This Small Fertilizer Fry could Win Big Later this Week
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We saw it in PotashCorp’s (NYSE: POT) numbers, and then in Agrium’s (NYSE: AGU) second-quarter results. The latest to join the league is CF Industries (NYSE: CF) with record profits for the second-quarter. But the party is not over yet, as there’s another company that looks set to rock the Street later this week—the new kid on the block, Rentech Nitrogen Partners (NYSE: RNF).
It’s corn again
Since Rentech came online very recently, financials for year-over-year comparisons aren’t available. But analysts are estimating its second-quarter revenue to be around $77 million on an average, which is almost double of what the company earned in the first quarter. That’s massive, but not unachievable, thanks to record corn plantations in the U.S.
Corn consumes large amounts of nitrogen, which is also the only nutrient Rentech deals in. Nitrogen has historically performed better than potash and phosphate. More importantly, recent numbers from some fertilizer players have proved how this nutrient is better off than others. PotashCorp’s primary namesake nutrient didn’t contribute as much to its second-quarter gross profit as did nitrogen. Agrium’s wholesale division’s second-quarter sales as well as gross profits hit record highs on the back of solid demand and prices for nitrogen.
Even before the planting season had got into full swing, Rentech saw a massive 61% jump in its first-quarter top line. So it’s logical to expect much higher sales from its second quarter which coincided with the peak planting season.
Pricing tricks
Breaking it up, volumes for ammonia might not be as high as in the first quarter when sales were exceptionally good due to high nutrient application. This was evident in CF's second quarter when ammonia sales volumes were 19% low as compared to last year as a lot of ammonia already got pulled in during the first quarter. Nevertheless, prices of most nitrogen-based nutrients remained firm, some even gaining in double digits in the past quarter. Agrium realized higher prices for all its nitrogen products in its last quarter, and so did CF. This, I feel will be the key revenue-driving factor for Rentech.
But Rentech is expecting high volumes for Urea Ammonium Nitrate, which is also more profitable than other nutrients. This is also the reason why the company seems keen on upgrading larger amounts of ammonia produced to UAN. It upgraded 44% in the first quarter, and is likely to have done so in the second quarter as well. The move makes sense, and is in line with what peers are doing. CF is aggressively adding capacity to convert more ammonia to UAN, and so is CVR Partners (NYSE: UAN), which specializes in the nutrient and upgraded 72% and 68% in the first and second quarters, respectively.
Gaseous gains
As for margins, low natural gas (which is a key input for nitrogen) prices are a boon for Rentech. The company already booked 68% of its natural gas requirement earlier in the year at prices averaging $2.75 per MMbtu, but that excludes transportation costs. Including it could add as much as 35% to the rate. Hedging is a common strategy adopted by fertilizer makers, but it can also backlash at times. Case in point: CF Industries. By Dec. 31 last year, the company had already hedged nearly two-thirds of its projected 2012 natural gas requirement. As we all know, nat-gas prices slipped thereafter, only to hit multi-year lows. As a result, CF not only lost out on the real opportunity of cashing in on the low gas prices, but is also incurring losses on its derivative contracts.
Yet, Rentech seems to be in a better position, as evidenced by the sharp spike in its gross margins during the first quarter—it climbed to 59% from 43% in the year-ago period—which came on the back of low gas costs. I am expecting benefits of low costs to reflect in Rentech’s second quarter as well.
Beyond numbers
An important milestone that should find mention in Rentech’s upcoming earnings call is the completion of the first phase of its urea/diesel exhaust fluid expansion program. DEF is a urea-based solution that can be injected into vehicle exhausts to reduce toxic emissions. With emission standards getting stricter by the day, this seems to be a high-growth potential area that the company has stepped into. Rentech’s urea expansion program is already under way. Once complete, the company can start using more amounts of urea to produce DEF. I am expecting details and updates of growth plans in the upcoming call.
Not convinced yet
Rentech had upgraded its earnings and dividend distribution guidance in the first quarter, and things are looking fine from the operational performance perspective. The fall, which is a peak season particularly for nitrogen, isn’t too far, and companies like CVR have already started booking orders.
Rentech’s dividend yield of 15.5% also continues to be much higher than peer Terra Nitrogen’s yield of 7%. Yet, despite all the optimism, I wouldn’t give Rentech the ‘solid bet’ tag right now. The stock’s pricey and dividend might not be sustainable in the longer run. Interested in knowing more? I’ll tell you when I wrap up Rentech’s earnings next week. Just keep watching this space!
Neha Chamaria has no positions in the stocks mentioned above. The Motley Fool owns shares of CF Industries Holdings. Motley Fool newsletter services recommend PotashCorp. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.
