At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.
And speaking of the worst...
Things are looking grim for the fertilizer industry. On Wednesday, leading manufacturer PotashCorp (POT +0.00%) announced that "consistent with PotashCorp's practice of matching supply with market demand," it would be mothballing two Canadian potash mines for eight weeks each. The implication: "market demand" isn't exactly going gangbusters.
Meanwhile, next door at Mosaic (MOS +0.00%), Chief Financial Officer Larry Stranghoener just emerged from an investor presentation in New York at which he warned investors that potash shipments this quarter will be as much as half-a-million tons lower than forecast -- about 23% below planned levels. According to the CFO, Chinese and Indian buyers are delaying signing supply contracts, leading other buyers to hold off as well in anticipation of a price drop, which in turn depresses demand and forces prices to drop, leading to still more buyers to wait...
Well, you get the picture. It all adds up to Mosaic being forced to "match production with demand, which may require us to further lower our operating rates." Just like PotashCorp.
It never rains, but it pours
It's little wonder then, that hard on the heels of these twin announcements, investment banker Canaccord Genuity announced yesterday that it's downgrading the stocks of both PotashCorp and Mosaic. Calling potash price declines "all but assured," the analyst is advising investors to avoid anyone having anything to do with the fertilizer.
Instead, the analyst is suggesting investors who are bullish on agriculture focus instead on firms with "low or no potash exposure such as Agrium (NYSE: AGU) or Monsanto (MON +0.00%). But is this the right call?
Two fertilizer-y investments
At first glance, you might not think so. PotashCorp shares only cost about 14 times earnings, after all. Mosaic's even cheaper -- a mere 11.5.
These are hardly nosebleed valuations. Then again, when you consider that Mosaic's only expected to grow its profits at about 8% per year over the next five years, it's hard to argue the stock is any more than fairly valued today. PotashCorp, at a sub-3% projected long-term-growth rate, looks even worse. (It's also carrying a much heavier debt load.)
When you further factor in the fact that neither of these companies generates even half as much free cash flow as they claim to be "earning" under GAAP, the case against PotashCorp and Mosaic grows even stronger. While fine companies in many respects, to be perfectly blunt, they look like awful investments. But are Canaccord's preferred Agrium and Monsanto any better?
No and no
Agrium certainly isn't. In fact, its 11.5 P/E ratio, 6% projected growth rate, and weak free cash flow make this fertilizer stock almost a mirror image of the unattractive Mosaic.
Monsanto, meanwhile, while avoiding the "potash curse," doesn't look particularly attractive from a valuation perspective either. At 22 times earnings, this seed producer is the most obviously overpriced of the agro-ideas discussed so far. Granted, free cash flow at the company is stronger than you'll find at PotashCorp, Mosaic, or Agrium. But it's still only enough to give the stock a price-to-free cash flow ratio of about 19 -- too high for a projected 10% grower like Monsanto.
Foolish takeaway
No, Fools, when you get right down to it, there's still only one agribusiness stock out there with any real potential to outperform the market: CF Industries (CF +2.95%).
CF may not look as cheap as it once did, granted. (That's true of many stocks that have run up more than 30% in a matter of 12 months, and outperformed the S&P 500 by more than 20 percentage points.) Its projected 2% long-term-growth rate is positively discouraging. But on the bright side, CF only costs seven times earnings -- cheaper than any other stock discussed above. It's got strong free cash flow, too. Enough to back up 96% of reported earnings. And, as you'd expect from a strong cash producer, CF's balance sheet is rock solid: $1.6 billion in debt, but $2.2 billion in cash.
And of course, with its focus on nitrogen and phosphate fertilizers, CF largely sidesteps the near-term risk of weak demand for potash that afflicts its friends in the fertilizer industry. Long story short, I'd rather be long this stock, and short the others.
