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Rating Action:

Moody's confirms Cliffs B1 CFR among other rating actions; outlook negative

27 Feb 2020

New York, February 27, 2020 -- Moody's Investors Service, ("Moody's") confirmed Cleveland-Cliffs Inc. (Cliffs) B1 Corporate Family Rating (CFR), B1-PD Probability of Default rating and its B3 senior unsecured notes rating. Moody's downgraded Cliffs guaranteed senior secured notes to Ba3 from Ba2, and its guaranteed senior unsecured notes to B2 from B1. At the same time, Moody's assigned a Ba3 rating to Cliffs new $550 million guaranteed senior secured notes due 2028, and a B2 rating to the company's new $400 million senior unsecured guaranteed notes due 2028. The Speculative Grade Liquidity Rating was lowered to SGL-2 from SGL-1. The outlook is negative.

This concludes the review for downgrade initiated on December 3, 2019.

Proceeds from the new debt issuance will be used to refinance AK Steel Corporation's outstanding senior secured notes due 2023 and senior unsecured notes due 2021 upon closing of the merger between Cliffs and AK Steel. The merger has received early termination of the waiting period under the Hart Scott Rodino Act (HSR Act) in addition to clearance from the Mexican Competition Commission and pursuant to the Competition Act (Canada). The registration statement with the SEC has also been deemed effective. The transaction remains subject to shareholder votes by shareholders of both Cliffs and AK Steel.

The confirmation of the B1 CFR reflects the fact that the final terms of the transaction are unchanged from the original announcement, the transaction remains debt neutral for the combined companies and market conditions remain acceptable, particularly with the improvement in recent months in steel prices. The downgrade in Cliffs' guaranteed senior secured notes and guaranteed senior unsecured notes reflects the changes in the capital structure following the refinancing of AK Steel's debt.

Following completion of the merger, the rating methodology for Cliffs will be changed to the Steel Industry methodology (September 13, 2017) as the majority of revenues will be generated from the steel segment of the business. This does not result in a rating change.

Confirmations:

..Issuer: Cleveland-Cliffs Inc.

....Corporate Family Rating, Confirmed B1

....Probability of Default Rating, Confirmed at B1-PD

....Senior Unsecured Regular Bond/Debenture, Confirmed at B3 (LGD6) from (LGD5)

Downgrades:

..Issuer: Cleveland-Cliffs Inc.

....Speculative Grade Liquidity Rating, Downgraded to SGL-2 from SGL-1

....Gtd Senior Secured Regular Bond/Debenture, Downgraded to Ba3 (LGD3) from Ba2 (LGD2)

....Gtd Senior Unsecured Regular Bond/Debenture, Downgraded to B2 (LGD4) from B1 (LGD4)

Assignments:

..Issuer: Cleveland-Cliffs Inc.

....Gtd Senior Secured Regular Bond/Debenture, Assigned Ba3 (LGD3)

....Gtd Senior Unsecured Regular Bond/Debenture, Assigned B2 (LGD4)

Outlook Actions:

..Issuer: Cleveland-Cliffs Inc.

....Outlook, Changed To Negative From Rating Under Review

RATINGS RATIONALE

Cliffs B1 CFR reflects the company's cushion within the B1 rating category to absorb the increase in debt from the assumption of AK Steel's obligations. Improved operating performance, liability management and debt reduction and the strengthened debt protection metrics are factors contributing to the cushion in the rating. The transaction provides Cliffs with a captive source of sales for its iron ore pellets as AK Steel is one of its largest customers. Cliffs will also continue to have third party sales. Additionally, the ability to supply HBI to the electric arc furnace (EAF) steel producers (account for roughly 70% of steel produced in the US and will continue to increase) in replacement of imported pig iron, upon completion of the HBI plant, will contribute to increased market share. The HBI plant remains on schedule for start-up in June 2020 with full capacity being reached in 2021. Cliffs now has major EAF customers on a commercial basis for its HBI production.

The rating also considers the diversification of Cliffs business foot print from a single commodity with high customer concentration to a more integrated producer of iron ore and steel. Additionally, the combination of the companies will allow for a more balanced performance on a quarterly basis than the extreme seasonality seen in Cliffs' business on a stand-alone basis.

The rating anticipates that AK Steel's cost profile will benefit from more competitively priced iron ore pellets helping to improve its EBITDA/ton performance. AK Steel's strong position supplying the automotive end market on a contract basis (roughly 66% of revenues) and continued focus on value added products through Precision Partners and AK Tube, as well as the continued development and roll out of next gen and high strength steels also support the expected improvement in performance. While light vehicle sales in the automotive sector have softened, we expect US light vehicle sales in the US of 16.9MM units in 2020.

A roughly 5.8% decline in sales volume in 2019, which drove a lower sales margin, driven primarily by the roughly 5.8% decline in realized prices and lower pellet premiums contributed to lower operating income. This was most impactful in the fourth quarter, which also considers the need to true-up volumes under a contract that also contains a component of hot-rolled coil (HRC) steel pricing. Given the decline in HRC prices over the course of 2019, this true-up was negative. HRC prices bottomed in October 2019 (at around $463/ton) and are currently around $578 ton, which will be a favorable benefit to 2020. The earnings compression contributed to a more highly leveraged position reflected by the increase in debt/EBITDA to roughly 4.3x in 2019 from 2.7x in 2018.

While Cliffs free cash flow was negative in 2019 due to the ongoing strategic investment in its HBI plant, and share repurchases, this is expected to turn positive in 2020 as the expenditures associated with the HBI project are completed and the project comes on line and provides increasing profitability over time. The cash flow gap was covered from existing cash balances.

Initially, leverage of the combined companies, as measured by Moody's pro forma adjusted debt/EBITDA ratio for the year ended December 31, 2019 of about 5.2x is somewhat high for the rating, reflecting the increase in unfunded pension liabilities associated with AK Steel. This is expected to moderate within a reasonable time frame on earnings improvement, although on an adjusted basis will remain somewhat elevated in 2020. Additionally, Cliffs expects $120 million in annual cost synergies, which have not been fully considered in the pro forma leverage ratio.

With respect to the iron ore markets, the rating continues to incorporate volatility in iron ore prices, hot-rolled prices (to which certain contracts have a component in their pricing) and the Atlantic seaborne pellet premium. With respect to the steel business being acquired, the rating incorporates volatility in steel prices, end market demand, and the challenge from competing materials such as aluminum.

The SGL-2 Speculative Grade Liquidity rating reflects the company's good liquidity position as evidenced by Cliffs cash position of roughly $353 million at December 31, 2019. Liquidity is also supported by a $450 million ABL, which expires the earlier of February 28, 2023 or a date that is 60 days prior to the maturity of existing debt as defined in the ABL. The facility contains a 1:1 fixed charge coverage requirement should availability be less than the greater of 10% of the aggregate facility and $35 million.

The company intends at closing of the merger to have a $2 billion asset based lending (ABL) facility replacing its current $450 million ABL and AK Steel's $1.5 billion ABL. The SGL-2 considers the expected negative initial free cash flow and the likelihood of borrowings to support the refinancing of AK Steel's debt.

The negative outlook reflects the challenging steel environment and low although improved steel prices as well as the need to achieve the expected improvement in AK Steel's EBITDA/ton. The challenging environment for the steel industry can have repercussions on iron ore suppliers should demand requirements be reduced. The outlook also considers the start-up risks associated with the HBI facility although it remains on time and on budget for commercial production in the first half of 2020. The negative outlook also incorporates the operating and integration risks associated with the acquisition of AK Steel.

An upgrade to the CFR would require the combined company to demonstrate the ability to sustain leverage, as measured by the debt/EBITDA ratio of no more than 3.5x through various price points, (CFO-dividends)/Debt of at least 25% and maintain good liquidity. The CFR could be downgrade should leverage remain elevated at or above 4x, (CFO-dividends)/debt be less than 15% and liquidity tighten.

As an integrated steel producer, Cliffs will face a number of environmental risks related to both the mining industry and the steel industry. By the nature of its business, Cliffs mining business faces a number of environmental risks typical for a company in the mining industry, including but not limited to wastewater discharges, site remediation and mine closures, tailings management, air emissions and social responsibility. The company is subject to many and varied environmental laws and regulations in areas where it operates. On our environmental heat map, the mining sector overall is viewed as a very high-risk sector for soil pollution and use restrictions and a high-risk sector for water shortages and natural and man-made hazards. AK Steel, like all producers in the global steel sector, particularly blast furnace producers, faces pressure to reduce greenhouse gas and air pollution emissions, among a number of other sustainability issues and will likely incur costs to meet increasingly stringent regulations. From a governance perspective, Cliffs in recent years has demonstrated a good focus on liability management and this is expected to continue given the volatility in pricing in both the iron ore and steel markets. In this regard, the company is expected to remain focused on liability management and the level of debt in the capital structure. Succession planning remains a consideration given the role of the Chairman, President and CEO in guiding the company through its transformation since 2014.

Headquartered in Cleveland, Ohio, Cleveland-Cliffs is the largest iron ore producer in North America with approximately 21.2 million equity tons of annual capacity. Commercial production at the Toledo, Ohio HBI facility is expected to begin mid-2020. For the twelve months ended December 31, 2019 Cliffs had revenues of $2 billion.

Headquartered in West Chester, Ohio, AK Steel Corporation (AK Steel) ranks as a middle tier integrated steel producer, operating steelmaking and finishing plants in Ontario in Canada, Indiana, Kentucky, Ohio, Michigan and Pennsylvania in United States. The company also has tube manufacturing facilities in Indiana, Ohio, and Mexico. Additionally, through its Precision Partners, AK Steel is involved in engineering, tooling, die design and hot and cold stamped steel parts. AK Steel produces flat-rolled carbon steels, including coated, cold-rolled and hot-rolled products, as well as specialty stainless and electrical steels. Principal end markets include automotive, steel service centers, appliance, industrial machinery, infrastructure, construction, and distributors and converters. Through its AK Coal Resources Inc. subsidiary, the company has interests in metallurgical coal production. Revenues for the twelve months ended December 31, 2019 were approximately $6.4 billion.

The principal methodology used in these ratings was Mining published in September 2018. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

REGULATORY DISCLOSURES

For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Carol Cowan
Senior Vice President
Corporate Finance Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Glenn B. Eckert
Associate Managing Director
Corporate Finance Group
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

No Related Data.
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