Cleveland-Cliffs Inc. Quarterly report pursuant to Section 13 or 15(d)

Quarterly report pursuant to Section 13 or 15(d)

FAIR VALUE OF FINANCIAL INSTRUMENTS

FAIR VALUE OF FINANCIAL INSTRUMENTS

9 Months Ended

Sep. 30, 2014

NOTE 7 - FAIR VALUE MEASUREMENTS

The following represents the assets and liabilities of the Company measured at fair value at September 30, 2014 and December 31, 2013:



	(In Millions)
	September 30, 2014
Description	Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total
Assets:
Cash equivalents	$	120.0	$	—	$	—	$	120.0
Derivative assets	—		—		54.5		54.5
Available-for-sale marketable securities	6.1		—		—		6.1
Foreign exchange contracts	—		—		—		—
Total	$	126.1	$	—	$	54.5	$	180.6
Liabilities:
Derivative liabilities	$	—	$	—	$	23.3	$	23.3
Foreign exchange contracts	—		17.4		—		17.4
Total	$	—	$	17.4	$	23.3	$	40.7



	(In Millions)
	December 31, 2013
Description	Quoted Prices in Active Markets for Identical Assets/Liabilities (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total
Assets:
Cash equivalents	$	85.0	$	—	$	—	$	85.0
Derivative assets	—		—		58.9		58.9
Available-for-sale marketable securities	21.4		—		—		21.4
Foreign exchange contracts	—		0.3		—		0.3
Total	$	106.4	$	0.3	$	58.9	$	165.6
Liabilities:
Derivative liabilities	$	—	$	2.1	$	10.3	$	12.4
Foreign exchange contracts	—		26.9		—		26.9
Total	$	—	$	29.0	$	10.3	$	39.3

Financial assets classified in Level 1 at September 30, 2014 and December 31, 2013 include money market funds and available-for-sale marketable securities. The valuation of these instruments is based upon unadjusted quoted prices for identical assets in active markets.

The valuation of financial assets and liabilities classified in Level 2 is determined using a market approach based upon quoted prices for similar assets and liabilities in active markets, or other inputs that are observable. Level 2 securities primarily include derivative financial instruments valued using financial models that use as their basis readily observable market parameters. At September 30, 2014 and December 31, 2013, such derivative financial instruments included our existing foreign currency exchange contracts and interest rate swaps. The fair value of the foreign currency exchange contracts is based on forward market prices and represents the estimated amount we would receive or pay to terminate these agreements at the reporting date, taking into account creditworthiness, nonperformance risk and liquidity risks associated with current market conditions.

The derivative financial assets classified within Level 3 at September 30, 2014 and December 31, 2013 included a freestanding derivative instrument related to certain supply agreements with one of our U.S. Iron Ore customers. The agreements include provisions for supplemental revenue or refunds based on the customer’s annual steel pricing at the time the product is consumed in the customer’s blast furnaces. We account for this provision as a derivative instrument at the time of sale and adjust this provision to fair value as an adjustment to Product revenues each reporting period until the product is consumed and the amounts are settled. The fair value of the instrument is determined using a market approach based on an estimate of the annual realized price of hot-rolled steel at the steelmaker’s facilities, and takes into consideration current market conditions and nonperformance risk.

The Level 3 derivative assets and liabilities also consisted of derivatives related to certain provisional pricing arrangements with our U.S. Iron Ore, Eastern Canadian Iron Ore and Asia Pacific Iron Ore customers at September 30, 2014 and December 31, 2013. These provisional pricing arrangements specify provisional price calculations, where the pricing mechanisms generally are based on market pricing, with the final revenue rate to be based on market inputs at a specified point in time in the future, per the terms of the supply agreements. The difference between the provisionally agreed-upon price and the estimated final revenue rate is characterized as a derivative and is required to be accounted for separately once the revenue has been recognized. The derivative instrument is adjusted to fair value through Product revenues each reporting period based upon current market data and forward-looking estimates provided by management until the final revenue rate is determined.

The following table illustrates information about quantitative inputs and assumptions for the derivative assets and derivative liabilities categorized in Level 3 of the fair value hierarchy:

Qualitative/Quantitative Information About Level 3 Fair Value Measurements

($ in millions)

Fair Value at September 30, 2014

Balance Sheet Location

Valuation Technique

Unobservable Input

Range or Point Estimate

(Weighted Average)

Provisional Pricing Arrangements

23.3

Derivative liabilities

Market Approach

Management's

Estimate of 62% Fe

$78

Customer Supply Agreement

54.5

Derivative assets

Market Approach

Hot-Rolled Steel Estimate

$635 - $665 ($650)

The significant unobservable input used in the fair value measurement of the reporting entity’s provisional pricing arrangements is management’s estimate of 62 percent Fe fines spot price based upon current market data, including historical seasonality and forward-looking estimates determined by management. Significant increases or decreases in this input would result in a significantly higher or lower fair value measurement, respectively.

The significant unobservable input used in the fair value measurement of the reporting entity’s customer supply agreement is the future hot-rolled steel price that is estimated based on current market data, analysts' projections, projections provided by the customer and forward-looking estimates determined by management. Significant increases or decreases in this input would result in a significantly higher or lower fair value measurement, respectively.

We recognize any transfers between levels as of the beginning of the reporting period. There were no transfers between Level 1 and Level 2 of the fair value hierarchy during the three and nine months ended September 30, 2014 or 2013. The following tables represent a reconciliation of the changes in fair value of financial instruments measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three and nine months ended September 30, 2014 and 2013.



	(In Millions)
	Derivative Assets (Level 3)
	Three Months Ended September 30,						Nine Months Ended September 30,
	2014			2013			2014			2013
Beginning balance	$	33.0		$	45.1		$	58.9		$	62.4
Total gains
Included in earnings	62.6			57.6			124.6			118.0
Settlements	(41.1		)	(36.0		)	(129.0		)	(113.7		)
Transfers into Level 3	—			—			—			—
Transfers out of Level 3	—			—			—			—
Ending balance - September 30	$	54.5		$	66.7		$	54.5		$	66.7
Total gains for the period included in earnings attributable to the change in unrealized gains on assets still held at the reporting date	$	62.6		$	57.6		$	124.6		$	118.0



	(In Millions)
	Derivative Liabilities (Level 3)
	Three Months Ended September 30,						Nine Months Ended September 30,
	2014			2013			2014			2013
Beginning balance	$	(20.2	)	$	(32.0	)	$	(10.3	)	$	(11.3	)
Total gains
Included in earnings	(3.1		)	20.6			(23.3		)	(11.4		)
Settlements	—			—			10.3			11.3
Transfers into Level 3	—			—			—			—
Transfers out of Level 3	—			—			—			—
Ending balance - September 30	$	(23.3	)	$	(11.4	)	$	(23.3	)	$	(11.4	)
Total losses for the period included in earnings attributable to the change in unrealized losses on liabilities still held at the reporting date	$	(3.1	)	$	20.6		$	(23.3	)	$	(11.4	)

Gains and losses included in earnings are reported in Product revenues in the Statements of Unaudited Condensed Consolidated Operations for the three and nine months ended September 30, 2014 and 2013.

The carrying amount for certain financial instruments (e.g., Accounts receivable, net, Accounts payable and Accrued expenses) approximate fair value and, therefore, have been excluded from the table below. A summary of the carrying amount and fair value of other financial instruments at September 30, 2014 and December 31, 2013 were as follows:



		(In Millions)
		September 30, 2014				December 31, 2013
	Classification	Carrying Value		Fair Value		Carrying Value			Fair Value
Long-term debt:
Senior notes—$700 million	Level 2	$	699.5	$	539.6	$	699.4		$	718.2
Senior notes—$1.3 billion	Level 2	1,289.8		974.7		1,289.6			1,404.9
Senior notes—$400 million	Level 2	398.6		341.8		398.4			432.1
Senior notes—$500 million	Level 2	497.1		433.0		496.5			523.8
Revolving loan	Level 2	—		—		—			—
Equipment loan facilities	Level 2	124.6		124.6		140.8			140.8
Fair value adjustment to interest rate hedge	Level 2	2.9		2.9		(2.1		)	(2.1		)
Total long-term debt		$	3,012.5	$	2,416.6	$	3,022.6		$	3,217.7

The fair value of long-term debt was determined using quoted market prices or discounted cash flows based upon current borrowing rates, adjusted for performance risk inherent in recent market transactions. The revolving loan and equipment loan facilities are variable rate interest and approximate fair value. See NOTE 8 - DEBT AND CREDIT FACILITIES for further information.

Items Measured at Fair Value on a Non-Recurring Basis

The following tables present information about the impairment charges on both financial and nonfinancial assets that were measured on a fair value basis at September 30, 2014 and December 31, 2013. The tables also indicate the fair value hierarchy of the valuation techniques used to determine such fair value.



	(In Millions)
	September 30, 2014
Description	Quoted Prices in Active Markets for Identical Assets/ Liabilities (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total		Total Losses
Assets:
Goodwill impairment - Asia Pacific Iron Ore reporting unit	$	—	$	—	$	—	$	—	$	73.5
Other long-lived assets - Property, plant and equipment and Mineral rights:
Asia Pacific Iron Ore reporting unit	—		—		343.4		343.4		291.9
North American Coal reporting unit
CLCC thermal asset group	—		—		62.6		62.6		195.5
Pinnacle asset group	—		—		30.7		30.7		394.5
Oak Grove asset group	—		—		58.2		58.2		237.8
Eastern Canadian Iron Ore reporting unit
Bloom Lake asset group	—		—		937.2		937.2		6,279.2
Wabush asset group	—		—		1.0		1.0		12.8
Ferroalloys reporting unit	—		—		12.2		12.2		259.5
Other reporting units	—		—		—		—		3.1
Other long-lived assets - Intangibles and other long-term assets:
Asia Pacific Iron Ore reporting unit	—		—		11.9		11.9		10.1
Eastern Canadian Iron Ore reporting unit
Wabush asset group	—		—		—		—		15.2
Investment in ventures impairment - Global Exploration	—		—		—		—		9.2
	$	—	$	—	$	1,457.2	$	1,457.2	$	7,782.3

Financial Assets

During the third quarter of 2014, an impairment charge of $9.2 million to investment in ventures was recorded within our Global Exploration operating segment as a decision was made to abandon the investment during the period.

Non-Financial Assets

During the third quarter of 2014, we identified factors that indicate the carrying values of the asset groups in the chart above may not be recoverable. Primary factors include that estimates of long-term price forecasts were updated as part of management’s long-range planning process. Updated estimates of long-term prices for all products, specifically the Platts 62 percent Fe fines spot price, which particularly effects Eastern Canadian Iron Ore and Asia Pacific Iron Ore business segments because their contracts correlate heavily to world market spot pricing, and the benchmark price for premium low-volatile hard coking coal were lower than prior estimates. These estimates were updated based upon current market conditions, macro-economic factors influencing the balance of supply and demand for our products and expectations for future cost and capital expenditure requirements. Additional factors include a new CEO, Lourenco Goncalves, appointed by the Board of Directors in early August 2014 and subsequently identified as the CODM in accordance with ASC 280, Segment Reporting. The new CODM views Eastern Canadian Iron Ore, Asia Pacific Iron Ore, North American Coal and Ferroalloys as non-core assets and has communicated plans to evaluate the business units for a change in strategy including possible divestiture. These factors, among other considerations utilized in the individual impairment assessments, indicate that the carrying value of the respective asset groups in the chart above and Asia Pacific Iron Ore goodwill may not be recoverable.

During the third quarter of 2014, a goodwill impairment charge of $73.5 million was recorded for our Asia Pacific Iron Ore reporting units within our Asia Pacific Iron Ore operating segment. Based on our review of the fair value hierarchy, the inputs used in these fair value measurements were considered Level 3 inputs.

We also recorded impairment charges to property, plant and equipment, mineral rights, intangible assets and other long-term assets during the third quarter of 2014 related to our Wabush operation and Bloom Lake operation within our Eastern Canadian Iron Ore operating segment, our Asia Pacific Iron Ore operating segment and our CLCC thermal operation, Oak Grove operation and Pinnacle operation within our North American Coal operating segment, along with impairments charged to reporting units within our Other reportable segments. A detailed break out of the impairment charges is shown in the chart above. The recorded impairment charges reduce the related assets to their estimated fair value as we determined that the future cash flows associated with these operations were not sufficient to support the recoverability of the carrying value of these assets. Fair value was determined based on management's best estimate within a range of fair values, which is considered a Level 3 input, and resulted in an asset impairment charge of $7,699.6 million. The Level 3 inputs used to determine fair value included models developed and market inputs obtained by management which provided a range of fair value estimates of property, plant and equipment. Management’s models include internally developed long-term cash flow estimates, capital expenditure and cost estimates, market inputs to determine long-term pricing assumptions, discount rates, and foreign exchange rates.



	(In Millions)
	December 31, 2013
Description	Quoted Prices in Active Markets for Identical Assets/ Liabilities (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total		Total Losses
Assets:
Goodwill impairment - Ferroalloys reporting unit	$	—	$	—	$	—	$	—	$	80.9
Other long-lived assets - Property, plant and equipment	—		—		46.3		46.3		155.4
Other long-lived assets - Intangibles and long-term deposits	—		—		1.6		1.6		14.5
Investment in ventures impairment - Amapá	—		—		—		—		67.6
	$	—	$	—	$	47.9	$	47.9	$	318.4

Financial Assets

In light of the March 28, 2013 collapse of the Santana port shiploader and subsequent evaluation of the effect that this event had on the carrying value of our investment in Amapá as of June 30, 2013, we recorded an impairment charge of $67.6 million in the second quarter of 2013. The sale of Amapá was completed in the fourth quarter of 2013.

Non-Financial Assets

During the fourth quarter of 2013, a goodwill impairment charge of $80.9 million was recorded for our Cliffs Chromite Ontario and Cliffs Chromite Far North reporting units within our Ferroalloys operating segment. The impairment charge was primarily a result of the decision to indefinitely suspend the Chromite Project and to not allocate additional capital for the project given the uncertain timeline and risks associated with the development of necessary infrastructure to bring the project online. Based on our review of the fair value hierarchy, the inputs used in these fair value measurements were considered Level 3 inputs.

We also recorded impairment charges to property, plant and equipment during 2013 related to our Wabush operation within our Eastern Canadian Iron Ore operating segment, our Cliffs Chromite Ontario and Cliffs Chromite Far North reporting units within our Other reportable segments and certain mineral lands at our Asia Pacific Iron Ore operating segment to reduce the related assets to their estimated fair value as we determined that the cash flows associated with these operations were not sufficient to support the recoverability of the carrying value of these assets. Fair value was determined based on management's estimate of liquidation value, which is considered a Level 3 input, and resulted in a charge of $155.4 million.

- Definition

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

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