In late 2014, junior miner Atlas Iron was turning a profit and generating cash flow, but at the same time as it came under severe financial stress that threatened its future. Founder and then managing director David Flanagan FAICD explains that two factors came together to put the miner at risk of breaching its debt covenants.
Firstly, valuations of the miner were based on the future forecast iron ore prices, which were much lower than the prevailing price and so the value of the company dropped from about $2.5b to $1.2b. Then a sharp drop in the Australian dollar from around parity to about US60c increased its foreign debt from about $275m to $500m.
“It was a bizarre situation,” says Flanagan, now managing director of Battery Minerals, which is exploring for and developing mineral deposits in Mozambique. To make matters worse, the share price plunged while the company was trying to raise money on the share market, first at 70c a share then down as far as 3c.
“It was like trying to catch a knife,” says Flanagan. “It was almost a perfect confluence of changing futures. The current iron ore price was going OK, and we were making money, but the perception was that the future fell off a cliff. That forced our share price down. That also forced a re-evaluation of our assets. Some of the lenders became aware that there was risk.”
Atlas was founded by Flanagan in 2004 and rode the iron ore boom, growing from a $9m exploration business with one employee to a more than $3b company at its peak in 2011.
$500m Atlas Iron’s foreign debt — courtesy of falling iron ore prices
As it grew, it was spending $100m to $150m a year on building up the business, with all of the cash raised from shareholders until 2012, when it first borrowed money.
The company had modelled a “doomsday scenario” with falling iron ore prices and asset valuations before the crisis hit, but Flanagan says now: “We should have modelled a double, triple, quadruple doomsday scenario right at the beginning.”
However, he also points out it was operating in an environment where the iron ore price had risen from US$25 a tonne to US$220 a tonne, and while some people say that it was obvious that the price was going to fall back to US$45, Flanagan recalls no-one was predicting that at the time. “We were all iron ore bulls,” he says.
As the iron ore price fell, Atlas moved quickly to reduce costs and to try to refinance its debt.
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The directors worked to a self-imposed deadline to refinance, all while constantly monitoring progress. “If at some stage during that agreed time line we found something was falling behind or there was a change in likelihood, we had to appoint an administrator,” he says.
Ironically, the company was still making a profit because it had locked in higher iron ore prices in its contracts. The board met weekly and constantly monitored iron ore forecasts, the share price and debt ratios, and in particular, working capital, as well as maintaining constant communication with their lenders. It also kept a close eye on every iron ore shipment. “We knew how much money we were making on every tonne and we tracked every booked ship,” he says.
Flanagan relates that in Easter 2015, Atlas had an in-principle deal to restructure its debt with a syndicate in Los Angeles. With the iron ore price at around US$46 a tonne, the managers jumped on a plane to head to the US to sign the deal, but by the time they landed the price had dropped to around US$38 and the deal was off. “That was the point where we suspended all the operations — and that’s when you find out who your friends are.”
The board took a pay cut and reduced its numbers from six to four. Eventually, the company renegotiated its debt, with lenders taking 70 per cent of the company’s equity. The choice was stark — take the deal or go into administration.
Flanagan stepped down in 2016. He and his former colleagues have discussed what they could have done differently, concluding the only thing would’ve been a different debt structure — which might have bought Atlas an extra six months.