Watch Out: These Fertilizer Stocks Could Hit a Speed Bump
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Fertilizer stocks have been waiting to recover for more than a year, but the wait’s not yet over. Worse, contrary to what most believe, it could be another five to six months before they have a reason to celebrate.
India is pushing potash players to the brink of frustration. Latest reports suggest the nation might not sign a new contract, something that could make it tougher for potash companies to boost margins for the new couple of quarters.
No end to the torture
According to India’s leading news agency PTI, the nation’s largest fertilizer importer, India Potash Limited, has ruled out the likelihood of new potash (MOP) or phosphate (DAP) contracts before February-March next year. Reasons include piling inventories at home (data till August suggests DAP inventory was 10 times greater than last year’s level), shift to urea due to lower prices, and most importantly, a recent slash in subsidies by the government.
So who needs to worry the most? Canpotex – the three-member cartel that controls all potash exports out of Saskatchewan, Canada, and which relies heavily on India for revenue. To be more precise, PotashCorp (NYSE: POT), Mosaic (NYSE: MOS), and Agrium (NYSE: AGU) need to worry.
Why it is important
Potash margins for all these companies remained under pressure throughout the year as contracts in Canpotex’s plate dried up. Dwindling demand due to cautious buyer behaviour even caused these companies to cut back production for weeks. Apart from a contract from China earlier in the year, nothing came by.
Potash majors were expecting India to sign a contract by August-September, but in vain. A wait for another six months is definitely not good news, because India is a major potash buyer and accounted for around 10% of Canpotex’s sales in 2011. (It was 14% in 2010.) The contract was particularly critical at this juncture because no one knows how exactly the demand for fertilizers will shape up in the coming months after the devastating drought.
The biggest loser is…
So to what extent can these companies really be affected? Slowing of Canpotex sales will hurt PotashCorp the most as it takes care of 53.6 % of the cartel’s potash requirements, while Mosaic and Agrium supply 37.1% and 9.2%, respectively. Also, half of PotashCorp’s total potash sales come from Canpotex. The world’s largest producer of potash has time-and-again expressed concern over slowing down of key markets like India and China. With situations not showing any signs of improvement, PotashCorp has just shut down a Lanigan mine for four weeks. This comes after several such shut-downs undertaken earlier in the year, all due to low demand.
Close on their heels
Mosaic is in no better a situation as India is its biggest export market. 67% of the company’s total sales in the year ended 31 May, 2012, came from outside the U.S., and 21% of these international sales came from India alone. In simpler terms, roughly 14% of its total sales came from the Indian market. Most of Mosaic’s export sales for both nutrients -- phosphate and potash -- are made through PhosChem and Canpotex, respectively. PotashCorp is also a member of PhosChem; it derived 23% of its total phosphate sales last year through the association.
While Canpotex contributed 12% to Mosaic’s total sales in the last fiscal year, PhosChem accounted for nearly 22%. And according to data provided by PotashCorp, a whopping 54% of PhosChem’s total sales volumes were from India. Clearly, Mosaic will find it hard if India doesn’t sign a contract soon.
Can afford to smile!
The third, and probably the least affected, would be Agrium. One, it has a much smaller seat on Canpotex’s table, and two, potash is a relatively small portion of its total sales – in the year ended 31 Dec 2011, potash was 6% of total sales and phosphate just a little over 7%. Digging a little deeper into its financials, I found out that international markets are important for Agrium as well, as 42% of its potash sales came from such markets.
Yet, because the company derives more revenue from nitrogen – a nutrient that remains in high demand and firmly priced – Agrium’s future isn’t as entangled with Canpotex, or with India for that matter. In fact, nitrogen tops potash and phosphate on two other fronts. One, natural gas is a key nutrient, and its low prices have only boosted margins for nitrogen companies. If Agrium’s last-quarter’s nitrogen gross margins surged by 50% from the year-ago period, CF Industries’ (NYSE: CF) gross margins for its nitrogen division stood at a superb 66% in its second quarter. More importantly, if I tell you how CF’s bottom line hit a record high during the quarter even though sales in its phosphates segment slipped by more than 20%, you’ll get a better idea of how nitrogen leads the pack of nutrients, and why Agrium is fairly insulated from ups and downs of Canpotex even though it’s a part of it.
The second reason why nitrogen could sell more this fall is that this nutrient gets absorbed quickly, and thus needs to be re-applied every season. In contrast, potash has high chances of remaining in the soil, which means there’s no need to apply it again in large amounts. This may be why PotashCorp expects "significant fall fertilizer applications" for nitrogen, but holds no such optimism for the nutrient potash.
The bottom line
If price issues delayed Indian contracts last year, demand is the culprit this time. There’s no denying the importance of the market for potash companies. If PotashCorp indeed wishes to see its forecast of solid rebound in sales next year materialize, India will have to wake up from its slumber sooner. As of now, there’s not much to be excited about.
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Neha Chamaria has no positions in the stocks mentioned above. The Motley Fool owns shares of CF Industries Holdings. 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.