Monday, September 14, 2009

Potash (NYSE:POT): Downgraded to Hold at Citi

Citigroup is downgrading Potash (NYSE:POT) and Mosaic (NYSE:MOS) to Hold from Buy with POT's target lowered to $98 (prev. $115) and MOS seeing its target lowered to $54 (prev. $62).

Citigroup notes they recently conducted a proprietary farmer survey, talked to several US fertilizer distributors, and attended the Farm Progress Show in Illinois. Based on their discussions it seems that the fall fertilizer application season is likely to be weaker than expected. Firm's earlier thesis that farmers could not skip application indefinitely after taking a “fertilizer holiday” in 2008-09 still stands, but application may be delayed past fall, creating pricing risk in the near-term. This risk is magnified by the Chinese contract delays, debt-laden producers, and weaker farmer economics. As a result, they are moving to the sidelines on fertilizer stocks, although they don't see much downside in shares from current levels.

1. Fall Potash Applications Likely Weaker Than Expected – Growers in the cornbelt could be harvesting the crop 2-4 weeks later than usual, limiting the fall fertilizer application window. Dealer inventories are lean, but distributors the firm talked to weren’t worried about securing product given high producer inventories.

2. Chinese Contract Delays Create Price Risk – It was expected that the Chinese would come to the table after India settled at $460/mt. However the contract has been delayed and the Chinese could dangle the “volume carrot” to extract lower prices, a tactic India used in their contract.

Debt-laden Producers Threaten Oligopoly Pricing – A key tenet of our potash thesis was a strong oligopoly due to limited number of resource owners. However, Russian producer Silvinit showed its willingness to cut price to gain volumes in India, while K+S has added debt based on its acquisition of Morton Salt. In the India contract, Silvinit was able to boost its share of the Indian government contract over 2x (from 400kt in 2008 to 850kt in 2009) by cutting price.

3. Falling Incomes are Keeping Farmers on the Sidelines – Farmer incomes have fallen 38% Y/Y; many cornbelt farmers are losing money with current spot corn at ~$3.15, which makes them hesitant to spend money.

Notablecalls: Not a strong call. To be honest it reads like a 6th grade homework assignment.

Nonetheless I think it will work a bit here. After all, Citi has a pretty decent track record when it comes to Fertilizers.

The whole sector has been trading like sh*t lately, opening strong and fading hard. I suspect that given the market dynamics this one has potential to the downside. One to watch!

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