a strong automotive recovery in 2022.
All these events considered, our fourth quarter production should be reduced by approximately 300,000 net tons compared to the third quarter.
Our free cash flow generation came in at $1.3 billion for the quarter, slightly lower than our original guidance due to slow demand pull from automotive, leaving more inventory to close out the quarter than we expected.
The remaining outage period at IH7 as well as the additional outages we scheduled for the fourth quarter should allow us to reduce these inventory levels during Q4.
This free cash flow generated during Q3 was returned entirely to shareholders in the form of a stock buyback, executed via the complete redemption of our $58 million common share equivalent preferred stock.
With only one quarter's worth of free cash flow, we completely redeemed our preferred shares.
I will note that because of the weighted average calculation and the fact that the prefs were outstanding during a portion of Q3, the full $58 million share reduction is not baked into our Q3 earnings per share just yet, we will see a further reduction of diluted share count in the fourth quarter.
With the prefs now completely out of the way, we have resumed our aggressive debt reduction activities.
In only the last three weeks since the end of Q3, we have already generated approximately $500 million in free cash flow and have allocated all of it toward debt repayment under the ABL.
Upon closing of the FPT acquisition next month, all excess free cash flow will continue to be allocated toward further debt reduction.
By next quarter, our LTM adjusted EBITDA should exceed our overall net debt balance, resulting in less than one turn of overall net leverage for the foreseeable future at any reasonable HRC pricing assumption going forward.
Because of our strong profitability this year, at some point in the fourth quarter, we will have utilized the majority of our tax NOL balance, leading to an expected Q4 cash tax rate of around 10%.
Prior to the acquisitions of AK Steel and AM USA, we once expected to be utilizing these NOLs for several more years, but the significantly higher profit generation following the acquisitions will result in the consumption of the majority of the $2.5 billion NOL balance within a year of closing the December 2020 transaction.
Even with the additional cash tax outflow and payments related to the CARES Act FICA deferrals from last year to this year, free cash flow should remain remarkably healthy in Q4.
The $775 million price of the previously announced acquisition of FPT is equivalent to less than two months of our free cash flow generation.
Wrapping up, the financial position of the company is on stronger footing today than it has been during my entire time here at Cliffs and the trend should continue into Q4 and 2022.
The fixed price contract business we have with high-end clients, such as the automotive OEMs, gives us significant downside protection if spot prices trend lower.
Therefore, even under the current bearish futures curve for HRC, our average selling price should be much higher next year than it has been this year, leading to the expectation of another year of outstanding EBITDA, cash flow generation and debt reduction in 2022.
Very few companies can show the magnitude of growth Cleveland-Cliffs has delivered during the last couple of years.
We were a $2 billion revenue company in 2019, became a $5.3 billion revenue company in 2020 and expected to be a $20 billion-plus company in 2021.
All this growth was achieved preserving and enhancing our profitability as demonstrated by our Q3 numbers of $1.9 billion of adjusted EBITDA and $6 billion in revenues for an EBITDA margin of 32%.
These numbers have gone primarily from the 55% of our business that is linked to an index price with a smaller contribution from the fixed price contracts that were signed before the market price recovery of last year.
In the fourth quarter, this will begin to change.
And even more so, you see next year, when the bulk of our annual fixed contracts for automotive as well as appliances, stainless, electrical use plate and tin plate all reprice at significantly higher levels.
That should protect our profitability into next year, even assuming spot prices go down next year.
This being said, we do not believe we will see still spot prices returning back to historical low levels.
And the main reason for that is prime scrap.
Prime scrap is what electric -- furnace mills, old ones or brand-new, need to produce flat-rolled steel.
We have seen a looming shortage of this type of scrap coming for several years, which partially motivated our $1 billion investment in our direct reduction plant four years ago.
We were planning to supply HBI to EAF mini mills.
And that was in the past, but not anymore.
At this time and going forward, we also plan to use more prime scrap ourselves in our BOFs.
That will allow us to stretch our hot metal without building new production capacity.
Building new capacity is a common mistake the steel industry insists in making time and time again.
Cleveland-Cliffs is different, and we are not going to add capacity ourselves, but we are definitely seeing what others do, and we act accordingly.
With that in mind, a few days ago, we announced the acquisition of FPT.
While the majority of scrap companies we looked at had a prime scrap mix of 10%, 15%, FPT stood out with an outsized 50% of prime scrap in the mix.
FPT is actually one of the largest processors of prime scrap in the country, representing 15% of the entire merchant market in the United States.
Prime scrap is a byproduct of manufacturing, including automotive.
And Cleveland-Cliffs is the largest supplier of steel to this automotive and other flat-rolled consuming manufacturers.
As such, we can offer a compelling proposition for their scrap uptake, keeping the life cycle of our steel in a closed loop between Cleveland-Cliffs and the OEM.
Furthermore, the main theme for the steel industry is decarbonization and melting clean, low impurity scrap is a good way to reduce carbon emissions.
That applies to both EAFs and BOFs.
The BOF is often overlooked as a user of scrap.
But in our footprint, it's actually where we consume the most.
The use of higher amounts of scrap in the BOF boosts liquid steel output for the same amount of hot metal, which is what we call the liquid pig iron from the blast furnace.
So the more scrap used in the BOF, the less coke needed in the blast furnace per ton of crude steel produced.
With ample access to our own prime scrap, we can optimize our productivity with a higher scrap charge, while significantly reducing our carbon emissions.
On top of that, during the last 50 years, the supply of prime scrap in the United States has been steadily shrinking.
We expect that [Inaudible] trends to continue as yields continue to improve, and unfortunately, China continues to dominate manufacturing.
Finally, all of the new flat-rolled capacity coming online in the United States is from the EAF side, which means that demand for prime scrap and metallics will continue to increase.
That is very conservatively another nine million tons or 40% growth of demand for these products over the next four years.
With our decision to use our HBI internally at Cleveland-Cliffs and primarily in our blast furnaces, there is a zero response in supply to this massive growth in demand for prime scrap and metallics coming from the EAFs.
Pig iron may be the most likely alternative but they still choose emissions that comes attached to pig iron, whether imported or mainly in North America, effectively create a negative impact to the Scope 3 emissions associated to these EAFs.
In that regard, we fully expect that in a not-so-distant future, the Scope 3 emissions will have to be reported as much as our Scope 1 and 2 already are reported today.
That would create a level playing field for all steelmakers integrated and EAFs.
Moving forward, this is a good opportunity to remind everyone that no other steel company in North America has more capabilities in modern ones, by the way, than Cleveland Cliffs when it comes to producing flat-rolled steel.
That's particularly true regarding automotive.
People tend to confuse old plant names like Indiana Harbor, Cleveland Works or Burns Harbor with old plants.
In fact, old plant names actually carry pretty modern state-of-the-art equipment.
For example, our hot-dipped galvanizing line at Rockport Works was built in the '90s, and it's 80 inches wide and that is six foot, eight inches wide, or 2,032 millimeters before a metric system, more than two meters wide.
There is no other facility on the continent that can produce what we make there.
The same is true for the six footers at Tek and Kote in New Carlisle, Indiana and Columbus, Ohio.
Also, our advanced high strength steel capabilities at Cleveland Works are second to none, and the automotive OEMs know that.
Our pickling line tandem cold mill and galvanizing line in Dearborn, Michigan, by the way, another six footer, specialized in exposed panels, were both built in 2011.
One more time, Dearborn Works was built by Ford Motor Company in the early part of the 20th century.
But the PLTCM and the hot-dipped galvanizing line are only 10 years old.
Our level of technological sophistication and our ability to produce all kinds of automotive flat-rolled products, including stainless steel, are the reasons why Cleveland-Cliffs is by far the biggest supplier of automotive still in this country.
A couple of our competitors will be spending billions of dollars and working very hard to build capacity during the next three years.
We don't need to because we already have the capabilities we need.
That's why Cleveland-Cliffs supplies 2.5 times more steel to the automotive industry than the second largest supplier or more than the second plus the third combined.
Another important accomplishment during the quarter was the consistent performance of our direct reduction plant in Toledo.
The plant continues to operate above nominal capacity and to exceed our expectations, not only on production but also in quality and cost.
Case in point, our all-in cash cost of HBI in Q3 was $187 per net ton, a number much better than the cost projected when we first approved the construction of the plant a few years ago.
This figure is also much better than the price our competitors pay for both prime scrap and imported pig iron.
Also differently from our original plan, HBI sales to outside EAF mills are not significant and maybe discontinue completely very soon.
We actually have already decided to use the majority of our HBI in our blast furnaces, not even in our own EAFs.
That allows us to improve better cost and productivity while improving our coke rates and reducing our CO2 emissions.
Also, as a consequence of our HBI using our blast furnaces, we have already idled the coke batteries at Middletown Works and that coke is not needed at this time.
Another operational change, we started to implement in the third quarter involves our Minorca mine and pellet plant which we acquired as part of the ArcelorMittal USA acquisition.
Based on our tasks, we will soon be shifting our DR-grade pellet production away from Northshore and into Minorca, where we will not have to deal with the unreasonable royalty structure at Northshore.
As we plan to no longer sell pellets to third parties in the coming years, Northshore will become a swing operation, which we will keep idle every time we decided to do so.
In any event, we will continue to be able to feed our Toledo plant with a consistent feed of DR-grade pellets but from Minorca and not from Northshore.
As also explained earlier, we continue to generate plenty of cash and should see a meaningful reduction in debt during the fourth quarter, even after paying for the FPT acquisition.
Based on our expected EBITDA for this year, our 2021 full-year leverage is already at a very comfortable level of less than one time EBITDA.
With the new sales contracts we have already signed, our ability to continue to pay down debt is even stronger than what we announced last quarter.
The $45 million that we paid in vaccination bonus this quarter was by far our best use of cash.
And we are pleased that we reached above 75% vaccination rate across our entire footprint, beating by a large margin the percentage of vaccinated local population in all communities we operate.
We are keeping our workforce safe, healthy and compensating them to do so.
Soon, we look forward to welcoming another 600 Cliffs employees from the FPT acquisition.
We can't wait to bring them into our company and our way of doing business.

user
believe that our average sales price next year should be higher than in 2021.

assistant