CF Industries Holdings, Inc. (CF) Earnings Call Transcript & Summary

A pleasure for me to host CF Industries here for this next fireside chat. With me up here, I have Bert Frost. He's -- he carries the torch on sales, market development, supply chain for CF. Been there about a dozen years. Previously, he had a long career with ADM running a fertilizer business for them in Europe and South America. Chris Bohn is also up here with me, CFO. Chris was -- had been a manufacturing lead for the company for 5 years, corporate planning for another 5 years before that. So he's currently CFO for CF. Martin Jarosick is also up here. He's been with the company 3 years. Prior to that, he was with Georgia Gulf and Axiall. So he's -- for all your supply-demand questions on chlor-alkali and PVC, Martin's your guy. But this is going to be a deep dive into nitrogen. CF is the global leader in nitrogen, so a lot of moving parts. So we'll kick it off.

And Bert, I'm sure you would be disappointed if I didn't ask you about NOLA urea, but maybe we can start high level. What's your outlook for U.S. nitrogen demand in these next couple of months?

We and me, personally, are bullish. When you look at what's going on globally with the need for feed grains and the -- where corn is positioned and probably there maybe some possible limitations for soybean demand in China and the risk associated with that, we're anticipating a healthy acreage of 94 million acres, and there's some others that are even above that. And so because nitrogen is your only nutrient that has to be applied every year, we're looking at very healthy demand for ammonia, UAN and urea. And where urea is positioned today, in NOLA, we've seen a nice price appreciation. We started the year, tail end of last year, probably around $200, and we steadily progressed up to $250 and a simultaneous decrease in gas costs. So our structural position relative to gas today, $1.75 on Henry Hub and NOLA urea about $250 short ton. We see some upside to that. We're pretty positive for the spring.

And fall ammonia was a little bit underwhelming, at least in parts of the corn belt. Does that shift the mix between ammonia, urea and UAN for this coming season?

So as we had a couple of interesting fall ammonia seasons, there are 2 seasons to apply ammonia, generally November and April, May. In 2018 fall, we had a very good season in Canada, the northern tier and poor in the south. In 2019, we had a poor season in the north and a good one in the south. So where we see some upside to ammonia for the spring, and that depends on weather, timing and moisture, is there's a lot of catch-up that needs to take place up in Canada, North Dakota and Minnesota and then down into northern Iowa. And so we see set up for a good spring. Pricing is in line. And -- but where you would see transition or where you'd see transition between products is if we have an inability to get ammonia, and there'll be a much higher degree demand for urea because more urea is consumed in the northern wheat belt, corn belt and canola than UAN, but we see a very good UAN market for the I states and Nebraska.

As you highlighted, NOLA urea was low at the start of the year. And is there potential that imports for this portion of the year where the U.S. is a net importer of urea could fall short of what will be needed, and the market could get tight?

So we are behind on a monthly basis for the vessels that we're tracking in the volume compared to last year. And last year, we had a late spring, so we were able to catch up and the volume made it in time because we had applications going all the way through June and into July. So every spring is different. If we were to have an early spring, which would start in March or April, I don't know if we would have in position in the Midwest on time and you could see some further price expansion like we saw last year. We saw the NOLA to Midwest spread, which is normally about $30, expanded all the way to $75 to $100, I think you see the potential for something like that.

And how much urea goes up the Mississippi River by barge? And is that dock that's under -- that lock that's under construction and would be a month later than normal to be open? Is that problematic?

I would say it's opportunistic for us because that means northern tier production where we're positioned in Canada and Port Neal, Iowa, where we produce 700,000 tons of Medicine Hat, about 1.4 million tons of -- 2 million-plus tons of our total is in that market. And then we have with Mosaic's acquisition of our Pine Bend facility, we have leased back space there, and that space is presently full. So that part of the market, we feel very positive about. You're still able to barge up to St. Louis and discharge and put it on the rail there and go into -- but that's a structural space timing and asset of railcars that are in position to be able to do that. That was the limitation last year. The volume that was needed to go through there, just couldn't -- they couldn't keep up. So yes, that northern tier and the lateness of those blocks being free to pass, we think will create some opportunities up north.

So you highlighted a recovery in nitrogen prices year-to-date. The share price performance year-to-date is not necessarily the same. Can you comment on what you're hearing that's more bearish about the outlook for CF in spite of this price recovery?

So I'll take some of that and then I think Chris should take the structural things that he's put in place. Market-wise, you're correct, we're seeing a rising market, but there have been some negatives, one of those being the over importation of UAN and then it's a supply-demand imbalance. And so you're seeing with the increased supply and constant demand, a weaker price, and I think that has weighed a little bit on the stock relative to the market. And then you have the virus issues, whether it's ASF in China or this coronavirus. And it's just a fear and the deleveraging or moving out of the material stock, I think, is we've been grouped in that ag/materials position. And -- but I think when you look at where we are dividend-wise and structural-wise, we're well positioned.

Yes, just to build on that. I mean if you look at the last couple of years, we generated over $900 million of free cash flow in each of those years. As Bert has talked about, those were 2 very different ag years. And so coming into this year, I think the expectation is that we continue to deliver, whether there is disruptions that provide advantages for us. So when we look at really where we're trading from a free cash flow sense, it really is hard to understand evaluation, especially given where the steps we've taken, call it, over the last 2 to 3 years with reducing our debt structure to reduce our fixed charges. I think our capital expenditures, we've pretty much put out a sustainable $400 million to $450 million range. And then our controllable costs, bringing those down significantly over the last 2 to 3 years and having all that be sustainable. So when you look at the different years that come, because we're in an import-dependent market, we're going to sell our 19 million to 20 million product tons, right? And given our cost structure being so low, we're going to generate significant amount of free cash flow. Over the past 2 years, we've probably been balanced a little bit more towards taking care of debt, reducing some of that debt to get back to investment grade. But I think as you look at 2020, with the exception of the $250 million remaining out of the 2021 notes, that don't come due until next year, most of it's going to be directed towards anything strategic or to return to shareholders. So little surprised where we're trading right now, just given some of the bullishness that Bert has talked about already and then the structural things we've put in place over the last couple of years.

And can you remind me of your share repo authorization? Is it reasonable for us to assume you're very active right now?

So we have $1 billion share repurchase plan that was put in place last February, approved by the Board. Through the end of the year, we had about 1/3 of that was executed. And so we have about 2/3 left remaining on that, that runs through the end of next year. But I think it's logical to say, with the free cash flow we generate, with the capital structure in place for the large part that we had targeted over time, that a lot of that's going to be directed towards return to shareholders.

And Bert, you mentioned the UAN price pressure with the European anti-dumping tariffs. What's the outlook for that? And with more product coming into -- being imported into the U.S., what's -- how are you handling that? Are you moving more out of the country and where and how you handle that?

So UAN market overall is about 21 million, 22 million global demand market, and that's predominantly 15 million for North America, let's say, 5 million for Europe and the rest of the world, which is South America, a little bit in Australia. We're active in all those markets, but the demand -- or the supply, if you add up all the static supply, it's over 30 million tons. So we have a supply-demand imbalance. The majority of that doesn't run at capacity. So that's how we keep that going. So we were -- in Europe, we were supplying up to 800,000 tons of UAN, mostly to France and Belgium. The EU duties were announced, but fully in place by October. So last year, we continued to export until they were fully implemented. And so what happens in these type of markets where an unnatural act takes place that disrupts that flow, and that disrupted ourselves, Russian production both Acron and EuroChem as well as the Trinidadian production, all of us were sanctioned, we think unfairly so. We think it's a reflection of, again, subsidizing high-cost producers in Europe at the expense of farmers and additional subsidies. So it doesn't make any sense. And quite frankly, we were not at all dumping. We were -- those margins were above what we were sending to the East Coast. However, with that put in place, that disrupted world trade. And so you had -- there's a settling out time just as when any time additional tons come in and haven't found a home or don't have domestic demand. So we've had -- we would probably need 1.5 million to 2 million tons of imports anyway to satisfy North American demand. We've been on pace for 3 million tons, a lot of that coming from Russia and almost all of Trinidadian production. So our position has been we compete every day in the market. We're the lowest cost producer in region as well as Donaldsonville. Today gas stood at $1.75. Our cash costs are very low. So we have moderated production. But because of an economic decision, we have the advantage to move high UAN or high urea, and we've been producing more urea because it's economically advantageous for us. However, all of the UAN that we're producing and selling is full cost positive. And our position is, we should not be as we're producing and selling, and we have the lowest cost production and the highest margin in market, we shouldn't be throttling back production to give support to imports. And so we think that those imports over time will decrease because it's not economically attractive for those suppliers. And we're also working to improve our distribution footprint. There have been areas that weren't as economically attractive as Europe that are now attractive. So we're moving additional tonnage to the coasts and to some underserved areas. So we -- our footprint and our path forward is pretty clear, pretty good, and we're just executing against that. But today, you're right, the values -- normally, UAN is traded at a premium to urea that has slipped to UANs at a discount, and that may continue, I'd say, for a period of time, maybe this year, as those producers choose to make other decisions.

And are you moving more of it down into Brazil? And what's the market opportunity for growth of UAN in Brazil?

Yes, we're excited about that. I spent 8 years in Brazil, living and building out a fertilizer network for ADM that was then sold to Mosaic. And so have a lot of experience and contacts. And there was always a little -- a niche of liquid products, but it was inefficient to bring product in. And what we're able to do is find a method integrating our system with some good partners in Brazil to bring product down and start developing that. We started that 5 years ago from a very small beginning, which was 0 to today at a good level. And for us, this is a longer-term venture. Because in São Paulo, where sugarcane is produced, UAN is a very good fertilizer because they produced a waste product called vinasse. And that vinasse is high in K, and it's effectively a waste product, but when you substream in UAN, you have a fertilizer product that's N and K and they're able to put that down. And that eliminates ammonium nitrate, which they have a high risk of not wanting to move. And so it's a win-win for the country, for the sugarcane producers. It's now we've gone into coffee and some vegetables. So we're seeing almost doubling of growth year-on-year.

And with the Cerrado area of Brazil kind of expanding into more corn, is there an opportunity for it to move into that area?

I don't think so. I think because you're shipping a lot of water, economically, that would be very difficult. And the infrastructure is not in place. The infrastructure has been and is being built. So you go from Santos or Paranaguá to São Paulo and Minas Gerais, those 2 states, and that -- we were down there this past year a year ago. The tanks have been built, new equipments being utilized. I think in those markets, you're going to see more urea and ammonium sulfate and that -- but corn will grow. The thing with Brazil is now yield. So the yield has been substantially differentiated against the United States. And as technology, both feed and fertilization take place, I think that's the next uplift is yield and then protein growth in Mato Grosso and those places.

And are you changing the way you deliver urea into Brazil at all given there's increasing access from the north with the highways to the Amazon?

So a year or 2 ago, we were the first vessel to go through Santarém. And so we have a -- there's a person down there, who I'm good friends with and we did a -- you're right, through Santarém and then reverse flow on the backhaul freight. I do think that's a possibility. It's going to be interesting to see how the growth north of Sorriso takes place. It's growing rapidly, but does the government continue to support that. And the restrictions that are put in place for Amazon development, both from the Bolsonaro government as well as the A, B, C, D groups of buying those beans, that soybean and corn production. And so there is a substantial amount of land available in Brazil that's in pasture, if they move to confined feeding, and we're seeing some of that, that is cost-effective to bring into production. So I think there's more to come, but we do see Brazil as a very healthy growth market for fertilizer. 10 years ago, it was 26 million, 28 million tons, now we think it's going to 40 million tons in a couple of years.

So how about any key demand growth regions anywhere else in the world that you guys are looking at?

For nitrogen?

Right.

You have to remember that nitrogen is an agricultural product as well as an industrial product. So ammonia, nitric acid, urea liquor and which leads to DEF are all industrial applications. And that's a 365 days consumption base, and that's -- a healthy percentage of nitrogen production goes to that. So most of your chemical operators use ammonia as a feedstock, especially in plastics. And so we do see positive growth. And then if -- for those who have been to China or to India or to South America and seen the trucks and the diesel trucks and the volume that is moved of products, if those were to convert to DEF, which we have seen in the United States go from 0 to over 1 -- I'd say, today, 1.2 million tons of urea equivalent, so a brand-new full world-scale plant has been created and consumed in demand just in United States. Europe's already passed that. So if this becomes the world standard, which we think it is for power units, that is a very healthy demand base to build off of. And it's just steady as old equipment falls off, and new equipment is purchased, it's a stair step. Then for ag demand, we've seen a little decrease in China, going from the mid- to low 50s of demand to about 50 million tons, but we've seen healthy growth in India this year as well as I already mentioned, Brazil, and then you have to take the plants that have come offline. So we talked always about expansions of capacity. But when you look at the 3 plants in Brazil that went offline, Pakistan's limited on gas, some other areas that probably should come offline, coupled with new additions because there are plants still slated to come online. We've got a good healthy demand growth and -- but supply growth doesn't keep up. So we have a structural positive market coming.

And Chris, when you talked about capital allocation, they didn't hear you say anything about new greenfield capacity.

Yes. So looking at new greenfield capacity, specifically here in North America, it's pretty difficult even with the appreciation prices that you're seeing right now, and that we've talked about before is really because of the construction cost. So even with gas that Bert mentioned at $1.75 per MMBtu, for every about $250 million of overrun in capital, we're higher than maybe what your estimate is, that's about $1 worth of -- per MMBtu. So if you think about it, in the U.S. to build a plant, ammonia, urea, greenfield, last one that was built was about $3.3 billion to $3.5 billion here in North America. You can probably build that same plant for $1 billion cheaper, someplace else in the world due to labor cost. So as a result of that, if you think about it, $1 for every $250 million of capital, you would have to effective have gas for [indiscernible] in order to be competitive from somewhere else in the world. So as far as greenfields in North America, I'm a little bit skeptical. There's been a few announced recently, one of which is really looking at monetizing someone's hydrogen stream and getting some sort of return on that rather than really building an ammonia plant. And on that one, I even would question the offtake agreement where you would have to have ammonia pricing be, which is significantly higher where it is today in order for that to make economic sense. But understand why the one partner wants to be in it, but not certain about the others. So I think as we look out at the landscape around the world, where we would see greenfield, it's in -- primarily in those areas that have low gas and low construction costs. So North Africa, Russia, those types of areas. The expectation is new builds will go in there. And that's something that Bert's team along with some members of my team continually match. The benefit of this particular industry, it takes 4 to 5 years to build new supply. So you have a very good indication when that supply is scheduled to come on, and you can match that versus demand. And that's why what Bert said, as we sort of forecast that out over the next 4 or 5 years, you do see a tightening of the S&D balance, which should provide support for pricing along the way.

So what new supply is coming that concerns you? Your comment there that a round of new supply is at least a few years off. But what's under construction that concerns you?