Friday, July 31, 2009

Compass Minerals (NYSE:CMP): Upgraded to Overweight at JP Morgan

Compass Minerals (NYSE:CMP) is upgraded to Overweight from Neutral at JP Morgan with price target raised to $66 (prev. $50).

JP Morgan notes they raised their 2010 EPS forecast for Compass from $5.05 to $5.50 to reflect 8% higher salt prices given that Compass has now completed 80% of its salt tenders for the winter season. 2010 EPS model should prove conservative because it assumes (5%) lower salt volume despite Compass expanding its capacity about 7% to displace high-priced imported salt tonnage. Firm's earnings model in effect reflects a warm winter. They also assume 2010 Sulfate of Potash (SOP) prices of $500 per ton, about a $65 premium to a conservative MOP price, which could understate 2010 EPS power by $0.50. (SOP tends to sell at a $100-$150 premium to MOP. Each $100 per ton price change in SOP prices is worth about $0.75 per share in EPS.) Compass currently trades at 9.2x year-ahead EPS and 5.9x EBITDA. The company’s average free cash flow yield in the 2009-2010 period should be about 8%. JP Morgan's 2010 price target is $66 or a 12x multiple of EPS representing 30% appreciation potential over the coming year.

The investor faces a natural reluctance when contemplating the purchase of Compass Minerals shares because Compass has two businesses with perennial uncertainties. Winters may be warm or snowy, which materially affects volumes and profits of its core salt business. Secondly, the price of potash is and has been volatile, which weighs on the profits of its Specialty Potash segment. Yet there are moments of valuation when these uncertainties matter less.

The Specialty Potash segment is sufficiently depressed from a volume standpoint and its earnings are unrepresentatively low such that we believe an investor is partly shielded from negative volatility in salt volumes from a valuation standpoint. Should the winter season be normal and potash premiums truer to history, the company is capable of earning in excess of firm's current estimates (above $6.00 versus JPM $5.50 estimate). They think that the company would earn in the vicinity of $4.00 per share should potash prices or volumes prove exceptionally poor and the company faces an unseasonably warm winter. Firm thinks that a 12x multiple of depressed EPS is where the valuation would settle out.

Compass Minerals has been a poor performer in 2010. Investors are in search of cyclicality and have become warier of agriculture. Compass shares have underperformed the market by about 23% year to date and underperformed such bellwethers as Potash Corp and Mosaic by 46% and 43%, respectively. JP Morgan thinks this level of underperformance provides a reasonable entry point into these good-quality shares.

Notablecalls: The call makes sense and coming from JP Morgan, I think will move the stock. The eternal question of course remains - how much? One thing to me is quite clear - one should not pay up too much pre market. I think (depending on GDP data to be released soon), one can get decent fills around the open.

JPM makes a good case for CMP and the buyers will line up accordingly.

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