Fitch Rates U.S. Steel's $980MM Sr. Secured Notes 'BB/RR2'; Downgrades Sr. Unsecured Notes

Fitch Ratings has assigned United States Steel Corporation's (U.S. Steel; NYSE: X) proposed 8.375% senior secured notes due July 1, 2021 a rating of 'BB/RR2.' Collateral is to include, but not be limited to, all of the U.S. Steel's equipment, investment property, certain fixtures and owned real property as well as all general intangibles, intellectual property and intellectual property licenses.

Fitch has also downgraded U.S. Steel's senior unsecured notes to 'B-/RR6' from 'B+/RR4' given the additional senior secured debt ahead of the senior unsecured notes in the capital structure. Pro forma for the repayment of unsecured notes, $2.2 billion in notes are affected by this action.

Fitch rates U.S. Steel's Long-Term Issuer Default Rating (IDR) 'B+'/Negative Outlook. A full list of ratings follows at the end of this release.

KEY RATING DRIVERS

Recovery Analysis

In its recovery analysis, Fitch assumes a going concern EBITDA of $550 million compared to the latest-12-month (LTM) March 31, 2016 operating loss before interest, taxes and depreciation and amortization of $151 million to reflect a recovery in flat-rolled pricing and volumes as well as modest improvement in tubular. For 2016, Fitch expects operating EBITDA of around $350 million.

Fitch assumes an enterprise value multiple of 5x which generates a distressed going concern enterprise value of $2.8 billion. Fitch assumes administrative claims at $275 million or 10% of enterprise value. Fitch assumes the revolver is drawn to its $1.35 billion capacity. While this analysis indicates outstanding recovery for the secured notes, Fitch constrained the recovery rating to 'RR2' (71% - 90%) to reflect the less liquid nature of the collateral. In its 8K filed May 2, 2016, U.S. Steel stated that the book value of the fixtures, real estate, machinery and equipment included in the collateral was approximately $2.2 billion, as of March 31, 2016.

The proceeds of the secured notes are to be used to repay debt focussing on near-term maturities. In its recovery analysis, Fitch assumes that $900 million of the $933 million notes due 2017 and 2018 are repaid. The recovery on the senior unsecured notes is very sensitive to assumptions; the recovery rating has been constrained to an 'RR6'.

Depressed Earnings/Cash Flow

Improvement in earnings and cash flow will require better oil prices and reduced steel import competition. While imports have been declining, steel prices have been increasing. Fitch views current oil prices as unsustainably low; visibility into the timing of full price and volume recovery is limited.

Lower rig counts have hit the company's oil country tubular goods (OCTG) volumes. The tubular segment shipments for 2015 were 593 thousand tons compared with 1.7 million tons in 2014 and 89 thousand tons in the first quarter of 2016 compared with 220 thousand tons in the first quarter of 2015. U.S. Steel reports that OCTG March inventories were estimated at 10 - 11 months of supply and that the import share of first quarter demand was projected to exceed 44%.

Fitch notes that steel product imports in the U.S. through March 2016 are down 36% from the same period of 2015. Import competition and weak raw material prices have filtered through to lower steel prices. Flat-rolled prices averaged $611/ton in the first quarter 2016 compared with $695/ton on average for the full year in 2015. Despite strong demand from autos, appliances and construction, capacity utilization was 71% on average in 2015 and the year through April of 2016. Fitch Ratings believes that margins are vulnerable when capacity utilization is below 80% and that capacity utilization could remain below 80% through 2016.

Hard freeze of the pension fund, capacity closures, more efficient raw materials sourcing, and better working capital management have benefitted earnings and cash flows but not enough to offset the impact of weaker demand and global overcapacity.

Pension

As of Dec. 31, 2015, the defined benefit pension plans were underfunded by $735 million on a GAAP basis. The plan was closed to new entrants in 2003 and, effective Dec. 31, 2016, non-union participants will cease to accrue additional benefits under the plan. Pension and other post-employment benefit costs were $251 million for 2015 and cash payments were $189 million. Costs for 2016 are expected to be $93 million and cash payments are expected to be $145 million. U.S. Steel estimates that there will be no mandatory contribution requirement for its main U.S. defined-benefit pension plan in 2016.

Company Profile

The ratings reflect U.S. Steel's leading market positions in flat-rolled and tubular steel in the U.S., together with its high degree of control over its raw materials offset by the high fixed costs of integrated steel producers.

U.S. Steel is the second largest North American flat-rolled steel producer with capacity of 17 million tons; 2015 shipments were 11 million tons. U.S. Steel is the largest integrated North American tubular producer, with capacity of 2.8 million tons; 2015 shipments were 593 thousand tons. U.S. Steel also operates a five million ton per year integrated steel operation in Kosice, Slovakia.

U.S. Steel's production of iron ore pellets including from its share of joint ventures was 18.1 million tons in 2015, accounting for a significant share of its needs. In 2015, North American raw steel produced was 11.3 million tons and, assuming 1.3 tons of iron ore pellets are needed to produce 1 ton of raw steel, 14.7 million tons of iron ore pellets were consumed.

KEY ASSUMPTIONS

Fitch's key assumptions within the rating case for U.S. Steel include:

--Modest improvement for domestic flat-rolled and tubular products volumes in 2016 and 2017;

--Capital expenditures at guidance in 2016 and at maintenance levels in 2016 and 2017;

--Pricing is to improve modestly in 2016 and 2017. For 2016, Fitch Base Case price assumptions are $650/ton for the Flat-rolled product segment, $1,200/ton for the Tubular segment, and $500/ton for the U.S. Steel Europe Segment; and

--Cost improvement is anticipated with Carnegie Way initiatives.

RATING SENSITIVITIES

Negative: Future developments that may, individually or collectively, lead to negative rating action include:

--Deterioration in liquidity coupled with cash burn greater than $300 million in aggregate in 2016 and 2017;

--Weaker than expected operating results, whether from lack of recovery in tubular demand or from unfavorable resolution of trade cases, resulting in adjusted debt/EBITDAR sustainably above 4.5x.

--A debt financed recapitalization or debt financed acquisition. Fitch views this event as unlikely

Positive: Future developments that may lead to a positive rating action include:

--Debt levels materially reduced and free cash flow generation that is expected to be positive on average.

--Faster than expected turnaround in market dynamics allowing positive free cash flow generation.

--Total adjusted debt/EBITDAR sustainably below 4.0x.

LIQUIDITY AND DEBT STRUCTURE

Liquidity is strong over the next 24 months. U.S. Steel generated an operating loss before interest, taxes, and depreciation and amortization of $151 million with negative free cash flow of $169 million after $230 in gross interest, capital expenditures of $476 million and dividends of $29 million in the latest 12 months ended March 31, 2016. As of March 31, 2016, cash on hand was $705 million; total debt was $3.1 billion; and the $1.5 billion facility maturing in July 2020 was undrawn. The facility has a 1x fixed-charge coverage ratio requirement only at such times that availability under the facility is less than the greater of 10% of total commitments or $150 million. U.S. Steel would not have met the fixed-charge coverage ratio requirement of 1x and thus availability under the facility was $1.35 billion. The facility could mature early (91 days prior to a senior note maturity) if liquidity is less than $500 million plus the outstanding amount of the notes maturing of which $300 million is availability under the facility. If the 2017 and 2018 issues are repaid with the proceeds of the proposed secured notes and cash on hand, the next maturing note issue is $600 million due in April 2020. Fitch believes U.S. Steel will generate neutral to slightly negative free cash flow in 2016.

Fitch expects the company will earn about $350 million in EBITDA for 2016 resulting in very high financial leverage. With partial recovery in shipments and modest pricing improvement, Fitch expects EBITDA to approach mid-cycle levels of about $800 million dropping leverage to below 4x by the end of 2018. Near-term scheduled maturities of debt are $45 million in 2016, $494 million in 2017, $500 million in 2018, $59 million in 2019 and $604 million in 2020.

FULL LIST OF RATINGS ACTIONS

Fitch rates the following:

--$980 Million senior secured notes 'BB/RR2'.

Fitch downgrades the following ratings:

--Senior unsecured notes to 'B-/RR6' from 'B+/RR4'.

Fitch currently rates United States Steel Corporation as follows:

--Long-Term IDR 'B+';

--Senior secured credit facility 'BB+/RR1';

--Senior Secured notes 'BB/RR2'; and

--Senior unsecured notes 'B-/RR6'.

Additional information is available on www.fitchratings.com.

Applicable Criteria

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 17 Aug 2015)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869362

Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers (pub. 05 Apr 2016)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=879564

Additional Disclosures

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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1004057

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