You may not know much about potash, a type of salt used primarily in fertilizers. You may not know about the potash cartels. You may want to know about these things, though, considering that a rogue cartel member threatens the price of potash, which is battering these companies’ stock prices.
Are potash producers a profitable pick for your portfolio? Let’s take a look.
Potash price
Of course, over the course of history, even $300 is high:
Potassium Chloride (Muriate of Potash) Spot Price data by YCharts
Analysts make their valuations based on future prices, and a fall back to $300 was a surprise to most investors, causing PotashCorp and Mosaic Co (NYSE:MOS)’s stock prices to fall nearly 20%. It also dragged down related companies’ stocks, such as Sociedad Quimica y Minera (ADR) (NYSE:SQM), which only has 3% of the potash market but makes 25% of its revenue on the commodity, by a similar percent.
The future of potash
Will these stocks spring back like the crops they help fertilize? This depends on, obviously, the future price of potash.
If Uralkali follows through and trades outside of the cartel, there’s little other companies can do but match lower prices. This could mean delayed investments in increased production, cost cutting, further consolidation, and cuts in dividends. Expansion projects, like Agrium Inc. (USA) (NYSE:AGU)’s $1.5 billion investment in an extra 1 million tons of capacity scheduled to be completed in 2014, likely won’t meet the return on investment targets when the company first calculated potential profits. Potash prices will likely stay above the average $100 per ton cost of production, but pricing power may never be as strong for the producers as it once was under the cartels. And market sentiment for the companies may take awhile to turn around.
But, in the long term, these companies benefit from plenty of trends and industry dynamics. One, their moat is fairly unbridgeable. Starting a potash mine is complicated and costly, as PotashCorp explains:
In Saskatchewan, we estimate it would cost CDN $4.2 billion to bring into production a new conventional 2-million tonne per year greenfield potash mine and mill, which would take a minimum of 7 years lead time to bring to production. This figure does not include infrastructure outside the plant gates, such as rail, road networks, utility systems, port facilities and potential fees to purchase reserves, which could increase the cost to more than CDN $6 billion.
Two, a growing world population needs more food and desires more meat, all of which requires more fertilizer. Global fertilizer consumption increased 27% from 2001 to 2011, and the Food and Agriculture Organization estimates demand growing at 1.9% per year through 2016.
Planting the seed
The out of favor fertilizer stocks were blindsided by industry relationships outside of their control, but they still make money. While a future fall in potash prices will hurt, once market sentiment turns around, I believe the battered stocks will be a safe place for a steady return. The only question is when this will happen.
The article Is This the Perfect Time to Buy These Companies? originally appeared on Fool.com and is written by Dan Newman.
Fool contributor Dan Newman has no position in any stocks mentioned. The Motley Fool recommends Sociedad Quimica y Minera (ADR).
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