Just when you think things are beginning to settle down in the fertilizer space, another transaction between the major producers shakes up the space again. Mosaic (NYSE: MOS ) is purchasing the phosphate business of CF Industries (NYSE: CF ) for $1.4 billion. That is $1.2 billion in cash for the phosphate business, and Mosaic will add another $200 million in asset retirement liabilities to its balance sheet. This is just after the company announced at the beginning of October that it was ending its 39-year phosphate marketing partnership with Potash Corp. (NYSE: POT )
When the two companies consummate the deal sometime during 2014 investors should find that this is a win for both companies. What's in it for each firm?
CF Industries takes a load off
Over the last four years phosphate sales have made up less than 20% of these ammonia and nitrogen producers' annual revenues. Additionally, phosphate margins are notoriously low, even during periods of rising prices. They are also sensitive to the market prices of phosphate rock, sulfur, and ammonia. Selling this segment allows CF industries to shed a low-margin business where it is not able to meet the type of operating scale it needs to lower costs without attempting a costly if not impossible acquisition. Figure 1 compares the gross margins of Potash Corp. and CF Industries phosphate businesses and illustrates that during the most recent calendar year CF Industries gross margins fell at a faster rate than Potash Corp.
Before May 31, 2013 Mosaic Co. operated on a fiscal year that ended on May 31, 2013; thus Potash Corp. offered a more direct comparison since both firms run on a calendar year.
In 2007, the company's capital investments in its nitrogen business began to exceed its phosphate business by significant amounts. This is a sure sign of a lack of commitment to the future of its phosphate operations. Figure 2 clearly illustrates the direction the company was looking to move.
Finally, the deal will remove $200 million in debt from the company's balance sheet and simultaneously add $1.2 billion in cash.
Realizable synergies for Mosaic
In my opinion, this will be an even better deal for Mosaic as the company walks away from its PhosChem joint venture with Potash Corp. The mines the company is purchasing from CF Industries are near to its current Florida operations, which will allow the company to realize material logistics, mining, and operational synergies while incurring little if any significant cost as the company will simply move existing assets where needed.
In addition to synergies that will improve margins, the acquisition will also be accretive to earnings. In its fiscal 2013, Mosaic's phosphate revenues totaled nearly $8 billion. This acquisition will add another $1 billion or so to the top line. The company expects EPS growth of $0.30 in 2015, excluding any debt financing costs as the synergies take hold. During the analyst call, the company was mum about how much debt they plan to use to complete the acquisition.
In the near to intermediate term the state of the fertilizer industry remains in a bottoming process as companies in the industry sever old cooperative relationships, set up new ones as well as realign competitively while prices continue their search for a level that satisfies both buyers and sellers. However, when the dust settles and the next cyclical upswing begins, I think investors will find that this deal was a win for both companies.
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