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The Mosaic Company (NYSE:MOS)

F3Q09 Earnings Call

April 9, 2009 9:00 am ET

Executives

Christine Battist – Director IR

James Prokopanko – President & CEO

Lawrence Stranghoener – EVP & CFO

Dr. Mike Rahm – VP Market Analysis & Strategic Planning

Rick McLellan – SVP Commercial Manager

Steven Pinney – SVP Phosphate Operations

Analysts

Jeff [Secaucus] – JP Morgan

Bob Koort – Goldman Sachs

David Silver – UBS Securities

Analyst for P.J. Juvekar – Citigroup

Donald Carson – UBS

Vincent Andrews - Morgan Stanley

Steve Burn – Banc of America

Mark Gulley - Soleil-Gulley & Associates

Michael Picken – Cleveland Research

Operator

Welcome to The Mosaic Company’s fiscal 2009 third quarter earnings conference call. (Operator Instructions) Your host for today's call is Christine Battist, Director of Investor Relations of the Mosaic Company. Please proceed.

Christine Battist

Welcome to Mosaic’s fiscal 2009 third quarter earnings conference call. Joining us for the call this morning are Jim Prokopanko, President and Chief Executive Officer; Larry Stranghoener, Executive Vice President and Chief Financial Officer and other members of The Mosaic senior leadership team.

We will be using presentation slides during the conference call today. You may view the slides simultaneously with the audio web cast. The slides are available on our website and may enhance our discussion but are not a requirement for the call. If you are unable to download the slides, please contact me after the call and I'll send the slides to you.

We will be making forward-looking statements during this conference call. The statements include, but are not limited to, statements about future financial and operating results. They are based upon management's beliefs and expectations as of today's date, April 8, 2009 and are subject to significant risks and uncertainties. Actual results may differ materially from those projected in the forward-looking statements.

Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is included in our press release issued yesterday and in our reports filed with the Securities and Exchange Commission.

This call is the property of Mosaic. Any distribution, transmission, broadcast or rebroadcast in any form without the expressed written consent of Mosaic is prohibited.

Now I'll turn the call over to Larry.

Lawrence Stranghoener

Thank you Christine. Good morning and thank you all for joining us. I will start this morning by giving you an update on our current performance and near-term trends and Jim will review the positive long-term outlook for Mosaic and the crop nutrient sector.

There have been a number of factors impacting the crop nutrient industry as summarized on slide four. We have seen significant changes in buyer sentiment resulting from, among other factors, a decline in decline in grain prices from record levels a year ago, a build up in inventories in distribution supply chains, the global economic downturn and the recalibration of the phosphate market primarily to reflect the lower raw material input costs. This is a story you know well by now.

Despite these negative factors we had a profitable quarter and preserved our strong financial position. Our third quarter results as shown on slide five were down from last year as we expected. Net earnings for the third quarter were $59 million or $0.13 per diluted share. The primary drivers for third quarter results were significantly lower sales and production volumes and a decline in phosphate selling prices as demand for crop nutrients slowed.

Turning to business unit results as summarized on slide six, our potash segment delivered healthy profits though less robust than seen in the past several quarters. Higher selling prices were not enough to offset the sharp decline in sales volumes, the effects of lower operating rates and net unrealized mark-to-market losses. Our average MOP selling price was $565 per ton, an increase of $36 from our second quarter results. Operating earnings were $186 million, down from $196 million in the same period last year.

Looking ahead, potash sales volumes will likely remain constrained until the annual China contract is signed. Fourth quarter sales volumes are expected to be comparable with third quarter levels. Gross margins continue to be impacted by the effects of significantly lower operating rates on fixed cost absorption. With continued production reductions we expect to have reduced our total potash production by nearly 2 million tons in fiscal 2009.

Our phosphate segment posted weak results as we expected due to a fall off in demand and a decline in pricing. Phosphates had an operating loss of $124 million compared with operating earnings of $443 million in the same period last year. Gross margins were negative this quarter compared to 38% of net sales last year. This decline in gross margin was the result of selling through higher cost inventories at recalibrated selling prices, the impact of lower operating rates and net unfavorable realized and unrealized derivative activity compared with a year ago. Note that the phosphate loss did not include additional inventory write downs as selling prices were about as anticipated in our second quarter write downs.

The average DAP selling price for the quarter was $413 per ton compared with $487 a year ago and $1,083 last quarter.

Looking ahead, we expect fourth quarter phosphate sales volumes to be up from third quarter levels but below the strong fourth quarter levels a year ago. In response to improved market activity we have increased phosphate production closer to normalized levels. With DAP selling prices currently in the mid $300 per ton range, fourth quarter gross profit is expected to be positive but will be adversely affected by higher cost raw materials and finished products which remain in inventory. We expect lower cost raw materials to begin benefiting our gross margin in the latter half of the fourth quarter with the more favorable impacts coming in the first quarter of fiscal 2010.

Our off-shore segment results were also weak. Due to further price reductions in certain countries in the third quarter we sold product at a loss and it was necessary to record an additional inventory write down. This led to the operating loss recorded in the off-shore segment. The off-shore gross margin is expected to remain weak until crop nutrient demand improves and high cost inventories are sold.

Note that this off-shore loss is somewhat offset by $85 million in profit in our corporate segment. This amount largely represents the reversal of previously eliminated profit earned by our phosphate and potash segments on their inter-company sales to off-shore. This profit and inventory count is maintained in our corporate segment and moves up and down based on the timing of off-shore sales to end customers.

The higher effective income tax rate in the quarter was due to the fact that no tax benefit was recorded on losses in Brazil, partially offset by the favorable effect of certain discrete items in the quarter. The year-ago tax rate was favorably affected as a result of statutory reductions in the Canadian Federal Corporate tax rate on deferred tax liabilities. We continue to expect an annual effective tax rate in fiscal 2009 in the low 30% range. Note that cash tax payments totaled $155 million during the quarter compared to our tax provision of $31 million primarily due to the timing of estimated tax payments. We currently expect to pay little or no cash taxes in the fourth quarter.

We are reaffirming our annual capital spending guidance for fiscal 2009 in the range of $800-900 million. We are fully committed to our planned potash expansions as we are highly confident in the long-term outlook for potash and these are long lead-time projects. As we have indicated before, however, we will continue to monitor the pace of our expansions in light of overall market conditions.

As for other guidance, we have lowered our SG&A expense guidance for fiscal 2009 to a range of $320-340 million. We have remained diligent about controlling costs and managing our strong cash position despite the lull in demand for our products. Some of the specific steps we have taken include reducing operating rates, reprioritizing and reducing capital spending, clamping down on expenses and restructuring our Brazil operations. Of course, our substantial cash reserves give us much flexibility and position us to emerge from this downturn with our financial strength intact.

We continue to believe that we have the best liquidity position among our peers with total cash of $2.5 billion and debt of $1.4 billion at the end of the quarter.

Now I will turn it over to Jim for his thoughts about the outlook. Jim?

James Prokopanko

Thank you Larry. Good day to all on the call and thank you for joining us this morning. We are now more than half way through what is a challenging second half for our fiscal year. It was a tough third quarter as we expected with the fourth quarter forecasted to be slightly better. It is important that I am clear about our outlook at this specific point in time. Although the crop nutrient markets worldwide have seen a slow down this slow down is transitory. We are in a self-correcting cycle because crop nutrient demand can only be deferred for so long before soil fertility is dramatically impacted.

At Mosaic we have not wavered in our positive, long-term outlook for agriculture, the crop nutrient business and the growing global demand for food. The crop nutrient industry just endured one of the weakest fall application seasons on record. With an expected rebound this spring we estimate the U.S. nutrient use could decline approximately 10-15% this crop year with more pronounced declines in phosphates and potash uses than for nitrogen.

The picture outside North America is likely to be only modestly better. India and China are exceptions and appear immune from this global trend. Crop nutrient demand continues in these countries because of population growth and their drive for food security. The question is what is ahead of us?

We are seeing positive signs in the phosphate market. PhosChem has recently signed a large contract in India and in North America product is starting to move from producers to dealers and from dealers to farmers. Pricing is still a challenge as dealers try to recoup higher inventory costs and farmers expect prices closer to current replacement costs.

This has caused delays in purchasing and in some areas reductions in application rates. There are, however, encouraging signs of life and we are ramping up phosphate production in the fourth quarter. The potash business has yet to come out of its winter hibernation. Any of several catalysts will jump start this market. These include resolution of the annual China and India contracts, recovery in North American spring planting demand or a continued market improvement in Brazil.

We are maintaining our reduced potash production schedule into the fourth quarter in light of current lack of customer demand. Producers and distributors are expected to draw down the fully stocked global distribution pipeline this fiscal year. The recovery in nutrient demand combined with restocking to even modest levels will be bullish news for shipments in the upcoming fiscal year. We believe key importers will return to the market to recharge inventories during the second half of 2009. Brazil should begin sourcing normal volumes of phosphate and potash around mid-year or just prior to the peak planting season in the third calendar quarter.

In India and China history suggests they will settle their 2009 potash contracts by mid-year. Prospects in India remain solid due to continued demand for nutrients and their desire for food security. Demand prospects in China also look positive due to efforts to boost yields, secure food supplies and revitalize rural areas. Producers are expected to ship hard into both these large markets during the second half of 2009.

Despite the downturn in the global economy, the USDA still projects that world grain and oil seed use will increase a solid 2.4% in the 2008-2009 crop year. Steady demand prospects coupled with growing concerns about 2009 acreage and yield has kept agricultural commodity prices at high levels. For example, 2009, 2010 and 2011 new crop corn prices are trading from $4.30 to $4.55 per bushel; extraordinary prices by historical standards.

These points underscore why the long-term outlook remains intact and compelling. The record harvests of the last two years pulled unprecedented amounts of nutrients from soils and lower application rates this crop year will only magnify the need to replenish soil nutrients. Grain and oil seed prices are expected to remain at attractive levels, supporting strong farmer economics. This demand growth coupled with lower cost for key inputs such as diesel fuel and crop nutrients underpins a positive outlook for farm profitability and crop nutrient use. All of this provides a great opportunity for Mosaic.

In closing I would like to emphasize three key points about Mosaic and what we are doing to position ourselves for the coming market upturn. First, Mosaic is well positioned in this industry with our vertically integrated operations, strong balance sheet and a global presence. Our global scale is unmatched due to our strength in potash and phosphates. In addition, our exceptional knowledge of markets worldwide from long-term demand trends in China to what today’s farmer in Iowa needs to enhance his yields underscores Mosaic’s unique ability to capitalize on agricultural fundamentals.

Second, we are pulling the right levers to manage short-term uncertainty while keeping long-term value creation uppermost in our minds. In the short run, we are ensuring inventories remain at manageable levels. We are removing costs from our business. We are effectively managing risks and we are working closely with our customers through this challenging period.

Finally, we are making significant investments to expand our capacity in potash and we are strengthening our phosphates business through investments to increase efficiencies at our plants and our minds. In short, we are continuing to push those value drivers designed to produce cash flow and generate returns for shareholders.

As I said in my opening remarks, at this moment we are in a self-correcting cycle because crop nutrient demand can only be deferred for so long. We remain confident in Mosaic’s long-term outlook and agricultural fundamentals remain positive because of continued global demand for food, fuel and feed.

Now, we will be happy to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Jeff [Secaucus] – JP Morgan.

Jeff [Secaucus] – JP Morgan

You said you thought your potash shipments in the fourth quarter would be very similar to the third. Does that mean that you don’t expect an up tick in your North American demand in the fourth quarter or do you expect an up tick in North America which is offset by a decrease sequentially somewhere else?

James Prokopanko

What we are facing is a reluctance by dealers to recharge their inventories. We do expect potash is going to move to the farm and that we believe the pipeline will de-stock and get to lower levels. The sales we have forecasted are largely going to be going into two markets; the North American market to recharge inventories that have been pulled down at the dealer level and secondly to some off-shore markets that we currently have outstanding contracts with. Principally it is going to be a North American directed movement.

Jeff [Secaucus] – JP Morgan

Right, but what I am trying to say is that your third quarter North American volumes are seasonally low and one would expect sequentially a meaningful step up even in a weak market and then your shipment levels really shouldn’t be comparable but still meaningfully better in the fourth quarter. Or is there something I am missing when you look at things on a sequential basis?

James Prokopanko

We can be surprised here. We can just have a blockbuster spring season. That is not impossible. However, we are seeing the sentiment in the field where dealers aren’t prepared to recharge inventories. We can conceivably go into a pipeline that is empty come this summer season. So we will move some product and whatever gets moved will get applied but current buying behavior shows farmers are applying as much as 30% less potash to the field. In addition, dealers are not keeping their warehouses charged and so we will have an empty pipeline come June and our forecasts are the kind of volumes we are talking about.

Jeff [Secaucus] – JP Morgan

Lastly, why do you think there is a divergence in North American DAP demand versus North American potash demand?

James Prokopanko

A couple of things. Prices have recalibrated on the phosphate side and have got to levels that look appealing to farmers and are getting closer to replacement levels. On potash, farmers believe they can take, some farmers in some regions, believe that they can take a holiday on potash use. Farmers are anticipating they can buy it and load up come the summer or fall season so they are making a bet they can buy lower later in the year.

Operator

The next question comes from Bob Koort – Goldman Sachs.

Bob Koort – Goldman Sachs

My question would be Jim on the expected retail this summer to be on a network in the United States. I guess a lot of guys thought since the fall season didn’t get the business they were looking for in some cases we saw some write downs of material. Do you worry at all buyer behavior towards fall inventory build and application levels may have changed and therefore you may still not see that pick up until we get closer to the spring a year from now?

James Prokopanko

Definitely the sentiment is becoming much more cautionary. I’m seeing that dealers it is going to be a matter of do they think there is more upside than downside. Right now I think the market is in balance depending on what happens to grain prices. I think that is going to be an important driver. That will be an important element to dealers making the judgment on how much they load up. I think the view now is there is limited downside. Not much risk in loading up the warehouses and farmers similarly if they start seeing grain prices move up they are going to be eager to lay in phosphates at values that I suggest are pretty darn appealing. So it is possible we can see a further delay. Some time in the second half we are going to have product moving. I have little doubt of that.

I’m sorry, I should say some time in the first half of the next fiscal year there will be strong demand for our phosphates.

Bob Koort – Goldman Sachs

On potash it seems the financial markets are pretty fixated on this Chinese contract settlement as a benchmark for whether things are going to be getting better or not so good. Would you expect your same dealer customers are equally so fixated and so if we see a Chinese contract at a parity or premium from the last contract that will unleash some buying demand or do you think it is an independent event to what happens in North America?

James Prokopanko

I think for the next 3-4 months it is going to be all eyes on China and India. That is going to set the tone for what the future pricing is. So I think until we get through that hurdle there isn’t going to be a lot of decision making made. Right now our plans have been to curtail our production until the demand returns and the market finds a price at which it is going to clear the product.

Operator

The next question comes from David Silver – UBS Securities.

David Silver – UBS Securities

Jim, I have a question I guess about the volume trends that you commented on. I would like to maybe talk about it slightly differently. When I look at your 9-month totals I see that potash shipments are down 29%, phosphate shipments are down 34%. Just thinking with potash, Potash Corp probably has similar declines. We know at least one or two of the former Soviet Union producers have severe declines. So in your opinion, I know you are talking about de-stocking and what not but aren’t we really into, in your opinion are these declines now in spending maybe 9 months are they really just flat out unsustainable? Why do you think it has been able to go on this long for a product that you have said many times is essential and can be delayed but not ignored?

James Prokopanko

I’ll make some opening comments and then ask Mike Rahm, Dr. Rahm, to add some of his quantitative views on the matter. Both potash and phosphates are nutrients that reside in the soil for a period of time and they are available to the plant over a couple of years. Unlike nitrogen that is gone from the soil the year after you use it. The world is just now producing two or three I think it is consecutive record harvest years and that has removed a lot of nutrients from the soil. So farmers that have kept their soil nutrient levels at maximum or high levels they can, in fact, afford a bit of a holiday on that application rate. While they are doing that and producing record yields they are taking out record amounts of nutrients from that soil. You can defer for maybe a season or perhaps where you have very high rates a little more than a season but after that it is not there. It is gone. As you remove the crop you are removing nutrients and it is simply a matter of time and a matter of what nutrient level you started at before you get to points where you are affecting the yield of the crop.

Today when you have these high, high performance hybrids that are being applied and farmers are paying in the case of corn upwards of $100 per acre to take a chance of not feeding the high performance crop the diet they need in crop nutrients you are just short-changing yourself as a business person. So we really do believe that after a couple of years of high nutrient application rates some farmers that have been very diligent about applying those high level rates say I am going to take a break and they will take their chances if there isn’t a weather event or some disruption in the growing patterns that will be exacerbated by low crop nutrients. There is no doubt in my mind this will come back to historic levels we have experience these last couple of years. Mike do you want to add to that?

Dr. Mike Rahm

I can add a couple of things. I think as we have talked before, the distribution pipeline worldwide is a very long and large pipeline. The swings in that can be very, very large. Just to give you a few numbers, in the case of the United States we expect that phosphate usage this year could be down 10-20%. We think potash usage could be down roughly 20-30% yet shipments of phosphate year-to-date through the first seven months of the year are down about 40% as are potash shipments. We think for the year they could be down by a similar magnitude with the potential drawn down of the distribution pipeline. When you look around the world similar trends or developments are taking place elsewhere. Brazil is a good example where last year shipments dropped about 9%, 2.2 million tons. Through the first seven months in 2008 in Brazil shipments were up almost 20%. So there has been a real sharp decline in shipments since the fourth quarter in Brazil and for 2009 we expect fertilizer use in Brazil will probably be flat with 2008.

A few encouraging signs are coming from Brazil but there has been very little movement or activity in Brazil year-to-date. We expect once that pipeline is empty you are going to see a pretty sharp snap back in shipments.

David Silver – UBS Securities

If I could just follow-up and just focus on the North American market, we have had a prospective plantings report come out that basically says almost the same amount of corn would be planted this year and almost the same amount of soy is expected to be planted versus one year ago. Yet, for nine months here 40% drop in North American phosphate shipments and 47% drop in potash. I am wondering how much of this is farmers anxious to pay high prices for top hybrids and [inaudible] turnaround and skimp on fertilizer and in my opinion I think something is happening at the dealer level where dealers who have this high cost inventory are just not processing it or there is a disruption or dislocation at that level. In your opinion, this might be for Mike but how much of it is farmers anxious to mine the soil and how much might be caused by dealer turmoil or even some other issues?

James Prokopanko

I’ll turn that over to Rick McLellan, our Senior Vice President of Commercial to handle that question.

Rick McLellan

Very good question. I think that what we have seen is we have described it as a stand off between the dealer and the farmer that has to do with the inventory the dealer may own. That is part of what is slowing things down. The second part is, during times when prices were increasing dealers kept their bins full. Now they want to have them empty coming out of spring both for phosphates and potash. That is what Mike talked about, the de-stocking of the pipeline. So we are seeing a little bit of both but it really is the move to empty out the inventories. We could be very pleasantly surprised on movement this spring but right now the sentiment isn’t that it is going to happen and that sentiment is coming from our dealer customers.

Operator

The next question comes from P.J. Juvekar – Citigroup.

Analyst for P.J. Juvekar – Citigroup

You had mentioned that fourth quarter volumes in phosphates should be up sequentially but down year-over-year which you increased phosphate production close to normalized levels. Do you plan on warehousing a significant amount of phosphate inventory since raw material prices have dropped substantially?

Lawrence Stranghoener

We are going to be ramping up production because of the increased market activity we are seeing. Of course part of that is the very large contract signed with India against which we are shipping and we will be shipping aggressively in the fourth quarter. So we are ramping up production to meet what we perceive to be market needs in the fourth quarter and beyond. We continue to have relatively high inventories but those are being drawn down. They are lower at the end of the third quarter than they were at the end of the second quarter and we project they will continue to be drawn down even as we ramp up production.

Analyst for P.J. Juvekar – Citigroup

Could you tell us what current operating rates are for PNK and what they were in 3Q?

Lawrence Stranghoener

We don’t disclose operating rates specifically but in the third quarter you should assume that our operating rates were in line with overall industry operating rates which were below 50%. Our production rates remain very constrained in potash and we are beginning to ramp up in phosphate to something approaching normalized levels though we won’t reach full capacity levels we don’t expect in the fourth quarter.

Operator

The next question comes from Dawn Carson – UBS.

Donald Carson – UBS

First, getting back to this issue on application, I guess this is more for Mike. Farmers have been mining the soil for a few years now and aren’t seeing any impact on their yields. Do you think better genetics are perhaps reducing the need for the old application rates they used to have an in fact we are in a new paradigm for application rates going forward? Secondly, if you could just comment a little more you said you have seen some positive trends in Brazil. It would appear that Brazil buying early and largely being out of the market last fall in PNK is really what triggered a lot of the current downturn we have been seeing. Perhaps you could just comment on both the Brazilian grower economics and what you see in the pipeline down there?

Dr. Mike Rahm

In terms of application rates in North America, farmers have become more efficient in terms of their PNK use and I think some of that may be due to what you mention as seed genetics but I think it is also part of simply better agronomic practices and technologies that are available. I think what is interesting this year is that we are projecting U.S. nutrient use could be down 10-15% with PNK use being down much more than that and overall that is the largest one year drop in nutrient use in the U.S. since the 1982/1983 pick year. In the pick year farmers took out 40 million acres of land, 22 million acres of corn and the decline simply due to the fact they were planting less acres and not applying fertilizer on those acres. The big drop this year is coming largely from application rates. I think that is a much different scenario and one which we will see how it plays out in terms of potential yield consequences.

Maybe there is an example in South America where we saw a 9% drop in fertilizer use in Brazil and a 29% drop in fertilizer use in Argentina and certainly the weather there did not cooperate but the reduction in the amount of technology applied to those crops certainly may have exacerbated the drought situation there. So it is a situation I think people are going to be more and more interested and concerned about in terms of what are the potential impacts of these cut backs on yields in 2009.

In the case of Brazil I can give you a couple of comments and maybe Rick or others want to comment as well. As I mentioned, while usage in Brazil is down 9% for the year during the last five months of the year I think it was down something like 40% after being up 20% during the first seven months of the year. Activity has not really picked up. Of course we are getting that we are seeing the pipeline drawn down there, the [safrane] crop was application for that was I think better than expected by and large. The fact that soy beans are trading north of $9 and here recently approaching $10 coupled with a Real that is trading at 2.3 has made farmer soy bean economics in Brazil quite good and that has stimulated some selling of soy beans, forward selling of soy beans and buying of fertilizer. So that is the positive signs that we are seeing in Brazil.

Rick you may want to comment.

Rick McLellan

I think that the overall Brazil fertilizer business itself went into January with very, very high inventories. Those inventories are getting worked down and we are starting to see some positive indications especially this week where Campotex was in Brazil last week and sold two vessels of potash for that $750 per ton price. Those are positive indications and Mike hit that the ratio for barter, a ton of fertilizer to soy beans is working out very positive and we are seeing people buying fertilizer for this October’s planting.

Donald Carson – UBS

One follow-up for Jim and this gets to Campotex and China contracts. Jim you note this is the second time in three years we have seen delayed contracts and a significant delay. Are there any thoughts on Campotex’s part to move away from annual contract with China given how disruptive it is to the marketplace?

James Prokopanko

I guess individually, I can’t speak for others in Campotex, but it makes you wonder. That said China is still very committed to having a long-term understanding about North American producers and Canadian producers being major suppliers. It does challenge the model that we are going to be long-term suppliers and they are going to be reliable long-term customers. Going to something that is closer to we are in the market and we are out of the market is implied. If that occurs, Campotex looks at that but this is a commercial arrangement and we each have our turn at bat and I think we are going to continue to look at China as an important, reliable, long-term customer and they are going to rely on Canadian producers as important, reliable suppliers and we will work through this and there will be good years and bad years for each of us and in the end if balances out. China is an important customer. We want to keep China as a customer and as a supplier we would prefer that it was nice, even shipments over the year, month-by-month but it is what it is and this will work out.

Operator

The next question comes from Vincent Andrews - Morgan Stanley.

Vincent Andrews - Morgan Stanley

A follow-up on China. You mentioned you expected resolution by mid year which I assume to mean as late as June 30. That is a different time frame than I think some people expect. Could you maybe discuss how you get to that date and what level of tonnage you might be expecting to come out of China, why you think they can wait that long and why can’t they wait longer? Can you give us your latest thoughts on that issue it would be helpful.

James Prokopanko

The Chinese are going to buy when the Chinese want to buy. We would like to sell to them sooner but they are going to play their hand to their interest. Why June? Historically they have not gone much, in the worst case, much beyond the middle of the year. It could happen sooner. I would think it would be wiser to get flowing sooner so before the end of the year whether it is May or June it is going to be one or the other. I don’t think it is going to go much beyond that. As far as the numbers and why we believe that, looking at the in-country numbers of potash inventories we think we are getting to the point that they will be emptying out their pipeline and anything beyond June is too late for them to order and without shorting the dealers close to the farmers.

Vincent Andrews - Morgan Stanley

I guess my follow-up to that would be what I am trying to get a better sense from you is if the U.S. farmer is going to use 30% less potash this year can you talk around the issue of why the Chinese farmer can’t or shouldn’t use 30% less potash year-over-year?

James Prokopanko

I don’t believe the potash producers there have been applying at the higher rate we have seen in North America. Both India and China have had an issue on their agronomics where they have not had balanced nutrition. They applied too much nitrogen that is out of balance with the amount of phosphates and potash they should be using. North American farmers have been using soil testing practices for much longer and I think they have a much better balance of [end] PNK. China is more at the sustainable levels of potash that if they go below it will impact yields and the extension workers in China I know, and I was there just in the last month and went to some of the farmer meetings where they are agronomists in their white lab coats explaining to farmers the value of soil testing and right crop nutrition and right nutrient balance. I don’t think they have room to pull down on their potash nutrients in the Chinese farms or the Indian farms for that matter.

Vincent Andrews - Morgan Stanley

Lastly, could you just share with us what your estimate is for in-country potash inventory in China?

James Prokopanko

Mike do you want to go through that?

Dr. Mike Rahm

Certainly there are two components to that. There are the port inventories that are visible and counted pretty regularly and at this point we think there is probably 1.6 million tons approximately at port. Then beyond the port in the supply chain it gets a lot more foggy as far as that estimate goes. There is probably I guess a number in the 2-3 million ton range is a guess at this point. Given their usage when you apply the math as Jim noted by mid year we think that with what they produce domestically and what is available in the pipeline by about mid year they are going to pull that pipeline down and be very serious about restocking.

James Prokopanko

I would add to that it will be the same time the North American pipeline is pretty close to empty. They will have low stocks in Latin American pipelines and India will have drawn down their reserves with everybody waiting to better their position and we could have North America, Latin America, India and China all with cupboards bare saying okay it is time to get some potash and in the meantime the major producers in the world have curtailed production. So it can get pretty tight pretty quickly.

Operator

The next question comes from Steve Burn – Banc of America.

Steve Burn – Banc of America

In the Corn Belt the potash market remains dormant. Are you more apt to let the market determine what that clearing price should be to move the channel inventory out or might you take some pricing action to stimulate that demand?

James Prokopanko

Good question. The market, you are right in your opening comment, the market and I mean at the dealer/farmer level will determine what that price is. I don’t believe that dropping the price today is going to sell one more pound of potash. Farmers have either made up their mind or they are still making up their mind on how much they are going to apply as well as I don’t think they are very far along in deciding if they are going to plant corn or beans so there is just a lot of…the sentiment is they just don’t know. I don’t think a price change at the manufacturer level is going to move more product into the retail level or dealer level and I think that would just create more confusion. So we will let dealers and farmers figure out what that market clearing price is and the market producers will respond accordingly.

Steve Burn – Banc of America

How much of the reservation do you think the growers have right now about making purchases on potash is just due to expectation the price is going to come down? If that is an important issue do you see it as a constructive move that in international markets you have seen quite a few orders here in just the last week or two at around the $750 per ton mark? Does that give you some confidence that it is becoming a clearing price internationally and thus gives visibility about where pricing is headed from here?

James Prokopanko

The first comment you made was correct. I think farmers generally believe that their cost of potash could be lower later in the summer or in the fall so they are going to take their chances and mine the soil a little bit. At the same time, as I just said previously, everybody waiting to pick off the bottom and in the meantime the cupboards are going to be bare and we are starting to see the first signs of that with Latin American sales at $750. We had some recent sales into Indonesia and Malaysia I believe in the similar kind of levels. So people are willing to buy it at that price and if North American farmers choose to pass on that market so be it. But the price looks to be holding in the rest of the world.

Steve Burn – Banc of America

Lastly, in your off-shore business if I just look at operating income in the last four years you have had about a 1% margin in that business. Is that business worth it to you to have the outlet for product being that you have to take on currency and inventory valuation risk? Is it worth it to have that business?

James Prokopanko

Rick, why don’t you speak to that question?

Rick McLellan

It really is a good question but frankly for us having an outlet to go with our production that we can place product is a very positive impact and at Mosaic we look at it more as an end-to-end margin. The impact on production all the way through to the impact on the margin we get from being in that business and it has had some very big swings but we are still confident it is a very viable outlet for ourselves.

Operator

The next question comes from Mark Gulley - Soleil-Gulley & Associates.

Mark Gulley - Soleil-Gulley & Associates

First of all with respect to your potash capacity expansion plans, a little bit confused as to why you are holding the line there. Wouldn’t it be cheaper from a net present value perspective to make product now and defer or delay putting steel into the ground?

James Prokopanko

You are saying why don’t we produce now and stockpile or inventory the product?

Mark Gulley - Soleil-Gulley & Associates

Sure. From a net present value perspective doesn’t that pencil out better than building on track?

James Prokopanko

One of the reasons we have deferred or curtailed production is we are limited with inventory. We only have so much capacity. We could probably store somewhere in the range of six weeks of production. Maybe eight weeks of production. This is all stored under cover, big large facilities adjacent to good logistic systems whether it is river, rail or highways. So there is only so much room and so much product you store and that is something like six weeks of product. So beyond that we can’t store this product.

Lawrence Stranghoener

I would add these potash expansion projects are long-term investments we are making based upon our assessment of the very favorable long-term supply and demand dynamics in the potash market. What we are going through right now we believe is an anomaly. The investments we are making are based upon, again, our very favorable long-term view of this market and we think these investments will stand the test of time.

Mark Gulley - Soleil-Gulley & Associates

If I could switch gears for a second and this question is really for Mike I think, are you prepared to make a call at this juncture as to whether or not these lower application rates will impact soy and corn yields significantly?

Dr. Mike Rahm

That is a question we have been getting for the last six months and we have actually put that to our agronomic team and they have hired an outside agronomic consulting company to actually come in and do some work. I think we have shared those results at investor conferences and so forth. We really think there are two different categories of farmers. Those that sort of maintain levels of PNK soil fertility and in those instances as Jim and others have mentioned you may take a one year holiday and not have a dramatic impact on yields. Obviously those farmers tend to be maybe a little bit older farmers who have owned their land and maybe have a little better or stronger balance sheet and so forth. The other category are those that maintain lower PNK soil levels and if they do not replenish the results of this analysis would suggest there clearly are yield impacts. I forget the exact numbers but an overall 10% decline in PNK use in that situation results in a 5 bushel or so per acre drop in yield. So we do believe that if we see these kinds of cut backs in application rates for a certain segment of U.S. farmers there clearly will be a potential yield impact. I think as Rick mentioned before, maybe Jim, farmers are spending lots and investing lots of working capital with very high tech seeds, herbicides and so forth and to cut back application rates is a very difficult decision I would think at the farm level.

Mark Gulley - Soleil-Gulley & Associates

Larry, if we assume that application rates on the farm get back to normal for fertilizer in year 2010 how long will it take for Mosaic to get back to normal with respect to your shipments and then back to normal with respect to production?

Lawrence Stranghoener

I think it goes back to the question earlier about the emptying of the supply chain and how quickly demand might recover. I think Jim laid out the case pretty clearly that cupboards are going to be bare throughout the world by this summer or early Fall. Should that happen and should the world suddenly realize it needs more potash and phosphate we will be prepared to respond very, very quickly. As we have noted already we are ramping up phosphate production and we are cautiously optimistic that we will continue down that path as we start the new fiscal year and we are looking for the signals to ramp up potash production again. We can get into production mode quite quickly when demand materializes again as it will.

Operator

The next question comes from Michael Picken – Cleveland Research.

Michael Picken – Cleveland Research

I just wanted to touch base with you on a couple of things. Number one, do you have a current outlook in terms of China and what they are going to do in terms of their gap exports for 2009 and are you expecting they are going to lower the tax rate to 10% after the spring planting season?

James Prokopanko

The Chinese have been very rigorous about their export program and enforcing it. We have seen that particularly in the last couple of months. A reduction in duties on phosphate I think will be coming in June and July I believe and we think they will follow through with that and not do anything out of what has been published on their tariff program. We expect that Chinese exports will be something in the range of 2.5 to perhaps as high as 3 million tons of phosphate this year. Last year I think it was MAP and DAP 1.7 million tons. So we have factored in them increasing their phosphate exports but I don’t think it is going to be a change to the two months reduced tariffs, four months higher tariffs and then going through that throughout the year.

Mike do you have anything to add to that?

Dr. Mike Rahm

No. If you put in perspective in 2007 they exported about 4 million tons of DAP and MAP, dropped as you mentioned to 1.7 and somewhere in the 2.5 to 3 million ton range is what we expect in 2009.

James Prokopanko

Three years ago they exported over 5 million tons and we have seen on the way to this new tariff program there has been some leakage but in this last year they have gotten serious on enforcing the rules and laws around that.

Michael Picken – Cleveland Research

Looking at the other side of the equation with respect to India and your outlook for how much more DAP they need to buy with respect to them reaching an acid contract not too long ago kind of what is your outlook for Indian imports of DAP and MAP? If you could even throw in acid but just where are they in terms of their needs?

Dr. Mike Rahm

The demand outlook in India remains extremely robust. We expect that their DAP/MAP imports in calendar year 2009 will be in that 6.6 plus million ton range. That is the result of continued demand growth for phosphate and DAP use and continued moderate increases in their domestic fabrication of DAP based on import rock and acid.

James Prokopanko

With that we are going to conclude our question-and-answer session. I would like to remind each of you that we continue to have a great deal of confidence in the long-term outlook for our business. The need to produce more food has not abated. The world is not getting less hungry. Mosaic is playing a significant role in meeting this demand to produce more food and is in the best position to create value for our shareholders and customers for years to come. With that thank you very much. Have a great day.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Have a great day.

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Source: The Mosaic Company F3Q09 (Qtr End 02/28/09) Earnings Call Transcript
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