Potash Corp: Liquidity Trouble Ahead?

There are some great companies out there selling for unbelievably low prices. But before you buy, you need to do your homework. You will be surprised with what you find, especially in overly bullish stocks like Potash Corp. (POT).

The downturn in the stock market is impacting nearly everybody, but some companies are really taking it on the chin. Many businesses are getting hammered by valuation cuts of 60% or more.

If I had to pick just one company that exemplifies the global economic pinch we are enduring, it would be the Canadian powerhouse, Potash Corp. of Saskatchewan. The firm, which produces various fertilizers and feed products, is a mirror of everything that was great about the global economy and what is now violently sour.

Over the past five years, Potash shareholders saw their positions rise by more than 1,500%. The stock was on an unbelievable run. Thanks to a booming economy, product demand was through the roof.

Ethanol was fairly fresh to the market, prices for corn were hitting all-time highs, and farmers could not get their crops planted and out of their fields fast enough. They needed lots of fertilizer.

Now, the company’s future does not look nearly as bright. The ethanol fad has come to an end and farmers are realizing they have way too much corn on their hands. Demand for Potash’s products has plummeted. And so has its share price.

Shares that were trading for highs of over $240 in June are now going for less than $100. It is a drop of over 50% in just a few months. Some investors see this as just the start of an even larger plunge. Others think this is a great opportunity to get shares at a discount.

I agree with the bears on this one. There are various fundamental reasons for the company to be considerably overvalued, but the glaring error bulls are making is not gauging the company’s current liquidity. In other words, they are looking at today’s balance sheet and not anticipating what it will look like tomorrow.

The check is in the mail

In a market roiled by credit and debt problems, it is absolutely vital to understand a company’s ability to pay its short-term bills. After all, if it cannot make payroll this week, next week is going to be an even larger problem.

A company’s current asset ratio is a good measure of short-term bill-paying ability. It is a measure of the amount of cash available versus the amount of bills to be paid.

To calculate current ratios, simply divide current assets (those available in the next fiscal period) by current liabilities. If the result is above 1, a company can pay its bills without taking on more debt. Below 1, there are problems ahead.

Potash’s current ratio as of last quarter is 0.88.  It has roughly $2.4 billion in bills, but only $2.1 billion to pay it with. In this credit market, a shortfall of $300 million is a figure worth being concerned about.

In a normal credit market, analysts would glance at that figure, discount a few cents off share price and move on. But when $300 million can be extremely hard to come by, it is a huge red flag to potential investors.

Stay away from Potash until this credit crunch loosens. By then, share price could be much cheaper and you will get in at fantastic levels. Invest now, and you could be in for a turbulent ride as the company figures out how to make up its short-term liquidity needs.

In a month or two, Potash will be a great buy. Until then, there are much better investments out there.

Companies make drastic decisions when times are tough. You do not want to be part of the problem if you do not have to be.

Stock position: None.

Comments

[Naveed:]

so these "various fundamental reasons for the company to be considerably overvalued" will be resolved within a month?

cmon man.

2008 Oct 09 05:16 PM

[not_yet_bil...:]

POT has had a current ratio well above 1.5 in the past. It has dipped only for the last quarter which has happened due to two reasons - the current assets has not grown during the quarter because the cash generated in the quarter (close to a billion just for the quarter incidentally) has been used to buy back equity. So, that restricted the current asset level thought not for any reason to be worried about. At the same time, the current liability went up because of short term debt going up by dramatically.

I do not think any company would buy back billions in dollars of equity if they were going to have trouble paying their bills. So, it could be an anomaly in accounting that would get cleared next quarter. And it looks more like that than anything else.

Of course, would love to understand if there is information on anything contrary.

2008 Oct 09 05:54 PM

[Fighting Yoda:]

Commodity cycle is bust. New capacity will come online – completely upsetting the demand-supply equation. Producers will end up with too much debt – trying to build capacity, consumers are short of money – lower prices and less demand – downward spiral.

Yes Potash (and everyone else) likely to go much lower.

2008 Oct 09 09:36 PM

[will c:]

Such silly simple calculation doesn't justify the big scary title. POT has spent billion in buying back shares because it can replenish its cash with billion dollar in profit every QUARTER. MOS recently reported its earning, and its current asset shot up ~30 incidentally. BTW, MOS earning stated that portash held up very well, but it is only a small portion of MOS products. Based on that, POT will do very well and its current asset will increase significantly. Liquidity is not a concern for POT!!

This article carries a very scary title in this market but no substance.

2008 Oct 09 09:56 PM

[Urbane Gori...:]

50% is nothing in this market .. Look at FCX, down about 65-70%. We may or may not need potash, but I'd like to know how the world intends to build anything from electric cars to new construction, stereos and laptops without copper? Boggles the mind!

Oh yeah! You want to see something really exciting? Look at the monthly chart of GE, where it dropped in 4 stages from 200 through 2003.... Remarkable how the Monthly S&P500 looks just like it, but is only 1/2 the way there.... Now that's exciting!

jegan ;-)

2008 Oct 09 09:59 PM

[jjetal:]

"The Ethanol fad has come to an end????" Where does this guy get his information? We will produce 12B bushels of corn this year of which 4B will go for ethanol. Next year ethanol will devour over 5B bushels. Moreover, consider world grainstocks are at dangerously low levels and will require record crops in '09 also.

2008 Oct 09 11:38 PM

[LJBinvestor:]

SB-tiger, give me a break. "new capacity will come online completely upsetting the demand-supply equation". You need to do far more investigation. New capacity for potash takes years to ramp up and while some have talked about getting into the business, only Potash and Mosaic have the plans already in place. The issue here is not supply, its a price/demand/sentiment issue. If sentiment drops and the price of corn goes down with the price of potash staying high, the demand for fertilizer will drop. This may occur for a one year period or perhaps even two but I doubt it would continue any longer than that. As to Mr. Snyder's comments of liquidity ratios of the balance sheet, one quarters reporting does not signal a problem or a trend and I totally agree that if a company can buy back stock like Potash has, liquidity is not a problem. Another post made on SA this very same day states the exact opposite of what you said here. My position is that fundamentals have nothing to do with any pricing of stocks today. Whenever momentum in this "doom and gloom" picture subsides and fundamentals return, then Potash will start seeing huge gains. Until then, I would seek some protection with some very short term Put options to hedge against current investor sentiment in the short term but would hold all long positions.

2008 Oct 10 08:27 AM

[maxbid:]

seekingalpha.com/artic...?

2008 Oct 10 10:10 AM

[will c:]

what type of analysis is this? this is like calling any man your father. dig deeper before publishing it.

2008 Oct 10 12:51 PM

[Bob'29:]

The October 10 posting by Emond clarifies this writers error about Potash Corp's liquidity. Potash Corp is down drastically because of the forced selling of hedge funds that needed immediate liquidity. All factors have come together to make this a once in a decade opportunity to acquire shares in this company at a firesale price.

2008 Oct 11 12:32 AM

[con:]

"Demand for Potash’s products has plummeted."

Very creative statement!

Where do you get this information?

2008 Oct 11 11:21 PM

[Dudi99:]

When someone says: "In a month or two, Potash will be a great buy"
its clears evrything out there. In meanwhile the "SHORT" players will reduce the share price for those like the writer to buy the share in a month or two.
Life teachs us from early ages that NO ON, JUST NO ONE likes loosing nothing, so the shares went down by "ones" who needed the discount, now they will wait "one or two months more" so they can buy it cheaper.

Please tell your JOKES to your friends and do'nt scarry us PLEASE!!!

2008 Oct 16 07:21 AM

[MSmailbox:]

Last week, it was reported that GM is increasing the number of E-85 vehicles in the mix. I realize that GM isn't producing as many cars as they were, but they appear to know something about the future of ethanol as a fuel.

I agree with Bob'29... It was the unwinding of hedge fund positons, which caused this extraordinay drop. What else could account for that big of a drop in Potash and others, as well. This is a "synthetic" conditon. An abberation, just as the entire market is skewed, at the moment.

If third quater earnings for POT are good, and I expect them to be very good, they will contrast other fine companies, which are reporting poor earnings. I don't think that the fundamental picture has changed that much. Some big players dumped. If the market recovers from it's "synthetic" depression, I believe that Potash will rocket! Won't the same people who dumped, be back in force, when earnings come out? What about global investors who want to "BUY AMERICAN," just like the bumper sticker says? Won't they be back looking for companies that are sound, but beaten-up by "synthethic" short-term trades. The mood of the market, government(s) actions to spike a reversal, flight to quality, renewal of ethanol as a fuel (I was surprised, by this), solid earnings, recession-resistant product, Chinese demand increasing... But in a market like this, anything is possible.

2008 Oct 22 02:46 AM