4 Reasons Why 2013 Could be a Bumper Year For This Stock

Neha is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Among the top three dividend companies in its space, CVR Partners (NYSE: UAN) returned the least over the past one year. I expected so, though not many agreed. But then, that’s the fun part! 

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UAN Total Return Price data by YCharts

The latest from the company is Street-stumping numbers. But that’s not why I think CVR has strong chances to outperform this year. Here are four reasons why I am bullish on CVR for 2013.

Your checks are safe

I’ll start with something that I’m sure every CVR investor holds close to heart – dividends. As a master limited partnership company, CVR pays out monster dividends. But it caught investors offguard in January by announcing a considerably lower payout because of a plant turnaround. The market was waiting for a confirmation that it’s temporary. CVR obliged.

For 2013, CVR aims to pay out anything between $2.15 and $2.45 per share. That’s a substantial raise from $1.81 paid last year, a jump that should make every dividend lover jump! CVR expects lower property taxes, macro tailwinds, and recently completed projects to provide the boost. I see these projects as ones that could change CVR’s fortunes, more than dividends.

Smart strategy

Flexibility in operations is critical for every fertilizer company. CVR primarily produces ammonia and urea ammonium nitrate, or UAN. Since UAN is made from ammonia, CVR can easily experiment with the selling mix of the two nutrients depending on the current market situation. So in its last quarter when UAN prices remained low at $274 per ton, CVR converted just 60% of ammonia to it, selling the remaining off as it is for prices averaging $676 per ton. Comparatively, CVR had converted 72% ammonia in the fourth quarter 2011.

So by reducing the ratio of UAN to ammonia, CVR actually saved its top line from falling off the cliff. In contrast, 83% of Terra Nitrogen’s (NYSE: TNH) last-quarter sales mix constituted UAN. Yet, its full-year UAN to ammonia ratio settled at 73%, which was considerably below the 84% achieved in 2011. That meant despite a 4% fall in full-year UAN price, Terra’s top line lost around 2% only compared to 2011. Had Terra not modified the ratio, its top line would have tanked.

Right focus

Now if I tell you that CVR will soon start converting 100% ammonia produced to UAN, will you rate it as a wise move? You may not, especially when UAN prices remain soft. But that appears to be a short-term story. In the long haul, UAN prospects are tremendous. Otherwise why would nitrogen baron CF Industries (NYSE: CF) choose UAN above urea or ammonia to constitute nearly half of its product mix, or pump money into two new UAN plants at its largest nitrogen complex, Donaldsonville? CF also has five ammonia plants in the pipeline with UAN-upgradation facilities. If the bigger plants churn out 1.3 million short tons of ammonia annually, they’ll have the capacity to make $1.8 million tons of UAN.

CVR should soon be able to produce 50% more, or 1 million tons of UAN, annually. UAN prices are already picking up ahead of the U.S. spring planting season. A chart from LSB Industries’ recent presentation will give you an idea.

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These are Southern Plains prices, but Gulf prices have also inched up continuously for the past seven weeks. As UAN prices rise, so will CVR’s revenue and profit. Strategic location in the U.S. corn belt, hence proximity to farmer customers is already an added advantage for CVR. It is even setting up more storage and distribution terminals in the area.

It feeds, and detoxifies

If UAN is a big opportunity, another one lies in a business line that has caught not just CVR’s attention, but also peer Rentech Nitrogen’s (NYSE: RNF). Both companies are aggressively expanding their diesel exhaust fluid (DEF) capacity. What is DEF?

The U.S. Environmental Protection Agency (EPA) standards require up to Class 8 diesel vehicles made after 2010 to reduce toxic nitrous oxide emission. Most of the leading vehicle makers have adopted a technology called selective catalytic reduction (SCR) to fulfill EPA requirements. DEF is specially designed for such SCR systems. Volvo, Daimler, and Cummins are some users. General Motors too uses DEF-enabled SCR systems in its Duramax diesel engines (this Chevrolet manual will tell you more). The latest to join the wagon is Navistar International. After years of haggling with an alternative technology, Navistar finally decided to go the SCR way last year when it couldn’t win EPA approval after long delays and huge holes in its pocket.

According to the Truck and Engine Manufacturers Association, demand for DEF will climb 15 times (from 2010 level) to 750 million gallons by mid-decade. By 2019, it projects demand to hit 1.3 billion gallons. While Rentech will add 15% or 21,900 extra tons of capacity this year, CVR plans to bump up its DEF capacity by 7,300 tons over the next 12 months, taking its annual capacity to 84,000 tons. Both companies expect resultant incremental sales to help boost dividends.

Making up

Probably the only area where CVR lags is that it uses pet coke as input instead of natural gas, losing out to CF and others on cost advantages. Why, even PotashCorp (NYSE: POT) that fought with dwindling demand and prices for potash earned record gross profit of around $1 billion for its nitrogen division last year as gas prices eased. The fact that this was possible despite PotashCorp’s gas costs nearly double that of CF only proves how gainful it is, and how much CVR is losing. Thankfully, pet coke is easing -- CVR paid $30 per ton last quarter compared to $40 a ton a year ago. If the trend continues, CVR’s gross margin could leap over the current 58% mark easily.

Clearly, tailwinds are getting stronger for CVR, and 2013 looks good. Keep your eyes on CVR Partners by adding it to your stock watchlist. Click here to add it.

Neha Chamaria has no position in any stocks mentioned. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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