Digging deep on Potash

Globe and Mail Update

July 22, 2008 at 10:21 AM EDT

Potash Corp. of Saskatchewan is expected to report headline-worthy earnings Thursday, leading many savvy investors to ask themselves two essential questions – what exactly is potash, and why have I waited so long to find out? With analysts expecting $2.60 (U.S.) a share, up from 88 cents last year, reporter Steve Ladurantaye digs deep to find out more about a particularly Canadian commodity.

What is potash, anyway?

Potash is a fertilizer, renowned for its ability to improve the taste, texture and nutritional value of many crops. It strengthens plants, and help them absorb water. It is mined from underground ore bodies, which contain minerals left over from evaporated seas. Only 12 countries have decent deposits – Canada, Belarus and Russia have the best. As crops get more expensive, farmers are increasingly looking to increase their yields through fertilization. Global demand is increasing at 5.6 per cent a year, according to RBC Dominion Securities analyst Fai Lee, and supply is barely keeping up.

What does it cost?

Potash Corp. mining equipment

It depends where and when you buy it – potash companies set their own prices in North America, but Saskatchewan producers are represented abroad as a consortium. Potash Corp. recently set its domestic price as of September at $772 per short tonne, up from $387 in February. Meanwhile, Asian customers are likely to see the price rise about to $1,000 when their contracts renew in the fall. “We judge the increase is likely to be accepted in full, in part since competing suppliers have begun to sell small spot parcels into Asia at approximately $1,050-$1,080,” says Credit Suisse analyst Mark Connelly.

What is Potash Corp. of Saskatchewan?

The company was founded by the provincial government in 1975, and spun into a private company 14 years later. It is the largest potash producer in the world, and its soaring stock price has made it Canada's largest company by market capital – more than $67-billion. It is also the world's third largest phosphate producer and fourth largest nitrogen producer. Both are used in fertilizers.

How are its shares doing?

Last August, the company's shares hit a 52-week low on the TSX of $76.96. Then something happened – crop prices soared around the world as everyone worried there wouldn't be enough rice to go around. The price of corn also increased, as speculators wondered whether biofuels would tighten the world supplies. Suddenly, fertilizer was sexy. The shares hit a 52-week high of $246.29 in June. The 15 analysts who follow the stock have an average 12-month target of $307.78, according to Bloomberg. Twelve analysts rate it a “buy,” while the other three rate it a “hold.”

Sounds great. What could go wrong?

If crop prices fall, warns Citigroup analyst Brian Yu, so too will demand for potash. And while there are significant barriers to entry – analysts suggest it takes seven years and $2.4-billion to get in the game with a new mine – any new supply could eat into Potash Corp's market share. Mr. Yu also keeps a wary eye on natural gas prices, since it is used in potash production. There are also a growing number of companies – along with as traditional Canadian competitors Mosaic and Agrium Inc. and Russia's Eurochem – looking to get in on the action. “All things being equal,” JPMorgan analyst David Silver writes, “potash industry fundamentals and profitability are enhanced when less new capacity is developed and fewer new entrants decide to join.”

What has Potash Corp. done for shareholders?

Last week, the company said it would boost its annual potash production capacity to 18 million tonnes by the end of 2012, up from the previous target of 15.7 million tonnes and its current capacity of 10.2 million tonnes. “We estimate these projects could add approximately $90-$95 per share of incremental value,” Mr. Lee said. “Given its current share price, we believe the market is not assigning any value to these future expansion projects at this time.”