Seeking Alpha
Contrarian, newsletter provider, commodities, industrials
Profile| Send Message|
( followers)  

The short answer is, not anytime soon.

Potash Corp (NYSE:POT) announced 1,045 employee layoffs and a preliminary estimate of $70 million in severance expenses for Q4 2013, which should lop off 6 cents per share.

Quite often, employee layoffs and asset closings can trigger a rally in the stock price as the reduced costs and increased efficiencies bode well for better days. But when layoffs indicate massive and optimistic investments have become no longer viable, pessimism settles over the stock price. Potash Corp stock enjoyed a brief rally on Tuesday and Wednesday after the news, but this was followed by a decline back to where it started the week on Thursday and Friday, a negative trend.

According to the company, there is a likelihood the layoffs will trigger a write down of assets, which I would guess would be the affected mining and plant assets that were closed. This will cut into Q4 EPS but the adjusted number will add these back. Nevertheless, the writeoffs will reflect these assets and are not as economic as were once estimated.

I think the stock is vulnerable to a miss on Q4 earnings which would be released in late January, and relative underperformance of the stock until April when fertilizer application begins and the Q1 earnings report is released. In spite of a huge rally in the major stock indices today, the NYSE-listed stock is down 27 cents today to $31.54 US.

Potash Corp reduced its full year 2013 EPS guidance range to $2.00-$2.20 in the October 24 Q3 press release of 41 cents per share, which had been forewarned in an October 10 warning release.

The full year guidance implied a 23-43 cent Q4 given $1.77 had already been earned YTD. Cash flow per share before working capital changes in Q3 was 60 cents, so coverage of the 35 cent dividend was 71%. However, after the deduction of $360 million in CAPEX, free cash flow of $160 million fell short of the $290 million dividend payout, as well as the $166 million the company spent buying back shares.

Analysts had estimated on average a Q4 EPS of 34 cents the day before the layoff announcement, but the range was wide at 27-61 cents. With the 34 cent quarter, analysts had expected $2.11 in full year EPS.

I imagine analysts are sharpening their pencils and incorporating the December 3 announcement and comments made the next day in a presentation by CFO Wayne Brownlee at the Citigroup Basic Materials conference into its 2013 and 2014 EPS estimates.

Analyst average estimate for 2014 was $2.03 (range $1.42-$2.29), but already some analysts have indicated they may drop their numbers. Joel Jackson at BMO is thinking of dropping his below consensus $1.80 estimate to as low as $1.50, implying a 20 times multiple for the stock. With negative growth in EPS, it is hard to reason why the stock would not trade lower, if not for the dividend yield, and/or expectations that net asset value is being discounted even if EPS is steadily declining.

Brownlee said we (meaning Potash Corp) could see a "recipe for a nice bounce in the first half of the year (2014)" regarding international potash demand, as he thought the Chinese might decide to lock in a contract in Q1 2014, at which point other major buyers would rush in to follow and you could get some tightness in the market.

This Scenario #1 was predicated on some sort of rapprochement between Uralkali (OTC:URALL) and Belaruskali happening, and Brownlee said the fact the new owners of the controlling block of Uralkali had the endorsement of the Kremlin, a deal with the Belarusians to reform their price maintaining selling cartel was more likely. If that doesn't happen (Scenario #2) meant "then the market still has the potential to dip" and "we don't really have a hotline to Mr. Putin."

Regarding domestic sales of potash, meaning the USA, Brownlee said that business was brisk. Here is the most recent import data for potassium chloride into the USA. October shows an increase of 100,000 tons over September for all three Canadian potash producers.

Quantity DescriptionCountryJANFEBMARAPRMAYJUNJULAUGSEPOCT
In 1,000 Units of Quantity
metric tonsCanada7086238691,039853617532618760860
.Russia865866351220645316
.Chile0013106100242
.Germany4025132111
.Israel015101400028250
.Netherlands0000000000
.Slovak Republic0000000000
.United Kingdom1033001000
.France0000000000
.China0000000000
Subtotal metric tons 7996969621,106983630598703790868

Unfortunately, the weakness in Potash Corp's marquee potash business extends to nitrogen and phosphate. Gulf urea prices have firmed up but remain vulnerable to import competition. October showed an increase of 76,000 in Chinese urea imports.

Quantity DescriptionCountryJANFEBMARAPRMAYJUNJULAUGSEPOCT
In 1,000 Units of Quantity
metric tonsChina13821077131258130206
.Qatar466498114155710166156
.Canada13211096921354169795773
.Saudi Arabia6160060000616060
.Russia66033162103341048
.Bahrain004446000444444
.Egypt5200342220038
.Libya00018111181821
.Netherlands996148199597
.Trinidad & Tobago43125654197119377
.Germany3333222221
.Dominican Rep0000000000
.Japan0000000000
.India0000000000
.Mexico0000000000
Subtotal - metric tons 55126144352534880130316524662
All Other: 3453804372299024287420

Domestic agricultural phosphate prices had been even weaker than potash, with DAP sinking to $317.50/mt at the Gulf but has since firmed up to $330/mt. FInished phosphate imports to the US are not really a factor, with just a small amount of product coming from Morocco. Phosphate rock imports are mainly from Peru where The Mosaic Company has a joint venture with Vale S.A. (NYSE:VALE).

Quantity DescriptionCountryJANFEBMARAPRMAYJUNJULAUGSEPOCT
In 1,000 Units of Quantity
metric tonsMorocco50621296000012358
.Russia3935650000005
.Israel1011021211
.Mexico21112212101
.Canada4322210011
.China0000001000
.United Kingdom0000000000
.Netherlands0000000000
.Poland0000000000
.Belgium0000000000
Subtotal metric tons 11510281101545412667

That is why I believe the recent deal for the The Mosaic Company (NYSE:MOS) to buy the phosphate operations of CF Industries Holdings (NYSE:CF) will attract Department of Justice anti-rust scrutiny in 2014.

Potash Corp decided to close its Suwanee River phosphate plant, one of two at its operations in White Springs in northern Florida, and will lose 215,000 tons of P2O5 equivalent phosphate production, and reduce head count at its other phosphate operations at Aurora, North Carolina, further reducing competition in the US phosphate business.

My estimate for Potash Corp EPS is $2.00 in 2013 with little growth in 2014. Therefore, I do not feel investors should be paying 15.75 times earnings for a no growth investment. My guess is the stock will break below $30 US per share due to tax loss selling by year end, and go lower as soon as the stock goes "ex" dividend on January 14, as analysts continue to anticipate weaker earnings in the Q4 release.

The company has bought back another 2.7 million shares in late October and November, for approximately $87 million. These purchases, plus the $1.40 dividend rate (a $1.2 billion annual requirement) maintain the stock price artificially high when it should be trading in line with declining EPS estimates.

The TSX short position on the stock was 12.6 million or 1.5% as of November 30, down 5.3 million, as some covered no doubt due to the strong stock market. On the NYSE, the short position was 31.56 million shares or 3.7% as of November 15, for a total short position of about 5.2%, a not insignificant bet that the shares are going to go lower, not higher. Of course, good news could accelerate a short-covering rally.

According to Brownlee, Potash Corp's free cash flow will increase, all things being equal, by $750 million per year as capital expenditures related to the expansion projects wind down. CAPEX of $1.5 billion in 2013 will drop to $750 million by 2016.

That's fine, but investors tend not to reward a company's stock with a high growth multiple and lower dividend yield if it is shrinking operations and spending less, even if the reason is to replace higher cost operations with lower cost ones. The capital waste and cost of layoffs could increase spending more than expected, even as fertilizer prices and margins remain vulnerable to external events.

My opinion is the stock will continue to suffer as expectations continue to come down and product oversupply and lower prices hang over what once was a bright sector.

Source: When Will Potash Corp. Earnings Turn Around?