Potash's Negative Price Implications

Well, it finally happened. After plenty of speculation that potash prices could drop significantly this year, reports have surfaced that Russian fertilizer firm OAO Silvinit has settled with India at a price of $460 a tonne, down from $625 a tonne last year. Now the rest of the world will be pressured to follow suit.

UBS Securities analysts wrote in a note to clients:

This is a large-volume contract between a major seller and large buyer. We thus believe this would establish the market floor price and set the range for Chinese buyers.

This has obvious negative implications for home-grown producers Agrium Inc. (AGU) and Potash Corp. of Saskatchewan Inc. (POT).

Analyst Jacob Bout of CIBC World Markets lowered his 2009 and 2010 pricing forecasts to $490 a tonne and $475 a tonne respectively (he was previously assuming prices above $600 both years). That means lower earnings for the producers, and he cut his price target on Agrium to $60.00 a share (from $65.00) and on Potash Corp. to $120.00 a share (from $150.00).

Mr. Bout still rates both companies "outperform," but he prefers Agrium. He wrote that the stock is cheaper and is less exposed to potash price risk than Potash Corp. He also expects Agrium to get a multiple bump if it drops its floundering bid for CF Industries Holdings Inc. (CF).

And while the short-term outlook for potash might be negative, Mr. Bout still likes the long-term fundamentals.

"Longer-term, the market will require potash prices greater than $500/t for a 15% [internal rate of return] on a greenfield project," he wrote. He also pointed out that brownfield projects could get postponed at these prices, and are facing rising capital costs.

Comments

[Milt Woodward:]

Great information ..... Does this analysis also apply to nitrogen based fertilizer companies?

Jul 13 01:18 PM

[Stez:]

Slightly counters RBC's call for potash prices to remain elevated.

Pick your analyst and takes your choice is the old adage.

Long term ie five year time horizon POT and AGU at these prices are interesting entry points. We have to be aware of possible further cuts in earnings.

Countering that agricultural inventories are at historical lows and they will proceed to get worse, Malthus's mathmatical formula regarding agriculture and population increases will come into play.

Within the next twenty years we have another billion mouths to feed while the agricultural land available for development even with the felling of the rainforests has decreased by over 8% in twenty year time period. It will decrease further as China and India develop.

Agriculture is most definitely the sector for the long term. It is Green Gold.

Jul 13 01:48 PM

[Daryan:]

I have no position, but I wouldn't read to much into the pricing of this deal. From what I understand, the deal was consummated at a low price because of some government influences on both sides, and that expected pricing should remain elevated. To think pricing will fall in 2010 compared to 2009, when potash supplies are falling, global demand should be increasing, etc is counterintuitive.

Jul 13 02:07 PM

[User 446718:]

Even if these near interm contract prices become lower, the current input costs (natural gas, labour, drybulk shipping, rail lines) should also be lower now during the recession and the profit margins should be maintained vs a year ago when the input cost were going through the roof, which required higher selling prices to help maintain profits. What we really need now is demand and sales to pick up.

Jul 13 03:23 PM

[User 446718:]

Even if these near interm contract prices become lower, the current input costs (natural gas, labour, drybulk shipping, rail lines) should also be lower now during the recession and the profit margins should be maintained vs a year ago when the input cost were going through the roof, which required higher selling prices to help maintain profits. What we really need now is demand and sales to pick up.

Jul 13 03:23 PM

[naidle:]

I wouldn't be surprised if we see Agrium at $35 and Potash at $80 again but as a longterm investor (10 years) I'm impartial to these types of reports.

I'm more worried about the nasty CF purchase than the price of potash at this point.

Jul 13 03:52 PM

[Barry Isaacs:]

Silvinit is a desperate, near bankrupt company that could be the subject of a takeover within the next 3 months which, as it happens, is the time period during which they cannot make any more potash sales at any price because they have committed themselves to delivering all that they can deliver during such period. If they deliver.
The timing of all this has to make one wonder. I am not even sure how real it is but assuming it is a 'reality' that must be taken into account, I remain doubtful that it will affect Canpotex or BPC pricing as far as negotiations with India, China and Brazil are concerned. Canpotex closed contract deals already with Korea, Taiwan and Japan at roughly $700 per ton and I will therefore be surprised if the price can be pushed much lower. Also, keep in mind that Silvinit has the lowest quality potash in the industry resulting in about 30% less yield than say a comparable amount of KCl coming out of Saskatchewan. I am a long term holder and am looking forward to at least the next 6 years during which time I believe investments like POT will vastly outperform the market.

Jul 13 10:58 PM

[Peter Iwano...:]

Interesting article. As a long term investor in the Ag play, I also believe any weakness in these names will be nice entry points.

Jul 14 09:16 AM

[cstauffer:]

Your comments are very insightful and extremely useful in an environment when information is freeflowing, but not usually all that usefull without proper context.


On Jul 13 10:58 PM Barry Isaacs wrote:

> Silvinit is a desperate, near bankrupt company that could be the
> subject of a takeover within the next 3 months which, as it happens,
> is the time period during which they cannot make any more potash
> sales at any price because they have committed themselves to delivering
> all that they can deliver during such period. If they deliver.<br/>The
> timing of all this has to make one wonder. I am not even sure how
> real it is but assuming it is a 'reality' that must be taken into
> account, I remain doubtful that it will affect Canpotex or BPC pricing
> as far as negotiations with India, China and Brazil are concerned.
> Canpotex closed contract deals already with Korea, Taiwan and Japan
> at roughly $700 per ton and I will therefore be surprised if the
> price can be pushed much lower. Also, keep in mind that Silvinit
> has the lowest quality potash in the industry resulting in about
> 30% less yield than say a comparable amount of KCl coming out of
> Saskatchewan. I am a long term holder and am looking forward to at
> least the next 6 years during which time I believe investments like
> POT will vastly outperform the market.

Jul 14 10:45 AM

[Ryan Barnes:]

Barry's comments are right on point. There is a tremendous amount of pressure coming from Russia to secure tax revenues and keep up employment this year, and Silvinit is indeed in a dire financial state. The company paid $2.4 billion at the peak of the market last year to secure new deposits in a Russian auction, and current accounts are likely negative as a result. Canpotex and BPC aren't as "tight" as they used to be, and there may be a break or break-up of the two exporting co-ops.

Canpotex has already stated they might resort to spot-only pricing if contract talks with China aren't fruitful in the next go-around.

It's a fluid story worth keeping tabs on, but the North American potash is indeed of better quality, and stories of global oversupply are PR ploys at best. Every demographic trend points to higher levels of demand, the need for higher crop yield, etc. The only thing that can really get in the way of the industry's long term growth is for stupid strategic moves that involve collusion. I'd personally like to see Canpotex break apart, but that isn't likely to happen until the next market upswing.

EpiphanyOne

Jul 14 12:07 PM

[User 422955:]

I believe that potash prices can easily decline in 2010 or 2011. There are three new Canadian potash companies which claim that they will start producing in 2010. There is one company starting a new mine in Argentina; an Australian company starting a new mine in Ethiopia, and large potash deposits in Australia which several companies are trying to exploit.

Jul 14 08:40 PM

[Fighting Yoda:]

All commodities are under pressure especially the bulk commodities like iron ore, fertilizers, oil etc. They are harder and costlier to store - China can't keep stockpiling them. For all these prices will come under even more pressue - there simply is very low demand - the bubble has burst.

Jul 15 01:31 AM