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Growing Population and Breaking Cartels: Agricultural Inputs
Posted by: Vanina Egea (IP Logged)
Date: September 3, 2013 10:38AM
The recently published UN 2012 Revision projects the current 7.2 billion world population will increase by almost one billion people within the next twelve years, reaching 8.1 billion in 2025, and to further increase to 9.6 billion in 2050 . In other words, food producers will be placed under further pressure to increase output.
This is good news for agricultural input producers like Potash Saskatchewan (POT), CF Industries (CF) and Mosaic (MOS) since it secures future stability. Let us see if these new projections offset Uralkali´s decision to opt out of the Belarusian Potash cartel.
Nitrogen Thirsty Corn
CF Industries is the smallest of the three companies here analyzed. The firm only competes with the other two in the nitrogen and phosphate segments, and holds no potash operations. Like its main competitor, phosphate production is vertically integrated. Unlike its rival, gas price declines were absorbed by its core segment, nitrogen, lowering production costs.
Having escaped the effects of the potash cartel demise, CF Industries can concentrate in nitrogen operations where an intermodal and widespread distribution network provides great competitive advantages. Most importantly, corn's rising planted acreage and higher nitrogen demand secure a steady and strong long-term demand for nitrogen.
It is worth noting that amid seasonal variations, corn planted acreage has risen 40% in the U.S., 73% in Brazil and 82% in Argentina during the last 13 years. Expected higher food demands for the long term make a strong case for the tendency to continue.
Financially CF Industries is strong. The stock is undervalued and I feel bullish about it because a favorable economic environment and competitive advantages augurs a profitable future. Confidence on future performance reflects on a $2 billion additional investment in organic growth. At last, (but not at all least) Jim Simmons, Joel Greenblatt, George Soros and Ken Fisher continue to increment their shares within the company.
The Russian Connection (Mosaic)
Uralkali's decision, at least, calls for a reduction of expected profits in the short term, since the Russian producer's strategy is to increase market share through price pressure. For the long term, the strategy remains unchanged after this decision.
North American expansion plans were announced to continue to move forward, but no cost-reduction policy was mentioned for high-cost European operations. I applaud consistency with set plans, but a change in the rules of the game requires a new approach when margins are expected to be stretched thin for the potash segment.
The phosphate segment´s future outlook is more stable and promising for Mosaic. Holding the market-leading position, the firm will be able to absorb positive market synergies deriving from the growing planting area at developing countries. Such a catalyst is especially relevant for soybeans and alfalfa production primarily, but also for corn and wheat.
The strong performance of the phosphate segment is a direct result of vertical integration and high prices. However, a negative trend can be observed on the price of phosphate starting January 2012, and there are no catalysts in sight to modify the trend.
In all, Mosaic's slow performance can be explained by negative trends in both segments. That is, profitability will continue to struggle until the new mine in Canada is open. Therefore, I feel quite bearish about this stock, and the fact that Pioneer Investments and NWQ Managers continue to reduce their positions backs up this standing point.
Troubled Core, Stalled Non-Core
Potash Saskatchewan is the world’s leading potash producer, with a market cap of $25.7 million. Hence, the biggest challenge lying ahead is Uralkali’s unilateral decision to break the cartel and increment production pushing down potash prices in the short term . Also, management pointed that ongoing organic growth will be delayed, depending on future potash prices and sustained low operative costs.
Higher demand for food offers growing opportunities for the remaining two segments: nitrogen and phosphate. Out of these two segments, phosphate operations offer better prospects because vertical integration helps keep production costs low, when compared to its peers.
On the other hand, nitrogen operations do not offer much profitability opportunities because gas provision is tied to long-term contracts. And, the company is not able to take advantage of lower domestic gas prices in the short term.
Regardless, both segments combined account for 40% of gross profits – potash accounted for the remaining 60%. In the end, phosphate prospects are not enough to offset slower performance in core potash operations.
Expected lower potash prices will reduce current generous operating margins. Hence, I remain bearish about this stock because the uncertainty over core activities and delaying of new facilities will place financial soundness to the test. At last, Gurus like Prime-Cap management and Chris Davis continue to downsize their positions.
I prefer CF Industries over Mosaic and Potash Saskatchewan because core activities are the main driver for future growth. Additionally, CF Industries is immune to the expected lower potash prices. Finally, a favorable economic environment further fuels future profits, and recently important hedge funds have invested.
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