Intrepid Potash: Too Challenging Of An Investment

Summary

• Intrepid reports poor results, poor weather for driving down its potash business.
• Intrepid's water sales are in no way close to 80% margins management had guided us towards.
• Ultimately, its outcome is too speculative.
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Investment Thesis

Intrepid Potash (NYSE:IPI) reported Q4 2019 results that were largely in line with my expectations.

Ultimately, this investment is too challenging to build a bullish thesis upon, even at this valuation. Sidestep this investment for now. Here's why:

(Source)

Background To Intrepid

For those that followed my journey in Intrepid Potash over time will know that I was invested in Intrepid for years, but I'm not longer invested.

Today, I attempt to lay out a bias-free analysis of what potential shareholders have to make a rewarding investment at this current valuation.

Intrepid is predominantly a potash company. It very successfully diversified its operations to grow its Oilfield Solutions - investors will know this segment as its 'water' business.

Previously, I had been very much attracted to Intrepid's water business. In the past, management had declared that this business unit was expected to be a very high margin business, pointing towards the high 80% to 90% range. However, we are several years into this endeavor and presented below are Intrepid's latest results:

Source: Press statement

Readers will note that its Oilfield Solutions' gross margins are approximately 53% - a far cry from mid 80% we were being guided towards.

Keen followers of Intrepid know that its Oilfield Solutions encompasses several other revenue streams too, but this as close an approximation as management offers investors, and indeed, for our purposes more than sufficient to grasp that Intrepid's water sales are in no way close to 80% margins management had guided us towards.

Having said that, there are some amounts of Intrepid's high-margin water sales that are included either in its potash or Trio® segment, but you get a general idea that this isn't all that promising.

Water Guidance?

During its Q4 2019 earnings call, Intrepid notes that 2020 should see $32 million to $45 million in water sales. Now, remember, this includes the $53 million acquisition of Dinwiddie Jal Ranch on May 1, 2019.

Consequently, Q1 2020 should see strong performance in water sales as it compares with Q1 2019 (before the acquisition), but for the latter parts of 2020, as Intrepid starts lapping that acquisition I would assume organic growth will taper off rather quickly.

What About Its Strong Cash Flows?

This was somewhat disappointing, as Q4 2019's cash flows were largely flat with the prior year, despite having made a significant acquisition.

What about for the year ahead? Will its cash flows rapidly increase? Presently this is unlikely. Having said that, Intrepid's potash segment should normalize after the challenging 2019 it had to endure, and we may even see Intrepid's cash flows from operations reach approximately $60 million.

On the capex side, including growth capex, Intrepid guides to the midpoint of $30 million. This immediately begs the question, just how much free cash flow will Intrepid make for 2020? If Intrepid has a very strong year, its free cash flow may reach high $30 million to low $40 million.

Valuation - Possibly Fairly Valued, May Some Upside:

What sort of multiple should investors pay for Intrepid Potash?

Given its water diversification, but also embracing the fact that the bulk of its operations are highly cyclical and weather dependent, what is reasonable?

Realistically, investors should not hope to see Intrepid being priced at 10x to free cash flow, but I would be willing to believe that 8x to free cash flow is reasonable, possibly pointing towards high 30% upside.

The Bottom Line

There is a small potential that Intrepid Potash could grow from its current valuation into a rewarding investment.

For that to happen, investors are no longer going to buy a 'hope' story. They demand a 'show me' story. Unless Intrepid can show promising revenue growth followed by sustainably growing cash flows, investors are not likely to be attracted to Intrepid.

Furthermore, I do not believe that Mosaic (MOS) or another peer will acquire Intrepid as this management team has too much skin in the game and too little desire to sell their operations.

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Comments

[PYALDO]

This has gotta be dislocation at its finest... Everyone though oil a screaming buy at 50$ a barrel, and IPI a buy at 2.50. Now prices are HALF and no one wants to touch because we’ve got a nasty flu going around?... Unless we go into a protracted recession, this is the definition of a temporary crisis...

I hit the buy button on IPI and some oil stocks yesterday. Will load up more later this week. 5 years from now I’m sure ill be doing fairly well. Next few weeks maybe not. Best of luck!

[Michael Wiggins De Oliveira]

@PYALDO
' Now prices are HALF and no one wants to touch because we’ve got a nasty flu going around?'

That made me smile. Thank you.

[Scared Bear]

I agree with you. It is a great opportunity. And the Permian next year will still be around with operators drilling and pumping. But the issue is that now there is several stocks very cheap. IPI is not the only one. This is a time to buy, specially energy stocks!

[Bumbershoot Holdings]

Intrepid should be focused on its own business, not what other energy stocks are doing. This is the opportunity to restore credibility and drive a significant increase in long-term value for shareholders. It cannot afford to miss it

[Michael Wiggins De Oliveira]

...Now it's getting very interesting....

[10hut]

Unless you think Putin and The Crown Prince are back as bffs, half the operators in the Permian will be gone in the next year. The rest will have to curtail operations. Unless Bobby J loves to buy puts in oil more than he does IPI stock ...this thing maybe expensive at $1 if no vaccine for Coronavirus shows up this year.

He has lost the trust of shareholders ...watching Trump address last night reminded me of Bobby J on earnings calls.

Good luck

[Michael Wiggins De Oliveira]

'watching Trump address last night reminded me of Bobby J on earnings calls'
That's funny...

[Scared Bear]

What do you guys think? I believe that the market panic is not over yet, as a matter of fact, just starting...but some industries and some prices are almost irresistible, the opportunity of a life time! IPI is good, will survive. NGL has two much debt, but should survive too and it is very cheap!

[Scared Bear]

Michael, it sounds to me that you are about to jump back in! I think that maybe the coronavirus panic will give you an opportunity in the next couple of weeks, to buy really cheap! Before the panic started, the stock was trading at $2.2/3, I thought that with decent results and clarification of certain doubts generated in the 3erd Q report, the stock was going to go back to at least $3, but now it is trading at $1.70!!! And it might go to $1.5 in a couple of weeks. I think that it is a bargain price, with big margings of safety. Very low probabilities in not doubling your money in a few months or a year.

[Michael Wiggins De Oliveira]

Yes, you are probably right.

[Show_me_the_money]

@Bumbershoot Holdings and @Michael Wiggins De Oliveira . On the CC Robert Jornayvaz mentioned $10 to 12 millions MCapex but only Depreciation is about $28 millions (10-K), any idea why that gap?

I have $300-350 millions for the potash business at replacement value + 200-250 millions for the water at 10x expected FCF 2021. That´s $500-600 millions assuming no harm from the Mosaic and Pecos lawsuits. Trio as option value.

Good luck everybody!

[Michael Wiggins De Oliveira]

Trio, Trio, Trio, I remember that story too, hehehe.

[Bumbershoot Holdings]

Depreciation charges reflect a larger asset base including the West mine, which previously had been the largest percentage of production volume. Operations at West were suspended a few years ago and the mine was put into "care & maintenance" mode with minimal sustaining capital. Creates a variance of ~$10m-$15m between GAAP earnings and FCF.

[Michael Wiggins De Oliveira]

@Bumbershoot Holdings
Asides from mine and your comments, how many comments can you count here?

Investors evidently don't care about this stock. That may be good news, the bottom may be near.

If Intrepid can show hard numbers of increasing revenues and cash flows, you may be correct.

But for now, despite much talk, we are left with declining revenues y/y.

[Mark Humphrey]

I've never read an annual report re this company, but I spent 15 min looking at financials. They have low debt, management with big incentives to keep this company going (as opposed to speculating/borrowing for stock options), and commodity businesses that are sound but dragging through the downside of demand and pricing.

I am guessing they issued stock to pay down debt, which was smart, as is apparent disinterest in buying back stock. I am also guessing they got into the water business when they acquired the ranch property in 2016 or so, which probably holds potash plus a lot of water in decent proximity to shale oil-N gas production. So the water business may have been an obvious opportunity given the assets they owned, and not just something they dreamed up. I haven't bothered reading for an hour to find out if my fantasies are right or not.

At some not too distant point, the US dollar is going to drop against other currencies, given our crazy, money-printing, Mad Hatter Fed; and a looming recession and bear markets in stocks and corporate debt that will induce the central banking religious cult to print even more recklessly than we've seen to date.

That's annoying rhetoric to lots of stock bulls, but my point is this is the sort of company that can gain a lot when grain prices and natural gas prices, and even oil prices, get swept higher in bull markets almost no one is expecting now. Those bull markets are nearly inevitabile at some time, because production costs exceed pricing in all 3 commodities.

With low debt and earning profits in difficult conditions (that could get more difficult before any turn), I think this is a good company to keep in mind and watch.

Thanks for the write up.

[Michael Wiggins De Oliveira]

@Mark Humphrey
Thanks for showing up.

'I am guessing they issued stock to pay down debt,'
Mark, issuing stock to pay down debt, in my opinion, is criminal.

Having said that, in this case alone, Intrepid was going to go bust, so they had nil other options on the table available. They did what they could, and the company survived.

[yayy]

I do not know much about the company. I am not a fan of the management. There is definitely much they can do to deliver shareholder value. That being said, I find it very difficult to think of Mr. Michael Wiggins De Oliveira as unbiased. For that matter any writer on Seeking Alpha. This is a site driven by retail investors. Small/Micro cap stocks do not have any proper analyst coverage other than a token presence. The analysts who cover these companies are part-timers i.e. day job is covering larger companies in the space or a different space altogether. To wit, Most times the analyst on the call is covering for some else. I actually listened to the recording and the first analyst to ask the question did not even seem to be awake, forget being interested. Investors should do the work themselves than depend on Seeking Alpha or Zacks or whichever other site covers these small-cap stocks. Yesterday, during and after the call, the stock was up whilst the market was down (Mosaic was down too). Today the stock is down 5% whereas Russell 2K is up, as is Oil. Retail mom and pop investors probably read this article and started pushing the sell button without giving much thought.
There are approx. 127 Million shares, 40% of which is owned by insiders. So approx. 75 Million shares are held by institutions and retail investors. I am guessing retail probably holds <5%. The 5% move was effected by less than 85,000 shares changing hands. i.e. <0.07% of total float and approx. 11% of ADV.
If Mr. De Oliveira has a case why was the stock at $4.39 the past year when the markets were at a lower level and IPI's cash position was relatively more precarious. Curious?!

[Michael Wiggins De Oliveira]

@yayy
'That being said, I find it very difficult to think of Mr. Michael Wiggins De Oliveira as unbiased. For that matter any writer on Seeking Alpha.'

Thanks for your first comment. And I have no ax to grind with you, but I can not agree with that comment of yours. Anyway, good luck.

[Scared Bear]

I completely agree with your last paragraph. This company is held between insiders and some large institutional investors. 70% of the shares are held by those two groups, and neither have abandoned ship yet. The rest, index funds, smaller institutions and finally, retail investors. Yes, maybe 5% or so. Those are the ones that exchange shares on a daily basis. The most uninformed and emotional of all categories, decide on a daily basis how much is the company worth? I don’t think I am going to follow them, I rather stick with the other groups. Like Soros, I think that the market is always wrong, and there is always an arbitrage opportunity out there, sometimes small, sometimes big. In this case the opportunity is big and I believe the company is worth much more money.

[Michael Wiggins De Oliveira]

@Scared Bear
Thank you for reading and reaching out. I was waiting to hear from you.

I hope it works out well for you. Fingers crossed.

[Bumbershoot Holdings]

I won't disagree that the company has disappointed on certain aspects of the "Water Story" in terms of setting expectations on margins, etc. But you're implying a 12.5% yield (after some investment capital) on assets with long history of cash flow, at the same time as the US 10-year Treasury is crossing 1%.

Intrepid could take that $30m of FCF and repurchase 10%+ of its market cap. The real issue is not driving value / need to recognize the importance of a formal capital allocation plan.

[Michael Wiggins De Oliveira]

@Bumbershoot Holdings

Thank you so much for reading & commenting. I very, very much appreciate your comments (always).

'Intrepid could take that $30m of FCF and repurchase 10%+ of its market cap.'

Yes, yes, I read your commentary on the call. But what works in practice doesn't work in theory.

Intrepid will not be making any share repurchases. Not in 2020 and not in 2021. By 2020, who cares?

Next, as I wrote in the article, investors want a show-me story. They are not willing to invest in hope any longer. What this means in practice, is that the multiple investors are willing to pay for a company with stable-to-declining growth rates will continue to compress.

Of course, mathematically, 12.5% yield makes for a very satisfying investment. But in practice, as the share price stagnates or even continues to decline (!) (the market is known for being irrational at stages), this will be a very challenging investment to hold.

[Michael Wiggins De Oliveira]

Also, I should note that even if you are willing to wait for the share repurchases, the other shareholders may not be willing to wait, and the share price may continue to stay around this price, or simply continue to sell-off.

Further thoughts are welcome... @Bumbershoot Holdings

[Bumbershoot Holdings]

Completely agree with you -- in theory vs. practice.

I'm not saying that I expect the company to do a share repurchase in the near-term, but the value is right in front of them. I have stressed to the company the need to formalize a target capital structure and long-term capital allocation plan.