For most of the year, fertilizer producers such as PotashCorp (NYSE:POT), Mosaic (NYSE:MOS), and Agrium (NYSE:AGU) floundered under the weight of broad industry troubles. The global fertilizer market has been in a state of upheaval for most of 2013 after one of the world's largest fertilizer partnerships broke up. This caused potash prices to collapse, and ever since industry observers have eagerly awaited any signs of a floor in worldwide potash prices.
News out of China may be just what investors have been waiting for, which couldn't come at a better time. Fertilizer producers have scrambled to cut costs to keep profits afloat, but recent news may finally represent a bottom in potash prices.
How China may save the day
Recently, China's state-owned company Sinochem extended an agreement to buy potash from Canpotex, which is co-owned by PotashCorp, Mosaic, and Agrium. The agreement calls for Canpotex to provide either 1 million tons of potash or a full one-third of China's potash imports next year, whichever is greater.
Although the contract's exact price is yet to be determined, it is widely hoped that whatever price is agreed upon will represent a floor in global potash prices. Sinochem is controlled by Sinofert Holdings, China's largest fertilizer supplier and distributor. Traditionally, potash contracts entered into by Sinofert establish a template for global potash prices.
This couldn't come at a better time for PotashCorp, Mosaic, and Agrium. Each company has suffered in the aftermath of the breakup between Russia and Belarus, which quickly caused potash prices to plummet. In reaction, each company has resorted to drastic measures to keep shareholders happy. PotashCorp recently announced it would reduce its workforce by 18%. Furthermore, both PotashCorp and Mosaic plan to repurchase $2 billion in stock to keep earnings per share afloat.
These measures have come as a desperate attempt to buoy operating results, which have been unimpressive throughout 2013 due to the extremely difficult underlying conditions. PotashCorp's net sales and diluted earnings per share dropped 8% and 6%, respectively, through the first nine months of the year.
Mosaic's diluted earnings per share collapsed by 70% in the third quarter. And, Agrium suffered 13% lower gross profit in its most recent quarter as a result of weaker sales prices for urea, phosphate, and potash combined with lower sales volumes due to production outages.
The news out of China represents a major catalyst, especially since management teams of major fertilizer producers didn't see many reasons for optimism heading into the new year. PotashCorp, the world's largest fertilizer producer by capacity, recently warned investors that market conditions could persist next year or possibly get even worse. That is, of course, assuming major buyers like China didn't step back in.
What fertilizer producers need for a successful 2014
The biggest uncertainty facing global fertilizer makers in 2014 is the instability in potash prices. This represented a major headwind that management teams are struggling to contend with.
PotashCorp, Mosaic, and Agrium have resorted to workforce reductions and share buybacks to keep earnings per share afloat, but those are short-term measures. The long-term fundamentals of the potash industry will be determined by whether major buyers come back to the marketplace. The developments out of China may be just the right signal that a floor in potash prices could finally be in place.
PotashCorp, Mosaic, and Agrium have seen their stock prices beaten down in the past year, and shares now look cheap. The fertilizer industry holds valuation multiples well below that of the overall market, but the industry needed a catalyst in order for a true turnaround to materialize. Such a catalyst may finally have presented itself in the form of the Sinochem-Canpotex agreement, which represents a key consideration for investors moving forward.
Bob Ciura 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.