Buying Fertilizer Stocks Ahead of Spring Planting Season? Read This
Investors in the fertilizer industry received a pleasant surprise last week when Cowen & Co. upgraded its rating on three fertilizer stocks -- PotashCorp , Agrium , and Rentech Nitrogen -- to market perform. After the fertilizer industry's turbulent ride over the past few quarters, an analyst upgrade was nothing short of music to investors' ears.
Unfortunately, it may be too early to get excited. Headwinds are aplenty, and a market perform rating, by Cowen's definition, doesn't rule out the possibility of a downside in the share price. So before you jump the bandwagon, you may want to weigh the challenges the three fertilizer companies currently face.
Cowen expects delayed spring planting in the U.S. to boost fertilizer prices -- and hence fertilizer stocks -- in the near term. If only things were as simple.
Extreme cold left some of the key crop-growing regions buried under snow. Thawing has begun, albeit slowly. So chances of delayed planting this year are high. But that may not do much to fertilizer prices.
Prices of key fertilizers remain at multiyear lows, even though a major portion of farmers' fertilizer requirements have already been filled in ahead of the planting season, which kicks off in April. For instance, Rentech Nitrogen had already locked in at least 30% of its nitrogen deliveries through February 2014 by the end of December last year. That shrinks the scope of any substantial near-term improvement in fertilizer demand -- and hence, prices. Things look even murkier if you factor in the headwinds that the key nutrient markets currently face.
Why higher demand won't help
The potash market is at its weakest right now. Global potash prices plummeted after the breakup of the marketing group between potash producers Uralkali and Belaruskali late last year, sending investors scurrying for cover. Despite a strong first half, PotashCorp's revenue and net profit for 2013 dropped 8% and 14%, respectively.
PotashCorp expects higher year-over-year potash shipments through June this year, backed by a strong spring planting season in the U.S. That projection may have excited the market, but potash prices, unfortunately, are too low to do much good to the company's revenue. Take a look at this chart from Agrium's recent crop input market report.
What's more, potash prices will remain under pressure as long as Uralkali, a major global supplier, continues to pursue a volume-over-price strategy. The implications of the marketing group fallout are far from over, with PotashCorp even expecting weak prices to hurt its "realizations and results through the first part of 2014," despite increased shipments. So don't pin much hopes on delayed planting.
Same old story
Phosphate markets are comparatively better placed right now, with prices jumping more than 20% over the past quarter. But again, phosphate prices are at three-year lows. More importantly, news from key international markets like India hasn't been too good lately. That bodes ill for the U.S. phosphate market, which relies heavily on global demand. U.S. phosphate exports in February dipped 23% sequentially, indicating persistent sluggishness in global markets.
While both PotashCorp and Agrium deal in potash as well as phosphate, the former bears the heaviest brunt since it derives nearly 70% of its total revenue from the two nutrients. Comparatively, Agrium is more a seed and crop-protection company, and gets just about a quarter of its sales from fertilizers (including nitrogen). The problem is that the fertilizer business largely drives Agrium's profits.
Glimmer of hope?
The nitrogen market is in a better shape as compared to the other two fertilizers. Prices of ammonia -- the base nitrogen fertilizer -- are recovering as swiftly as they dropped in near months. The benchmark Tampa ammonia contract for April was settled at 26% higher sequential price last week.
Meanwhile, urea prices are firm after gathering steam earlier this year. But which way the prices will move from here is difficult to predict. Geopolitical tensions at Ukraine could temporarily bump up urea prices if exports from Ukraine fall. Ukraine accounts for nearly 9% of global urea exports and depends heavily on Russia for a key input: natural gas.
On the other hand, China is lowering fertilizer export taxes for off-season summer period, which could flood global markets with cheaper urea. Some industry experts even believe that urea prices may have already peaked and could fall sharply by May.
That said, things aren't as dire for nitrogen producers as they are for potash and phosphate companies. Of the three companies that Cowen & Co. has its eyes on, Agrium gets the smallest portion of revenue from nitrogen. PotashCorp ranks second, with nitrogen contributing roughly 30% to its revenue. As a pure-nitrogen play, Rentech is on safest ground as of now. It's a different story that the little company has its own set of problems to deal with.
This is an exceptionally challenging year for the fertilizer industry, with unprecedented developments adding to the usual weather uncertainties. PotashCorp summed it up well during its last earnings call when it said, "[T]he importance of price cannot be understated." If only fertilizer prices weren't at the mercy of so many uncontrollable factors. Investors should know better than to bet on one event when they're dealing with fertilizer stocks.
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The article Buying Fertilizer Stocks Ahead of Spring Planting Season? Read This originally appeared on Fool.com.Neha Chamaria has no position in any stocks mentioned. The Motley Fool owns shares of PotashCorp. 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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