When considering any stock for your portfolio, don't be swayed by just the positives. Examine its pros and cons, and decide whether it's possible upside outweighs its risks. Let's take a look at Cliffs Natural Resources
Based in Cleveland and with a market capitalization around $5 billion, Cliffs is in the business of mining, specializing in iron ore pellets, thermal coal (used for generating power), metallurgical coal (used in steel-making), and more. It traces its history way back to 1847 (before the Civil War!) and used to be called Cleveland-Cliffs.
The company's stock has been just about cut in half over the past year, leading some to wonder whether it's a good buy now.
Buy
One reason to consider buying into Cliffs is simply the business it's in. Yes, materials are cyclical, rising and falling in response to overall economic conditions, but they're not likely to go out of demand anytime soon. Some degree of manufacturing goes on even during recessions, and then really picks up as the economy improves. And companies involved in power generation enjoy more consistent demand -- there may be somewhat fewer factories firing, but consumers and most businesses will still need to turn on lights and plug things in.
You might also like the company's growth rates, with revenue and earnings growing by 25% and 33%, respectively, on average, over the past five years -- and those growth rates have been accelerating, too, over the years. (The company's recent second-quarter results were disappointing, though, sending the stock lower.)
Like dividends? Check this out -- a 6.4% recent dividend yield. If that's not enough, the dividend has been growing by an annual average of 33% over the past five years. But wait -- there's more! A growth rate of 33% is clearly unsustainable over long periods, but Cliffs' payout ratio is very small, near 15%, meaning that there's still a lot of room for growth before it starts paying out much of or more than it makes.
Want growth potential? Think about China, and how it will need a lot of steel as it grows and builds. It's the same with other developing nations. Think about the auto industry, too, which has suffered over many years now, as consumers have put off buying new vehicles as much as possible, in the face of a recessionary environment with high unemployment. That can't last forever. Aging clunkers will eventually get replaced, and demand for steel from the industry will grow.
Then there's the stock's valuation. Its recent price-to-earnings (P/E) ratio is below 4, as is its forward P/E. Compare that with its five-year average P/E of 14 and the S&P 500's forward P/E of 14, and the stock looks rather compellingly priced. Its price-sales, price-to-book-value, and price-to-cash-flow ratios are also well below their five-year averages for the company.
Compare it with some other companies involved in mining:
|
Company |
P/E |
5-Year P/E Average |
Estimated 2012 Revenue Growth |
Estimated 2013 Revenue Growth |
|---|---|---|---|---|
| Cliffs Natural Resources | 3.8 | 13.8 | (3.9%) | 9.2% |
|
Alpha Natural Resources |
(0.5) | 48.1 | 1.1% | (4%) |
|
ArcelorMittal |
38.8 | 128.5 | (5.6%) | 6.6% |
|
Peabody Energy |
6.7 | 20.9 | 2.2% | 9.7% |
|
VALE |
6.7 | 12.8 | (15.6%) | 9.9% |
Data: Morningstar, Yahoo! Finance.
Sell
One reason to look elsewhere than at Cliffs is Europe, where the economic crises in play are depressing demand and hurting companies such as Cliffs.
The price of coal is another problem, as it has fallen. And making matters worse, with the EPA cracking down some on pollution and natural gas prices being very low, lots of power plants are converting from burning coal to burning gas. (Fortunately, supplying power companies with coal isn't a huge part of Cliffs' business.)
Prices for iron ore have fallen also, though, worrying some investors.
Some analysts are losing faith, too. An analyst at Goldman Sachs, for example, recently lowered his price target for the company from $65 to $50. (Note, though, that with the stock recently below $40, it still seems undervalued.) Other analysts remain bullish, though.
And finally, there's long-term debt, which has been rising significantly in recent years, from around $440 million at the end of 2007 to $3.8 billion recently.
Hold (or hold off)
Given the reasons to buy or sell Cliffs Natural Resources, it's not unreasonable to decide to just hold off. You might want to wait for coal and/or iron prices to rise, or for Cliffs to start reporting brisker growth. You might also want to see significant cuts in the company's debt load.
The verdict
I'm holding off on Cliffs Natural Resources for now. It may perform spectacularly in the coming years, but there are plenty of compelling stocks out there. Everyone's investment calculations are different, though. Do your own digging and see what you think.
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