Mosaic Steps Up to the Majors

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There are some big milestones in the life of a stock: the day it was first listed, the day its parent spun off its majority ownership, and the day it was chosen to be included in the S&P 500. Last Wednesday, Standard & Poor's announced that our little Mosaic (NYS: MOS) is all grown up, and replaced National Semiconductor in the S&P 500 the following Friday, as the latter stock was acquired by Texas Instruments (NYS: TXN) .

Arranging the tiles
Mosaic was initially formed in 2004 when Cargill and IMC Global spun off parts of their fertilizer businesses, but Cargill remained a majority owner. Cargill is part-owned by a number of charitable trusts formed by Margaret Cargill, and in January of this year they sought a way to diversify their holdings, resulting in the full spin off of Mosaic last May.

Once Mosaic was a stand-alone company, it became eligible for inclusion in the S&P 500, and simply had to wait for a spot to open up. In conjunction with the inclusion, Mosaic plans to hold a secondary share offering of about 18 to 21 million shares, priced at $57.65 and closing on Sept. 29. Ordinarily, a secondary share offering would be bad news, as it would dilute existing shareholders. However, these are not new shares being created, but more of the old shares being sold by the trusts. As such, Mosaic will receive no money from the sale of these shares, and the total share count will remain the same, so earnings per share won't be diluted at all.

Not that it really matters
Still, even if earnings per share were diluted a little, shareholders wouldn't have much to complain about. The company released a preliminary first-quarter earnings report last week, ahead of the official release on Sept. 28. Earnings per share are up an amazing 75% over last year, while sales are up an impressive 41%.

The company was able to leverage those sales to such high earnings growth partly because gross margin expanded 4.4 percentage points. Part of this is simply because strong demand for fertilizers has sent prices skyrocketing, while Mosaic's cost of doing business remains mostly the same. If demand comes back down, Mosaic's selling price will fall with it, and we'll see its margins get crushed just as quickly as they've expanded.

The main worries
A drop in fertilizer prices is a strong possibility, as worries about a China slowdown coupled with a strengthening dollar have dented prices on most agricultural commodities. Fertilizer prices are very sensitive to crop prices, and as such, the companies selling them have been hit hard since the start of the month. Mosaic is down 15%, while competitors Agrium (NYS: AGU) , PotashCorp (NYS: POT) , and Terra Nitrogen (NYS: TNH) have had a similarly bad month. And if a downturn does happen, Mosaic doesn't necessarily have the pricing power to beat its peers. PotashCorp and Agrium both command higher selling prices for potash and phosphate.

On the other hand ...
Judging by its apparent lack of a competitive edge, you might think that Mosaic isn't the stock to buy to get a piece of explosive fertilizer action. Everyone else seems to think that, too. Compared to PotashCorp and Agrium, or even its much smaller competitor Intrepid Potash (NYS: IPI) , Mosaic is massively undervalued. PotashCorp and Agrium both have a very high enterprise-value-to-free-cash-flow ratio of about 50, and Intrepid has even crested 100. Meanwhile, Mosaic is sitting down around 11, and has had some of the highest free cash flow growth in its peer group since it went public.

It's not likely to stay that low for long. Now that Mosaic is in the S&P 500, index fund managers everywhere will have to buy the stock to properly mirror the index, and many active managers are likely to buy as well to avoid straying too far from the norm. If you're looking for some fertilizer-assisted growth at a low price, Mosaic is a good stock to consider. Add Mosaic to My Watchlist today to stay up-to-date with any other developments.

At the time this article was published Fool contributor Jacob Roche holds no position in any of the other stocks mentioned. Check out his Motley Fool CAPS profile, read some of his other articles, or follow him on Twitter. The Motley Fool owns shares of Texas Instruments. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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