In another act of the potash drama, Uralkali agreed to sell potash to China for 24% less than the previous year's price. The company agreed to sell 700,000 tons of potash at $305 per ton in the first half of 2014. This price level will possibly serve as a price floor for the near term. Will this bring relief for potash producers like PotashCorp (NYSE:POT) and Mosaic (NYSE:MOS), who were heavily punished when Uralkali pulled out of a supply deal with Belaruskali?
An uncomfortable price floor
When Uralkali cut off the supply deal with Belaruskali and decided to pursue the strategy of volume over price, some investors feared that it would push potash prices to extremely low levels. As we can see, those fears did not turn into reality. Many analysts expected that prices will settle around $300 per ton, and that's exactly where the new Uralkali's contract is.
However, I don't think it is very good news for the members of Canpotex, which supplies potash produced by PotashCorp, Mosaic, and Agrium (NYSE:AGU) to international markets. Back in the third quarter, PotashCorp reported that its average realized potash price was $307 per ton. The recent Uralkali contract doesn't show any improvement from this level.
The current price environment has already forced PotashCorp to cut its workforce in Canada, Trinidad, and the U.S. by 18%. In order to push its expenses down, the company plans to cut its capital spending in 2014 and 2015 in comparison with the last year. Mosaic plans to make a similar cut. With less money spent on growth projects, the future of these companies becomes more dependent on one variable – the price.
PotashCorp is set to report its fourth quarter earnings on January, 30. Agrium's fourth quarter guidance can give us a peek at what happened in the last three months. Agrium announced that it expects its fourth quarter earnings to be at the bottom of the previously released guidance range of $0.80 to $1.25 per diluted share.
Agrium sites lower than expected domestic potash sales volumes as one of the reasons for this downbeat guidance. For Agrium, potash is not the main source of revenue, as it gets most of its revenue from nitrogen and its growing retail segment. For PotashCorp and Mosaic, weaker domestic sales could lead to a lackluster quarter.
Potash sales were weak in the third quarter, as customers closely followed the results of Uralkali's move. Now, there's more certainty about the short-term landscape of the industry. It is possible that we see a pickup in sales in the first half of 2014, as customers make previously delayed purchases.
The future remains uncertain for potash producers. To get more cash, they need to see improvements on the price front. However, this is unlikely to happen in the short term. Agrium is in a better position, as it is well-diversified and has a growing retail segment.
If the prices remain under pressure for a prolonged period of time, we could see a shift to value-add products from all producers. It's worth noticing that there is always a possibility that Uralkali returns to the joint deal with Belaruskali. This move will certainly push potash prices higher. In addition, PotashCorp's 4.10% yield and Agrium's 3.20% yield are likely to attract income investors, which will support their shares.
All in all, there's a bumpy road ahead for potash producers, but I definitely recommend not betting against them.
Vladimir Zernov 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.