Cleveland-Cliffs does not have the profile of a defensive investment based on the requirements of Ben Graham. The Industrial Metals & Mining firm may nonetheless be of interest to more risk-oriented investors who have a solid thesis on the company's future growth. At Market Inference, we remain agnostic as to such further developments, and prefer to use a company's past track record as the bellwether for future potential gains.
Cleveland-Cliffs trades at Attractive Multiples
Benjamin Graham's so-called “Graham number” is a popular metric determining the fair price of a stock in relation to its earnings and the book value of its equity. We calculate the Graham number as √(22.5 * 6 year average earnings per share (2.25) * 6 year average book value per share (15.338), which for Lennar gives us a fair price of $27.85.
In comparison, Cleveland-Cliffs’s market price is $14.71 per share. The analysis shouldn’t end here. The Graham number is just one of seven requirements for defensive stocks listed in Chapter 14 of The Intelligent Investor, which we will review below.
Negative Retained Earnings In 2018, 2019, And 2020, An Acceptable Record Of Dividends, and Decreasing Earnings Per Share
Ben Graham wrote that an investment in a company with a record of positive retained earnings could contribute significantly to the margin of safety. However, Cleveland-Cliffs had negative retained earnings in 2018, 2019, and 2020 with an average of $-486833333.3333333 over this period.
Another one of Graham's requirements is for a 30% or more cumulative growth rate of the company's earnings per share over the last ten years.We are going to compare Cleveland-Cliffs's earnings per share averages from the two 'bookends' of the 16 year period for which we have data. The first bookend comprises the years 2007, 2008, and 2009, whose EPS values of $2.57, $4.76, and $0.82 average out to $2.72. Next we look at the years 2020, 2021, and 2022, whose values of $-0.32, $5.36, and $2.55 average out to $2.53. The growth rate between the two averages does not meet Graham's standard since it is -6.99%.
We have no record of Cleveland-Cliffs offering a regular dividend.
Cleveland-Cliffs’s Balance Sheet Meets Graham’s Criteria
It was also essential to Graham that the company’s current assets outweigh its current liabilities, and that its long term debt be inferior to the sum of its net current assets (current assets minus total liabilities). This is the aspect of the analysis that most companies fail, yet Cleveland-Cliffs passes comfortably, with an average current ratio of 2.1, and average debt to net current asset ratio of -1.3.
Conclusion
According to Graham's analysis, Cleveland-Cliffs is likely a company of average quality, which does not offer a significant enough margin of safety for a risk averse investor.
| 2018-03-13 | 2019-02-08 | 2020-02-20 | 2021-02-26 | 2022-02-11 | 2023-02-14 | |
|---|---|---|---|---|---|---|
| Revenue (MM) | $1,866 | $2,332 | $1,990 | $5,354 | $20,444 | $22,989 |
| Gross Margins | 25.0% | 35.0% | 28.0% | 5.0% | 22.0% | 11.0% |
| Operating Margins | 21% | 28% | 23% | 0% | 20% | 9% |
| Net Margins | 20.0% | 48.0% | 15.0% | -2.0% | 15.0% | 6.0% |
| Net Income (MM) | $367 | $1,128 | $293 | -$122 | $2,988 | $1,335 |
| Net Interest Expense (MM) | -$127 | -$119 | -$101 | -$238 | -$337 | -$276 |
| Depreciation & Amort. (MM) | -$88 | -$89 | -$85 | -$308 | -$897 | -$1,034 |
| Earnings Per Share | $1.25 | $3.71 | $1.03 | -$0.32 | $5.46 | $2.39 |
| EPS Growth | n/a | 196.8% | -72.24% | -131.07% | 1806.25% | -56.23% |
| Diluted Shares (MM) | 293 | 304 | 284 | 379 | 547 | 557 |
| Free Cash Flow (MM) | $490 | $775 | $1,224 | $267 | $3,490 | $3,366 |
| Capital Expenditures (MM) | -$152 | -$296 | -$656 | -$525 | -$705 | -$943 |
| Net Current Assets (MM) | -$1,853 | -$1,626 | -$2,248 | -$8,394 | -$5,548 | -$3,291 |
| Long Term Debt (MM) | $2,304 | $2,093 | $2,114 | $5,390 | $5,238 | $4,249 |
