Start Time: 14:30
End Time: 15:05
CF Industries Holdings, Inc. (CF)
Company Conference Presentation
December 04, 2013, 14:30 PM ET
Dennis P. Kelleher - SVP and CFO
Christopher D. Bohn - VP, Corporate Planning
P. J. Juvekar - Citigroup
Dennis P. Kelleher
Good afternoon. Just a quick one on my team with me, I got Chris Bohn here with me who is our Vice President of Planning and I've also got with me our Director of IR, Dan Swenson. So they'll be joining me for Q&A.
What I'd like to do is and some of you will recognize this slide. This slide comes originally from our IPO deck that we did back in 2005. And really I don't want to talk about it because the IPO is past us but I just want to make a couple of comments about sort of where we've been.
And that is as you know we've got a CEO transition coming up earlier in January of 2014. And the way we like to think about that is that really moving from one chapter to another chapter in the same book. Over the past seven or eight years certainly since our IPO, the company has really been a great corporate transformation story from a cooperative that earns gross margin in some years of less $100 million to a public company today where we're in the billions of dollars on that metric.
What's important I think is as we transition from Tony to Steve and as we think about all the stuff that has gotten us from where we were in 2003, '05, '07, whatever the case maybe to where we are today, both Tony and Steve have had a very integral – played very integral parts in all of the decisions really to transform the company and made it what it is today.
So as we talk about what we're doing today and what we're talking about doing in the future, what I'd like to just think is that that really is just a logical extension of what we have done in the past and reflects not just new initiatives but things that we have been thinking about for quite a while. Maybe we're articulating in a little bit differently today but I can assure you that these are things that we think about on an ongoing basis with the management team and also with our Board.
Just real quickly, you're all aware in 2005 we were a fertilizer company with three nitrogen complexes and a phosphate business. At the time we had gross margin of $209 million and we had a market cap of $800 million. As we wind the clock ahead to the end of 2010 after we purchased Terra, we had gross margin of $1.2 billion and we had a market capitalization of $9.6 billion. And obviously today we stand at something greater than $12.5 billion. We're still capped [ph] into the share price.
On the far right-hand side of the chart we talked about optimization and really that's how we think about where we are today. We're in the process of optimization. And what does that actually mean? Well, what it means is we're going to continue to expand our nitrogen capacity as we're doing it at Port Neal and Donaldsonville and we'll look at smaller projects obviously as we always have. And the other plan we're divesting the phosphate business which is an announcement you all would have heard recently.
And then we're also continuing our share repurchase program in an aggressive fashion as we have done for quite some time now. And you probably had all seen the slides by now and given you sort of a little bit like yesterday's New York Times but we're also talking about significantly increasing our balance sheet efficiency for return of a debt issuance of around $1.5 billion early next year.
So that's kind of how we're thinking about our business with where we are today. And I think it's worth looking at as we had our 1,200% return on our share price since our IPO which is a phenomenal result, it's worth looking at how that compares to our competitors' debt in the sector. And what you'll find is if you (indiscernible) look at any of the milestones that I've got shown here on the graph, you'll see that CF from a total shareholder returns perspective outperforms our competitive price significantly no matter what timeframe you want to look at on this page. And we think that that's a really important part of our story.
As we look here, I'd say part of that and it's a big part of why we've been able to produce those returns we believe is the disciplined approach that we have had to capital allocation since the company went public and certainly before that. And you sort of think about that in three buckets if you look back. We had $6.4 billion in the last three years of operating cash flow and how do we deploy that operating cash flow? Well, we did some organic investments which would include debottleneck, maintenance CapEx that also includes some CapEx that sits on our major projects at Port Neal and Donaldsonville.
Now we've also done some what I would call quality [ph] investment that is the $900 million we spent to buy 34% interest in Medicine Hat that we didn't own. Those two things taken together as you can see amount to about 38% of the operating cash flow we generated over the period. We also spent 18% of that operating cash flow on some other things mostly retired Terra acquisition debt that was of short-term nature and also that reflects cash flow that goes to our non-controlling interest in our consolidated but not wholly-owned subsidiaries of (indiscernible) also at the time.
Most importantly I think we had $3 billion or 44% of the operating cash flow returned to shareholders and that's been largely in form of as you can see share repurchases but also we've had dividends and dividend increases along the way. So we think that's a pretty good track record and we believe that that's part of why we've achieved some of the returns we've achieved. But I think everything it stands in relation to how you sit versus your competitors' sit and I think on that metric, we stack up pretty well as well. Again, we had 44% and the closest competitor to that 44% was Potash at 36%. Everybody else was significantly lower than ourselves over the same period. So I think a pretty fantastic result.
But that's all the history and I think what you're most interested in today is what are we thinking about today and where are we going? And I think a really good place to start is to start with the capital structure. And you know that we achieved investment grade credit rating from Moody's and S&P in 2012. We're proud of having done that and it was hard work to get to that point and we believe it's an important place for us to stay and we're committed to trying to stay there.
We also in 2013 did our inaugural investment grade debt offering for $1.5 billion and most of you will recall that consisted of $750 million of debt that we issued for 10 years at 3.45% and $750 million that we issued at 4.95% for 30 years; the 30 years tenure being enabled by among other things but very importantly our investment grade credit rating.
If you look at the graph on the right to point out – the place I want to point you to is really the green bar on the left underneath optimal mid cycle range. We believe as we look ahead that the debt on our balance sheet that we would be comfortable with that fits within the metric 2.0x to 2.5x mid cycle EBITDA. As we think about the next step and I mentioned this earlier, in early 2014 we intend to issue $1.5 billion in long-term debt.
Two points I'd like to make on that. We believe that $1.5 billion fits comfortably within the optimal mid-cycle range of 2 to 2.5 and we also believe that it fits well within our investment grade credit framework. In the past some of you probably heard me say that there's a fair amount of blue water between where we (indiscernible) with respect to how much debt was on our balance sheet and where we'll be bumping up against investment grade credit metric limit.
And what I would say today is obviously with the $1.5 billion debt offering there is significantly less blue water but there's still a bit of blue water left. But this is the initiative that we're able to talk about today with some granularity. And that is just obviously a significant material step again for making our balance sheet more capital efficient.
But that's not all that we do and I want that to be clear and I think that this is the slide that perhaps it's got people rather excited and I want to just talk about this in a way that's reflected in how we're thinking about it. At this company we have always looked at different funding options for what we do as you would expect us to do. So we have looked at and in fact have executed as well as secured again in the near future investment grade debt offering.
There are other things that we are in the process of looking at as well. Including those would be probably finance, securitization and most importantly MLP structures. And what we've done in that regard is we're working with two bulge bracket investment banks who operate in a material fashion in this space, that is the MLP space, on a daily basis and what we have asked them to do is two things. One, help us break through [ph] and understand what is a MLP, what is the MLP structure, what is the market, how does it work, basic understanding of the whole space. And two, ask them to look at specific opportunities within CF for utilizing the MLP structure as the potential financing vehicle.
Again, I discussed these are studies and there has been no conclusion. The study is underway and it will be in process into 2014, but I don't have any granularity as to exactly when it will be done. I don't know exactly what the banks' recommendation may or may not be as we get through that, but it's an important piece of work that we believe in fiduciary responsibility to our shareholders we need to do. These are independent studies and objective studies.
To put it in analogy we have asked each of these banks to go off and look at their own watches and come back and tell us what time they think it is. We've not asked them to look at our watches and (indiscernible) to what the time we think it is. And so that's important. So that's something that we will be considering as we go forward. Whatever recommendation comes out of this if any, whatever that may be, it will be considered by management and Board in terms of how it creates long-term sustainable value for our existing shareholders just as we do when we look at any financing alternative or any project alternative that the company's looked at.
So that's it for the sources. Why don't we talk a little bit about the uses of funds and we think about uses of funds really in three buckets; sustaining the base, focus and accretive growth and cash returned to shareholders. When we think about sustaining the base and like I said we're committed to our investment grade credit rating.
And the reason for that for us is twofold. One, our investment grade credit rating has allowed us to issue long-dated 30-year, 20-year on average capital at very low rate. When I think of 30-year capital in particular, 20-year on average capital it's really like having equity that you finance – it's like having low coupon tax deductible equity only debt refinance [ph] is still far out. And so that's something that obviously – the benefit of that we availed ourselves off in the past and we'll be doing that again here in the near future.
In addition to that we believe that the investment grade credit rating also helps us add the financial flexibility and a bit of dry powder so that if a big project or if a big M&A activity or a big M&A opportunity were to come along, we've got the ability to execute that in an expeditious and capital efficient fashion. And so we think that represents a good balance for us being in that space.
On focused and accretive growth, I want to really talk about that in terms of examples. If you think about our strategy and I think we've articulated that pretty well and if you look at the actions we've taken, I think that that underlines that. Our (indiscernible), if you will, strategy stairway feedback really is in nitrogen production buyers towards North America because a, we're there and b, it's a tremendous big process advantage place to do that business.
And so along those lines we've invested in some projects that you all know about; our project in Port Neal and in Donaldsonville and also the acquisitions of 34% interest in Medicine Hat that we did now because those projects fit – they go right down our strategic stairway and they have compelling risk adjusted returns associated with them, and we'll get into a little bit more about the projects later in the presentation. You've probably already seen it.
On the focused side what I would talk about really are two things. First and because it's the most comparable is the phosphate sale. As time has gone by we acquired share and we're growing our nitrogen business. Phosphate just simply wasn't as strategically important to the company as it had been in the past particularly before the Terra transition. In addition, the opportunities to do a deal with Mosaic who we believe is the logical buyer for these assets because their assets surround ours and they have the largest synergy opportunity, that opportunity arose.
Independent of that but at the same time we also entered into an ammonia supply contract with Mosaic, so (indiscernible) seeing 600,000 and 800,000 tons of ammonia per year on a gas plus pricing basis. That supply contract with Mosaic goes a long way to understanding our belief that the project we're investing our shareholders' money will give returns in the mid-teens. So all of that really if you look at that close together, it really is about focused and accretive growth.
But I think it's also worth mentioning from a capital perspective you all know that at one point in time we had considered investing in a nitrogen complex in Peru. For a lot of reasons that didn't work out and we're very happy today that we didn't pursue that opportunity because the opportunities we're pursuing say in Louisiana and Iowa are certainly much better from a cost perspective and a risk adjusted returns perspective. So we are also very good at saying no to things when those things don't fit within our strategic stairway and when we got (indiscernible) returns that we expect.
And then cash returns to shareholders, this is also very important. You'll know that we announced today that we had purchased 665,000 shares, so that brings our share count down, I think to about 56.6 if I do the math right in our last 10-Q, so about $144 million at about $217 per share. We had $1.7 billion remaining on our share repurchase authorization of the 3 billion that we announced last year. What I'd like to say about that is we are cognizant of the fact that we have two significant liquidity events in the offering in 2014. One, we've got the $1.5 billion debt offering and two, we've got approximate $1 billion of net after tax proceeds associated with phosphate. And operating cash flow will develop as we – I think will develop as we think it will develop. And so while I cannot commit to this today and I am not committing to this today, it would not be a surprise if towards the end of 2014 or beginning of 2015 the $1.7 billion of remaining authorization were exhausted.
We have obviously continued to evaluate the dividend over time. We've made changes to the dividend on a number of occasions as you all know, most recently being across the share – the dividend up to $1 per quarter or $4 per year. That's something that we evaluate on an ongoing basis to the part we evaluate share repurchases and everything else, because this time it's possible that there may be changes to that as well.
In addition, there was (indiscernible) to account the money we were going to spend on the project expansion and potential we would see what happens if something develops in a way of an additional project at some point in time or M&A activity at some point in time which we don't have any visibility to or not very much visibility to today. We expect to have significant cash flows available for additional distribution to shareholders.
I think it's worth spending some time on the next chart because it really sort of starts to put this thing in sort of a quantitative frame, and what I'd like to do is just look at it just in a (indiscernible) uses perspective. If you look on the left-hand side of the chart you see the force [ph] of this capital as we see them today. We have an existing cash balance as of 9/30/2013 of $3.3 billion. We were planning a long-term debt offering of up to $1.5 billion and we've got the $1 billion that I referred to earlier in the phosphate sale.
Then sitting above that in a shaded blue line is an illustrative range of what operated cash flow between 2014 and 2016 might be. You all have your own view of what that is based on your forecast for fertilizer prices and gas prices, but that's just for illustrative purposes. As we look to the right-hand side and we talk about uses, from a liquidity perspective we see ourselves meeting our ongoing basis $1.5 billion – in that range $1.5 billion of total liquidity – excuse me, in the range of $500 million of cash sitting on top our $1 billion investment grade credit quality revolving credit facility. And probably then I'll provide a significant really cash as well from where we stand today.
We also have sustaining CapEx of around $350 million per year to keep our assets running and stay compliant in an efficient manner which we intend to do. We've got $3.1 billion that we have yet to spend on our capacity expansion project in Donaldsonville and Port Neal. And we've got a existing dividend in this particular yellow – I think it's yellow, maybe it's I'm not sure looks brown or yellow something like that in that particular bar we're assuming that it's the existing dividends assuming that the share count of 57.3 which was as the last two that's in place obviously and things are developing as we've already announced in that respect.
Then on top of that would be about $1.9 billion of money that would be devoted to completing the existing share repurchase authorization. And there is (indiscernible) 2.3 billion which was cash as of September 30. And so what's this above all of that then obviously is available for growth or available for shareholder distribution. On the first piece [ph] of growth what I want to say is if we encounter M&A activity or if we encounter potential project activity which gives compelling returns on a risk adjusted basis and businesses in our strategic stairway North American buyers, you should assume that we will look at those things and we will consider them.
Having said that though there is nothing out there right now for which I have a lot of visibility in front of me specific to talk about on the [ph] visibility very much. Beyond that obviously there is a significant amount of additional cash flow available for distribution to shareholders. So absent compelling projects or absent compelling M&A opportunities, all of that shaded blue area would be available for additional shareholder distribution. And the form of those would be something I think we'll talk about it later point in time, but in some form or fashion additional shareholder distribution.
Just on how we're thinking about the sources and uses of our funding over the next three years and just beyond that as well, I want to spend a little bit of time – you all have seen these slides on the project because I think it's important that one of the consistent pieces I got from a number of investors is I think that we ought to be a bit more transparent about what the returns profile of the project actually are and so we're going to do that here. So I want to really make three points clear about our project.
If you look at the photograph on this slide, the first point will be very clear and that is these projects are projects that are in flight. They are not things that we're contemplating doing. These are things that we are in fact doing. We have a contract in place with USDA [ph] for engineering and procurement, we are procuring equipment and designing and engineering activity today. In addition, as we can see from the picture in detail and also Port Neal, we are in the process of moving dirt and driving piles and making these projects happen as we speak and we're projecting those things. Those projects we believe will come in on time and on budget. At this point which I'll remind you the budget was $3.8 billion plus or minus 10% on either side where we expect those coming on time, on budget.
Then really turning to the thing I think most and what we've done here just as an aside really we estimate that operatively [ph] so people have to update their knowledge because what we've not done is (indiscernible) profile. It looks like over the next three years, we'd expect for the project and so that will give you some view on that along the milestones in each of those years.
But more importantly on the right you see the chart that shows across the X-axis urea prices and that's urea U.S. Gulf prices though not necessary our realized prices in market, but those are urea U.S. Gulf prices because that's the language everybody can understand. And then down the other side is natural gas prices at Henry Hub again not necessary reflective of our gas prices at the location because of our basis differential.
But what we see is that if we look at an environment like we experienced in third quarter from a $300 roughly urea price per short term U.S. Gulf and you combine that with a gas price that is very significantly higher than the gas prices that we see today and have seen for a while and we would call $5 at the top of our planning range for gas being $5, what you see if we've got a 14% IRR. And obviously as you walk up the urea price or you walk down the gas price, the trends become ever more compelling.
So these are good projects. They make sense for us to be doing them. We are in this business. This is in our sweet spot. They have robust returns well in excess of our profit capital and we believe over time as we execute our share repurchase program and we complete these projects, we will be making each shareholder's shares more valuable because what's happening is we will be using both of those initiatives, we will be increasing quite significantly the number of nitrogen nutrients for 1,000 shares, so the exposure the shareholder will have to the underlying business will continue to grow and that I think has been and will continue to be quite a compelling story.
Really I think we've sort of made these points I think CF is a compelling investment. I think our investment thesis is good, our strategic focus is clear if understood. I think today and what we've done is we've gone a long way in making it clear to people what our capital sources priorities are, what our capital uses priorities are. And I think really it's just a fantastic story. I will say that people will look at this I think today and say, well, gosh, this looks like a lot of new thinking and actually it really does and it reflects I think a bit more granularity in detail into our thinking, but the things that we're talking about here in the presentation I made are things that the company and the management team talked about all the time and it's really trying to give you all some insight as to sort of what that hope [ph] does.
So with that and I don't know how much time we've got left, P. J. Let's open up the floor to some questions and I'll invite my colleagues to join me. Thanks.
P. J. Juvekar - Citigroup
Dennis, thank you. I have two questions. First on the MLP, just to get more granularity now are you more likely to put your two new assets into the MLP structure so as to minimize the tax rate?
Dennis P. Kelleher
I think what I would say is that P. J. is you are jumping well ahead of the game, okay. What we are doing is we are studying basically the MLP structure, we're studying the MLP market and we will be studying what if anything we might want to do with respect to our assets, okay. Everything is on the table and we will be looking at everything with the (indiscernible), so I don't have any recommendation to share today and I wouldn't want to try to prejudge what the study will say we would do or not do if anything in that space, we're going to go through the study. We'll pursue that study rigorously and it will be looked at as an objective and an open mind. And if we can find things in there that makes sense for us to do that adds value, then we will consider them.
P. J. Juvekar - Citigroup
Thank you. My second question is on the urea market. I wanted to get your take on it. Do you think the urea market has brought about U.S. and Chinese port inventories have declined, and what are your expectations for China urea export next year?
Dennis P. Kelleher
I'll start out and I'll advise my colleague, Chris, to chime in. If you look at third quarter in the September timeframe, I think it was September but it was around that timeframe, what we saw was urea prices in the Gulf and I don't think there were tremendous amount of transactions done at these although (indiscernible) 275, 280, 290 prices. That point in time if you read the trade publications report about backup for (indiscernible) and urea is moving with great – at this point in time, as I said, it's a good thing. So while I would say with respect to bottom, our understanding of the global cost curve is that those types of prices would be at bottom and that accounts for the fact that Chinese coal prices have declined. And if you look at the behavior of players in the marketplace whether it was in Eastern Europe or Ukraine, Romania or other places where outages were taken in and casting [ph] was taken offline. And if you look at what happened in China (indiscernible) saw utilization rates that were in the 80s go down to the low 70s from April through to the fall timeframe. People's behavior in response to that price level is consistent with our understanding of the global cost curve. So I would say I think the prices we experienced in 2013 in the third quarter are reflective of core prices and how far above that we might bounce, I don't know. On the Chinese export side this year I think we're going to be between 7 million and 8 million metric tons in 2013, not sure what they'll do in 2014 but roughly the same time. We've heard noise obviously that the export tax regime is going to change where it will be a 15% on tax year round rather than sort of a high tax rate that really is prohibitive of that port trust to low tax (indiscernible) I don't know exactly what the Chinese are going to do. Some people think that a lower tax rate year round might be better because what would happen is that (indiscernible) from China which is going to come on the market anyway would come on more readably (indiscernible) to the marketplace. Having said that I don't know exactly what they will do. They were planning on 93 million acres of corn being planted next year, so given the fact that the U.S. marketplace is quite short, actually we're going to be running our facilities flat out and following everything that we've made. And I don't know Chris, anything else you want to add to that.
Christopher D. Bohn
No, you covered it all.
Dennis P. Kelleher
I have a couple of release questions from your MLP announcement. MLP bank (indiscernible) by now…
Dennis P. Kelleher
I'm sorry, I can't hear.
MLP bank (indiscernible) for at least a year about the MLP structure, it was not presented yesterday. So why have you decided to start your MLP consideration now? And secondly given if you don't have any conclusions, why have you decided to announce MLP consideration instead of waiting for another two months and come up with the conditions?
Dennis P. Kelleher
Yes, I think the first part is I don't expect the premise of the question because we have looked at MLP structures before in the past and we have worked the banks to do that before and we're again doing that now. If you think about our business, we've got – the business environment is all our business evolves. And in addition to that we spent – I personally and Dan more than anybody in the company but myself, Steve Wilson, Tony Will and others, Chris Bohn, we've spent a lot of time in the last year going around talking to long type investors, people who were investing in our stock or not perhaps investing in our stock to get their perspective on various things, different funding options and alike. And so we sort of take a changing environment, we sort of take feedback that we get from investors, we take our own views on these things and these things are changing over time. And we may come to conclusions but we want to look at something anew and see whether or not those things make sense. And I think that in response to the feedback that we've gotten from the investor base, I think really what we want to do today and what I think we've done is to just (indiscernible) our mind is open to that as an alternative and other things and we are committed to studying that with people who are very qualified in that space to advise us about the pros and cons and economic generally of that sector. So I would call it not a new thinking, it's just an evolution of thinking that we do with respect to the capital structure all the time.
Yara is betting on that they are thinking of building an ammonia plant and for CF it's sort of a way to get hold of ammonia and tap into the knowledge of ammonia products of Yara and for Yara some sort of takeoff pair agreement. What are your thoughts on these kinds of structures, is it something you'd consider as well for your…?
Dennis P. Kelleher
I'm sorry, could you repeat the premise again, that would be helpful.
Yara announcing their ammonia project, is that something you would consider for yourself as well effective the type of pay [ph] nature of disagreement and that's a security…?
Dennis P. Kelleher
Well, what we have done at this stage you know as we ventured into an agreement with Mosaic to sell them ammonia 600,000, 800,000 tons per year because we had got ammonia to sell and they are a large ammonia buyer and it makes a lot of sense for us to do that. With respect to what Yara and BASF have done I don't know all the details what exactly is it that they've done or how well what they're doing. And they perform that separate what we do. But I can talk about what we have done and I would say with respect to ammonia and any other material that we make, we look at the time at various options to maximize the value of those materials that we sell into the marketplace and we might look at all sorts of different arrangements to do that.
Dennis, at your Analyst Day I think you seem to indicate that you preferred stock buybacks over dividend and then since then you've doubled your dividend or more than doubled your dividend. So going forward how do you prioritize stock buyback versus dividend and what's your real priority?
Dennis P. Kelleher
Yes. I think what I said is at the Analyst Day as we look in the past, what we've done is what you'd expect us to do and that is we look at our current share price and say, well, how does that back up again but we believe the intrinsic value of the firm is and if we believe there's a significant discount to that, that is their room for share price accretion, then it makes sense for us to be buying shares. And so that explains really what our bias has been in the past and I think we've done that very well. But increase in your dividend is not something we did for the first time. Just in the last quarter we've done that before on a number of occasions. So it's really not for us and either or [ph], it's really about understanding where the balance is and where we have been is believing that our stock is undervalued and so consequently it makes sense for us to be as we can because we have excess cash flow because of where we sit on the cost curve and how we run our business (indiscernible) giving up those shares for the benefit of the remaining shareholders.
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