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Can Rumors and Weather Change the Outlook for Fertilizer Producers?
Posted by: Damian Illia (IP Logged)
Date: March 6, 2014 10:39AM

Rumors have surfaced about a returning of Uralkali’s return to the Belorussian Potash Company. If the gossiping becomes a reality, Uralkali and Belaruskali will control about 40% of the market for potash. At the same time, low prices for natural gas in the U.S. continue to give fertilizer producers an advantage over other world producers. True, the advantage has been somewhat curtailed by higher demand for gas by households due to the raw winter. Nonetheless, under current market conditions Potash Corporation of Saskatchewan (POT) and CF Industries (CF) hold important potential for prospect investors.

Expectant with Small Changes

Commenting on the end of the Belarussian Potash Company, Brad Wall, Saskatchewan’s premier, commented, “The problem is that nobody is really buying anything right now.” At the same time, EPS lost about 10 points and shareholders dumped a big chunk of stock into the market. As a matter of fact, none of the major potash producers reported revenue increments since the break of the cartel. And Potash of Saskatchewan estimates a 1 billion year-over-year drop in total revenues.

On the good side, Potash Corporation of Saskatchewan produces at a remarkable low cost. And before the rumors about the return of the Belorussian cartel, management announced it intended to expand production to 17 million metric tons by 2015. The announcement should have a very positive impact in overall performance, should potash prices return to previous levels. However, the company’s wide moat may be negatively affected.

On the downside, Indian legislation over subsidy of potash has weakened demand in the long-term for the Potash Company of Saskatchewan. Additionally, macroeconomic volatility, price volatility, and currency exchange fluctuation are expected to affect performance in the short-term. Most importantly, challenges concerning to meet full capacity operations have been identified at the logistics level.

Financially, Potash Company of Saskatchewan is at a standby. While revenue and net income have been on a decline during the last three years, cash flow and debt levels have seen improvements. Hence, small or no stock transactions by gurus is no surprise. Nonetheless, the stock is trading at 16.4 times its trailing earnings and carries an 11% premium to the industry average.

No Guru Trust

The harsh winter and higher demand for natural gas by households have sent CF Industries’ profits into a negative trend during the first quarter of 2014. In comparison with other global players, the company holds an advantage thanks to its integrated distribution networks. Also, the increment in the plating area for corn offers another positive mark as demand for nitrogen is expected to grow in kind.

On the down side, lower corn prices may offset CF Industries’ the increment in area planted for corn. Additionally, American imports of Chinese nitrogen are expected to continue putting pressure upon the firm. Last, the phosphate segment which represents 15% of total sales, the integrated operation shields the firm company from competitors. However, an accord has been made with The Mosaic Company to rid of the segment.

On the upside, CF Industries made a parallel long-term accord with The Mosaic Company for the provision of ammonia. The agreement contemplates the provision of some 700,000 tons of ammonia for 15 years, starting in 2017. Another good remark is the firm’s wide economic moat in the nitrogen segment since the acquisition of Terra in 2010. Additionally, the company has expanded production facilities and completed smaller acquisitions turning the firm into the segment leader.

CF Industries’ finances are in order but under pressure. While cash flow has risen during the last three years together with net income, debt has not seen much improvement. Trading at 10.4 times its trailing earnings, the stock carries a 29% discount to the industry average. However, the largest guru holding a position, Jeff Ubben (Trades, Portfolio), sold out its position.

Not so Bright Future

Both companies seem to be standing at a crossroads. CF industries has gotten rid of its most secure segment, while Potash of Saskatchewan will have to assess its current business strategy amid rumors that are set to have an impact on overall performance. I prefer CF Industries because its recent underperformance is related to short-term events, while Potash of Saskatchewan is due to be affected negatively in the long term.

Disclosure: Damian Illia holds no position in any stocks mentioned.

Stocks Discussed: POT, CF,
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