Chemical & Mining Co. of Chile's (SQM) stock lost about half of its value since the beginning of 2013, this compared to 28.9% rise of the S&P 500 index, and 39.0% rise of the Nasdaq Composite Index at the same period. In my opinion, SQM's stock is oversold, and it has plenty of room to go up. Furthermore, the very rich dividend (current yield at 4.70%) represents a gratifying income. In this article, I will show why I think that Chemical & Mining Co. of Chile's stock is a remarkably promising long-term investment.
Chemical & Mining Company of Chile Inc. engages in the production and distribution of specialty plant nutrients, iodine and its derivatives, lithium and its derivatives, potassium chloride and potassium sulfate, industrial chemicals, and other commodity fertilizers. The company sells its products through a distribution network in approximately 100 countries worldwide. Chemical & Mining Company of Chile Inc. was founded in 1968 and is headquartered in Santiago, Chile.
Specialty plant nutrition: SQM produces and sells four types of specialty plant nutrition in this line of business: potassium nitrate, sodium nitrate, sodium potassium nitrate, and specialty mixes.
Iodine: The company is a major producer of iodine at worldwide level. Iodine is widely used in the pharmaceutical industry, technology and nutrition. Additionally, iodine is used as X ray contrast media and polarizing film for LCD displays.
Lithium: the company's lithium is mainly used for manufacturing rechargeable batteries for cell phones, cameras and notebooks. Lithium is not only used for rechargeable batteries and in new technologies for vehicles propelled by electricity, but is also used in industrial applications to lower melting temperature and to help saving costs and energy.
Industrial Chemicals: Industrial chemicals are products used as supplies for a number of production processes. SQM participates in this line of business during more than 30 years producing sodium nitrate, potassium nitrate, boric acid and potassium chloride. Industrial nitrates have increased their importance over the last few years due to their use as storage means for thermal energy at solar energy plants, which are widely used in countries such as Spain and the United States in their search for decreasing CO2 emissions.
Potassium: The potassium is a primary essential macro-nutrient, and even though it does not form part of the plant's structure, has a significant role for the developing of its basic functions, validating the quality of a crop, increasing post-crop life, improving the crop flavor, its amount in vitamins and its physical appearance. Within this business line, SQM has also potassium chlorate and potassium sulfate, both extracted from the salt layer located under the Salar de Atacama.
Operating segment disclosures as of September 30, 2013 and September 30, 2012:
Total revenue for the first three quarters of 2013 was 1,710,930 thousand $US, the biggest segment was Specialty plant nutrients with 31.2% of the total revenue, the Potassium segment had 27.6% of revenue, and the Iodine and its derivatives had 21%.
Net income for the first three quarters of 2013 was 402,502 thousand $US, the Iodine and its derivatives contributed 30.9% to the net income, the Potassium segment contributed 20.4%, and the Specialty plant nutrients segment contributed 18.9%.
The table below presents the valuation metrics of SQM, the data were taken from Yahoo Finance and finviz.com.
SQM's valuation metrics are not particularly bad; the company has a low trailing P/E of 13.90 and the forward P/E is at 18.63, but the average annual earnings growth estimates for the next five years is negative at -0.70%. The enterprise value to EBITDA ratio is quite low at 8.61, and the price to free cash flow is at 22.52. The total debt to equity is not unusually high at 0.77.
Most of the time SQM's trailing P/E has been much higher than the actual ratio, as shown in the chart below.
Chemical & Mining Co. of Chile has been paying uninterrupted dividends since 1994. The forward annual dividend yield is very high at 4.70%, and the payout ratio is at 58.5%. The annual rate of dividend growth over the past three years was very high at 16.43% and over the past five years was at 4.66%.
SQM's dividend is paid twice a year in May and December, as shown in the charts below.
Latest Quarter Results
On November 19, 2013, SQM reported its third-quarter year 2013 financial results, which beat EPS expectations by $0.06. The company reported net income of US$138.9 million (US$0.53 per ADR) compared to US$165.2 million (US$0.63 per ADR) for the third quarter of 2012. Gross Margin for the third quarter of 2013 reached US$148.5 million, a decrease compared to US$262.3 million for the third quarter of 2012. Revenues totaled US$521.1 million, a decrease of approximately 15.3% compared to US$615.3 million for the third quarter of 2012.
In the report, Patricio Contesse, SQM's Chief Executive Officer, stated:
Our third quarter results were impacted by recent uncertainty in the potassium chloride market. There are various reports and information available today regarding the potash market. These reports include both positive and negative information, which has in turn led to uncertainty relating to short-term potassium chloride pricing. We continue to believe that market demand is the most important indicator when assessing the potash market, and we are confident that total demand levels for 2014 will surpass the levels reached in 2013. Our total production cost of potassium chloride is well below the market price.
Next Quarter Results
Chemical & Mining Co. of Chile will report its fourth-quarter year 2013 financial results on March 01. SQM is expected to post a profit of $0.33 a share, a $0.21 decline from the company's actual earnings for the same quarter a year ago.
Competitors and Group Comparison
According to SQM, it accounted for less than 3% of global sales of potassium chloride in 2012. Principal producers in the market were Uralkali Group (OTC: OTC:URALL), which accounted for approximately 18% of global sales, Potash (POT) and Belaruskali, which each accounted for approximately 16% of global sales, and Mosaic, (MOS) which accounted for approximately 15% of global sales. Among SQM's competitors in the worldwide fertilizer products marketing are CF Industries Holdings (CF) and Agrium Inc. (AGU). SQM is the world's main producer of lithium accounting for about 35% of the world lithium production its main competitors in the lithium carbonate and lithium hydroxide businesses are Talison Lithium and FMC Corp. (FMC).
A comparison of key fundamental data between Chemical & Mining Co. of Chile and its main competitors is shown in the table below.
Source: Yahoo Finance
Chemical & Mining Co. of Chile is smaller than its main competitors considering revenue, market cap and number of employees and its valuation metrics look more or less similar to its competitors.
SQM's margins and return on capital parameters have been much better than its industry median, its sector median and the S&P 500 median, as shown in the tables below.
Some of SQM's growth rates and stock valuation parameters have been better and some have been worse than its industry median, its sector median and the S&P 500 median, as shown in the tables below.
Personally, I am using only fundamental analysis for my investment decisions. After many years of experience, and after having tried all kinds of decisions making including technical analysis, I have reached the conclusion that relying on fundamental information is giving me the highest return. Nevertheless, some investors are successfully using technical analysis to find the proper moment to start an investment (I am not talking about traders, my analysis is only for investors). The charts below give some technical analysis information.
The SQM stock price is 11.59% above its 20-day simple moving average, 13.23% above its 50-day simple moving average and 15.17% below its 200-day simple moving average. That indicates a strong short-term and mid-term uptrend and a long-term downtrend.
Chart: TradeStation Group, Inc.
The weekly MACD histogram, a particularly valuable indicator by technicians, is at 0.91 and ascending, which is quite bullish (a rising MACD histogram and crossing the zero line from below is considered an extremely bullish signal). Furthermore, a trendline crossover was identified at the end of 2013. The RSI oscillator is at 45.62, after being at oversold area during the most of 2013, which is an extremely bullish signal.
Potassium sales contributed 27.6% to SQM's total revenue for the first three quarters of 2013 and to 20.4% of its net income. Stocks of main potash producers jumped on January 14, as researchers Fertecon Ltd. and Argus FMB Potash said that Uralkali, the world's largest potash producer, seeks to raise prices for Brazil and China. According to Bloomberg news, Uralkali Trading, the potash producer's trading arm, wants $350 per ton for granular potash available in March from the largest Brazilian buyers. That's an increase of as much as $40 per ton, according to the researcher. The company is also seeking $330 per ton for the first half from China.
In July 2013, Russia's Uralkali quit the partnership with Belarusian Potash Co. (BPC), which together with a rival North American cartel controlled some 70 percent of the market. As a result, fertilizer stocks plummeted on fears that the Russia-Belarus potash dispute would flood the market with cheap potash.
Potash market fundamentals are improving, with low inventories and prices stabilizing: Global potash inventories have declined almost 20% y/y in 2013 and in every region except India. Potash prices have stabilized in most major markets following the weakness in the late summer/fall and Uralkali expects Chinese contracts (late December or early 2014) to set a floor for the market.
Global potash production is expected to grow in the years 2014-2020, due to world population growth and farmer economics and yield optimization, as shown in the chart below.
SQM is expanding its potassium-based products; its Installed capacity was approximately 2 million MT in 2012, and its effective capacity is expected to be approximately 2.3 million MT by the end of 2014. According to the company, Internal development of production technologies has allowed for a better utilization of natural resources and for higher yields through increased efficiencies. SQM is the only company that produces the three main products of potassium that exist in market today.
SQM is the world's largest producer of lithium, accounting for about 35% of the global lithium market. Lithium is considered the oil of the future due to its use to power electric vehicles. Total production of electric cars using lithium-ion batteries is expected to reach 1.5-3.0 million in 2015 and 5.0-10.0 million in 2020. Tesla Motors lithium-ion battery packs are not just powering its electric cars any more. They have started appearing in a small number of California homes to store electricity generated by rooftop solar panels, and beginning last December SolarCity (SCTY), the Silicon Valley solar installer, started providing Tesla (TESLA) batteries for businesses that want to cut their utility bills. Lithium-ion batteries are common in consumer electronics. They are one of the most popular types of rechargeable battery for portable electronics, the kind that powers our laptops, tablets and mobile phones, with one of the best energy densities. Hybrid cars are getting more and more popular, lithium-ion battery powers the hybrid Chevrolet Volt car allowing it to run for 40-mile (64.3-kilometer) stretches entirely off of the battery.
Source: SQM Corporate Presentation September 2013
SQM is the world's largest producer of Iodine, accounting for about 35% of the global Iodine market. The compound annual growth rate of the global demand for Iodine products between years 2002 to 2012 was 4%. Since approximately 40% of uses of Iodine are related to human health and nutrition, this percentage is expected to increase.
Specialty plant nutrition
SQM produces four principal types of specialty plant nutrients: potassium nitrate, sodium nitrate, sodium potassium nitrate, and specialty blends. SQM is the global largest producer of potassium nitrate with 46% world market share. Potassium nitrate is one of the most important products in this business line.
The advantages of SQM products, plus customized specialty blends that meet specific needs along with agronomic service provided, allow SQM to create plant nutrition solutions that add value to crops through higher yields and better quality production. Because their products are derived from natural nitrate compounds or natural potassium brines, they have certain advantages over synthetically produced fertilizers, including the presence of certain beneficial trace elements, which makes them more attractive to customers who prefer products of natural origin. As a result, specialty plant nutrition products are sold at a premium price compared to other commodity fertilizers.
One of the reasons for the big drop in SQM's stock price, along with its peers, was the July 2013, move by Russia's Uralkali to quit the partnership with Belarusian Potash. This caused fears that the Russia-Belarus potash dispute would flood the market with cheap potash. But, Potash market fundamentals are improving, with low inventories and prices stabilizing: Global potash inventories have declined almost 20% y/y in 2013 in every region except India. SQM, as a low cost producer, will profit from the increasing demand.
As the world's leading producer of lithium Chemical & Mining Co. of Chile will benefit from the increasing demand for electric cars and mobile electronics devices, which are powered by lithium-ion batteries.
SQM has solid financial position, its margins and return on capital parameters have been much better than its industry median, its sector median and the S&P 500 median. The company is focused on long-term growth.
SQM has low-cost structure due to operational synergies. Similar processes and industrial technologies are used across its operations: solar ponds, evaporation, salt harvesting, crystallizing and drying, among others.
Chemical & Mining Co. of Chile has been paying uninterrupted dividends since 1994. The forward annual dividend yield is very high at 4.70%, and the payout ratio is only 58.5%. The annual rate of dividend growth over the past three years was very high at 16.43% and over the past five years was at 4.66%. I consider that besides dividend yield, the consistency and the rate of raising dividend payments are the most crucial factors for dividend-seeking investors, and SQM's performance has been quite impressive in this respect.
All these factors bring me to the conclusion that SQM stock is a smart long-term investment.
According to Chemical & Mining Co. of Chile, the markets in which the company operates are unpredictable, are exposed to significant variations in supply and demand, and have volatile prices. Additionally, the supply of certain fertilizers or chemical products, including certain products, which the company trades, vary mainly depending on the production of the top producers and their respective business strategies. These factors can lead to significant impacts on sale volumes of its products, the financial situation of the company and its share price. In addition, results of operations, financial condition and prospects could be affected by changes in policies of the Chilean government, other political developments in or affecting Chile, and regulatory and legal changes or administrative practices of Chilean authorities, over which the company has no control.