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

Our next presentation will be a fireside chat with CF Industries, a leading nitrogen producer, which has been generating a lot of free cash for some time. So please welcome Chris Bohn, the CFO; Bert Frost, who's the Senior VP of Sales, Market Development and Supply Chain, a mouthful there. And we also may hear from Martin Jarosick, who heads the Investor Relations team. So thanks, everyone, for joining us. Welcome to the Virtual Farm to Market. Appreciate your time with us today.

Why don't we start off in the current dynamic? Last year was a crazy spring and very challenging spring, a lot of bad seasons in a row here. This has now been good spring, an early spring, oh, and a global pandemic. Maybe talk about the dynamic playing out this spring and how you've been navigating it?

So good question. We say many times that all springs are different, and everyone needs to be approached, independent of the past. We have our structural systems where we're going to put product in place. We're going to produce it. We're going to ship it out. But that shipment schedule, depending on truck, rail, pipe, barge and vessel options vary between months and periods. So last year, you're right. Crazy. It was so late. Applications were late. You can see by the planting process at 70%, where planting has accelerated compared to previous years. However, this cold wet front that's been hovering over the United States regarding growth in the United States and what's going to happen with the growth of the crop is still in question. Because I've driven and spent time in different parts of the Midwest, that's being expressed. What we saw, what we did as a company, what we looked at early on during this potential pandemic, and I'm talking about February. January is probably too early, but February, the steps that we took as a company to position CF well have played off very well for us in that we worked with our customers. We opened up contracts early. We -- our biggest worry was not our own production capability nor the market pricing of the product, but the fear of that one thing we couldn't control, which was -- which were the logistical moves. Fearing that, that segment might have some issue, we worked very well with our transportation providers, the barge companies, the trucking company, rails, they've done a phenomenal job as well as our team really working in sync to make sure that all those components were in place. And then you saw an early application, like you said, take place in margin really into April. And so for us, we're positioned very well. Inventories are in check. Gas prices are low. We've moved our product out. It's starting to go to ground. What we're seeing now is a delay in the start of the UAN and probably the side-dress ammonia markets. But we're very pleased to have a more normal ammonia type season, which moves that product through our system, opens up space for the back half of the year because the ammonia does sit with us. So this spring, I would say, all being -- all the things we've had to confront around this pandemic, around economics, where -- I like where we are.

And gentlemen listening on the Webex platform, please submit your questions to the Q&A. I'd love to ask them for you to be interactive. So Bert, last week on the Q1 call I did with you and the other C levels, I made a joke when I said, Bert, have you been smart or lucky this year? The Midwest premiums you guys are achieving -- the premiums are achieving really strong versus benchmarks. Talk about what you've been able to do to really achieve strong premiums so far and even last year, too?

That's the, I guess, the secret sauce and how we spend our time and so it starts with your customers. We have some great customers. We work very well with them, but we set these up over long term. Some of our customers have been with us for decades. And so we sit down, we have plans in place. We have different pricing components. And so we have that industrial book. We have the ag book. We have the export book, and we have our own inventory space that we like to leverage. So when we look at the opportunities, we obviously want those price premiums in the Midwest market, that's where we're buying the cheapest gas and where we achieve the highest prices, sometimes in the world. So it's the combination of all of that and then the planning of when we sell our product and at what price. And we're not shy that we want to achieve the maximum price level for our company. And we pursue those individual components that give us flexibility and leverage as we go into the market. So the price premiums that we saw compared to some of the other public companies that presented their numbers were and always have been positive. And I think we have more leverage points, again, utilizing our own storage and having fantastic logistical contracts and that's the position that we're in. And we think that's going to carry through Q2, and you'll see even, I think, better positions when our Q2 numbers come out.

And have you seen a push to more just-in-time by the growers? I mean how has that changed things? And how have you handled that?

So growers are an interesting group. We don't actually sell to farmers directly, but we deal with everybody who does. And with the speed of the equipment that's come out over the last several years from the equipment makers, Deere and Case and those folks, you can do -- your field work so quickly, you're planting so quickly and yes, a lot of those decisions are made, not necessarily last minute, but when you go to the retailer, they're having to divide out their equipment and schedule their TerraGators or their applicators. And so I think on the retail and wholesale position, they like to have enough inventory to get them through spring applications, but they don't want to have inventory coming out of spring. And so it happens to us and what falls to us is the opportunity to be that last supplier. And that's where we really do shine. Back to your first question on netback analysis, that's where we like to position ourselves to have those tons at a proper value, and that's how we move, I think, a good part of our tons through the system.

And also we saw UAN get really cheap relative urea for the last little while. What's your expectation for that to revert to more normalized ratios? And how are you positioning yourself in a mix perspective of urea versus UAN and ammonia.

So we have different components available to the company that we talk about in terms of production rates, what product we're producing, at what rate and when. So in the past, you've seen us a year or 2 ago, annualized rate of 7 million to 7.2 million tons of UAN. This year, and you can see in our numbers, we're moderating down towards like a 6.5 million tons. Why? That's a reflection of the repatriation of the UAN tons that we send to the EU, which we are no longer participating in that market. And so we've modulated our production to increase to a higher level urea, DEF, nitric gas and ammonia. And so when you look at the premium spread, the historical premium spread of UAN to urea UAN, we consider a specialty product, and it has traded as an advantage. During this time of our own as well as Trinidadian and Russian tons being focused on the United States, it's just a classic supply and demand imbalance. Too much supply, demand is fairly stable to growing, but not to the degree that has been pushed into this than to the North American market. And when you probably need 1.5 million tons of UAN and 2.5 million tons are imported, that comes at a negative price. And we're seeing some retreating from some Russian producers but that needs to be the higher level, and that will come at price. And we believe the lowest cost producer in the world with great gas positions and good logistics to end market, total netback -- best-positioned netback in the world, we could compete. And so that's where we are today. And we hope to see UAN values move back into a premium over urea, but I think that will take some time.

I mean how have you pivoted really following the European UAN duties changes -- duty changes?

So we saw this coming, and we made some steps working with the Board on some approvals for projects as well as working with our plants. Chris used to run that group and working day-to-day, hand-in-hand on things that we can do to improve our position. So we started working on what -- looking at holistically what markets are we economically attracted to, and those would be -- and you see us move more tons into the eastern market through Cincinnati as we barge up the Ohio River, we have been terminaling quite a few tons and moving them then out by truck and rail through Cincinnati. We purchased our own vessel called the Louisiana, where we're able to swiftly move tons on a U.S. flag vessel from Donaldsonville up to East Coast, even as far as Canada. So that's another market. We just opened up our new unit training facility and shipped our first 2 unit trains to California. We used to do that with single cars and vessels. Now we are able to working closely with the railroads to send unit trains at attractive rates and supply that market. And we've converted one of our terminals and may convert others from ammonia to UAN, one in Washington. So we participate in that market. So when you take the United States, we are obviously very well placed up the rivers. And then on the rail lines to the corn country areas of the Midwest, we're now reflecting and moving out to the coasts and leveraging our export capability as well as our domestic capability. And that's how we think we'll play out over time. And then back to your question on netbacks, hopefully, that improves also.

Okay. And Chris, get you into the conversation for sure. Let's talk about capital allocation a little bit here. So are there any expansion or debottlenecking opportunities here? You suspended buybacks for -- over the near term here, but I assume those will come back over time. What -- maybe you can do some small acquisitions. What's the best use of the capital here for CF?

Yes. I think I would start by saying the capital allocation philosophy remains the same. We haven't changed anything because of the current dynamics or what we're expecting going forward. So with that being said, as Tony mentioned last week on the call, we have been building cash. And with the free cash flow generation that the company has, which is just, I think, top of all our peer group, we've been -- have over $500 million on the balance sheet cash. The one thing we continually look at, as Bert mentioned, is just upgrade projects. How can we increase the production flexibility that allows Bert and his team to maximize those netbacks? And a few of those projects we've done in the past and that we're currently doing are like the DEF project, which is roughly a $50 million project, and then a nitric acid and an industrial nitric acid project now done at Donaldsonville that will allow Bert to shift, whether he wants to produce UAN or granular urea or just take that ammonia into nitric acid and put it through the market, all being on a netback base. So we'll continue to look at those particular upgrade projects. Right now, we don't have anything that's a debottleneck that would be a huge capital consumer. So to your point, as you mentioned, as we look at sort of these next few quarters, it's probably being a little more cautious. But if we continue to build the cash at our expectations are, with the free cash flow generation we have, we'll probably enter back into the share repurchase along with doing some of these smaller debottlenecks or upgrades alongside that.

Do you think now -- I mean once you get past social distancing or just where you can try to run a normal cruise, but do you think now is the time to plan for that expansion work because maybe labor costs will be cheap in this environment as we come out of whatever this year is?

Yes. I mean I think any type of large upgrade projects you're doing takes years to put together and to think through from the front-end engineering, design, studies and such. So a lot of those -- there's nothing that's just new coming on to the table that we're looking at, whether it be upgrade projects or other things. So those are -- largely been in the planning motion already. I think the one thing is people are going to be a little bit hesitant about bringing on significant amount of contractors on the sites right now, no differently than we are when it comes to our own capital expenditures and turnarounds. I think where that benefits us considerably is twofold. One, I think we've had a very measured CapEx program. So our utilization rate, as you've seen, has always been 95% to 100%. And that's because of that program. So peers or others that have not put in that sort of ratable CapEx project are going to see more unplanned downtime during this standpoint. And then additionally, with that, I think projects -- we talk that through 2023 and 2024, we believe demand's going to outstrip supply. Well, I think that just gets kicked down the road even more now because both from the fabrication side, where these large vessels in Northern Italy and China, those have been delayed being built or people being back to work in those areas, but, additionally, bringing on a lot of migrant contractors in some of these areas. So you could see that demand outstripping supply, even be kicked out another year, maybe even greater than that just on what we're seeing right now. And that would obviously be advantageous for us.

Over the last several years, CF will go a lot of different kind of deals, Yara,, OCI, all public acquired. What opportunities could make sense here? Like would it make sense to enter into other commodities? Are you a nitrogen pure-play and that's what you are? Do you want to be -- do you want to expand more inside of North America? Where would you have synergies?

Yes. I think where we look at our synergies is really both on the conversion of natural gas into a product. And that's where some of the adjacencies may come into play. And then also just our engineering best practice teams. We believe we have one of the best engineering, chemical engineering teams in our particular industry and where there's close adjacencies you may look at, can I get some synergies from that perspective? I think from a manufacturing side, you can see a lot of different areas where you could get synergies. It's more a go-to-market. Does it fit from a go-to-market similar to some of the advantages that Bert and his team gained today? As you're looking within our space, I think you still have one of the issues that we've had over the last several years, and that is assets that we'd be interested in are still valued at probably something that is different than what the market is necessarily suggesting they're worth. And so you need a willing buyer, willing seller in those particular areas. And we're not necessarily looking to overspend to get an asset right here. And then I think there's another group of assets that, albeit may appear cheap when you add in the capital expenditures, you would have to do to get those up to sort of what I'd call CF standards. That just is another way of increasing the acquisition cost or price. And therefore, those aren't really something that are economically attainable or desirable on our standpoint.

Okay. If I put all together, really, the expectation should be in, it's not that different, I think, from the past bunch of years that every dollar of excess free cash flow should basically go to buybacks. I mean you got to do some debt repayment, a lot of it last year for certain goals, but how is that now? Is it all about buybacks right now? Or are you comfortable with your debt level?

Yes. I mean, I think once we remove the $250 million, that doesn't come due until next December. And I don't think we're necessarily in a rush to get that paid. But we are going to be earmarking funds for that. But after that, we continue to look at organic and inorganic growth. But absent that, yes, I think we'll return to the share repurchase now. That would be in a sense of being cautious, maybe over this near-term given some of the macro environment uncertainties that exist.

So if you're going to hold $250 million for that payment later next year and how much minimum cash do you want to hold to run the business?

Yes. I think when we look at what's our minimum liquidity that we feel comfortable with, it's anything over $1 billion of liquidity. So with over $500 million today and an undrawn revolver of $750 million, we have about $1.3 billion worth of liquidity on the balance sheet, more than enough, we feel, to navigate any type of environment, but definitely, the environment in which we're in, where we're generating substantial free cash flow. As we talked about before, from where we were when we had the high debt level to where we are today, both from industry fundamentals and also just the company itself, we're in drastically different places. Our cost structure is lower due to lower natural gas and also the steps we've taken to reduce fixed cost by about $200 million. Our controllable cost per ton, as I mentioned on the call, were down 10% and year-over-year on the quarters. So something that we continue to focus on is our cost containment and also just really generating as much free cash flow as we can. So I'd say anything over $1 billion, we feel comfortable with from a liquidity standpoint.

Gentlemen, you haven't really hedged any gap, I think, for years. If the forward curve was to come down and be kind of below $2, would now be the time to hedge again?

Depends on how you look at -- again, the opportunity and where we are, and is it front month, is it winter, is it 2021, 2022. We've talked about all the changes that are going to be taking place in the gas market with possibly laying down these rigs. Lower production may well happen, but we're still above 90 Bcf a day. That -- and then we're looking at consumption today, which industrial consumption has not rebounded, and residential and commercial consumption has not rebounded. That eventually will, we hope, because that means good economic activity and then good spending and movement activity, all good for us. However, that's not the case right now. So you're encouraged to be in the spot market and maybe front month booking. But getting too far out there, winter, and I'm talking about [ DCM ] said, it's still trading around $3. Well, that's $1.30 over where we are today. I don't think winter would ever be down in the $1.60, $1.70 range. But if they were, we would want to take advantage of that. So I think right now, what we're saying to ourselves is that these are good numbers. These are attractive today. The market's not paying us to be -- why would you hedge where the stock is right now? We're looking at the cost of gas as we want it as low as possible, and we want our product prices to be as high as possible. And that then creates the cash, which then can do the stock buybacks or other activities that you just talked about. So if there were a number in the winter, we would probably hedge or collar or swap or do something around that, but that has to get lower than where it is today.

Bert, I think you turned your camera off just as you were starting to speak out last time. Okay. Let me talk a bit more about the macro. So it's been a great first half year, big acres. The clouds are rolling in maybe. You've got, no surprise, USDA falling for well over 3 billion-bushel corn carryover in 2021 year, and there's no demand, all at home, no one's driving anywhere. What's the concern about how bearish this could get into the fall, into the 2021 set up big acre reduction? How are you going to handle that?

Yes. I don't know why my camera went off. But on the big acreage, so what we're talking about right now is what we're looking at for a corn farmer, we're going to see a very good year in -- for demand in 2020. A lot of -- in terms of your wheat, corn, rice, cotton, all are -- gotten a little off. But all are -- when you put them all together, structurally positive. And I think you're going to see applications for focus on yield, which are positive for us. As you roll into 2021 and the future years, how we look at the drive for nitrogen consumption, which is basically corn, it's going to be a protein and ethanol-driven market. We do not see WTI staying in the $24 range. There's just no way. As you approach the $40 level and if corn stays below $4, that will become attractive again. And then protein, you just can't continue with these plants shut down and crushing that industry. That will come back.

Fair enough. Okay. And what is -- what if we're in a prolonged $3 corn environment? How would that change your business?

Just -- so a prolonged environment of $2 corn, there's…

No. $3. $3. On $3. $3. I'm not crazy. Come on. $3.

For sure, the cash rent change, the value of cash rent today has to come off. When you roll up all the costs of a farmer and you look at fertilizer, diesel, seed, chemicals, equipment, you'll see a lower spending level. Those who own their own land are cash positive even at getting close to the $3 level. Then you throw on top of that insurance payments, government payments, things like that, they are -- it's not the most attractive as it has been in the past, but it's something that you can continue to do what you're doing, paying your bills, and going for next year. However, the cash renter, if you're 100%, you're underwater. If you're 50-50, you're getting close. And so cash rents are going to have to go down. And -- or we're going to have to see a price change in corn because there's no safe havens. You're not going to go to beans. You're not going to go to wheat. And I do think people will still produce. We need a demand-driven market, and that will be better.

Bert, I think some years ago, and I may have it off, so I apologize if I'm wrong, you were tasked for trying to find some operational improvements in the business, any way you can save costs, adjust to be anything. Maybe talk about what are the different things you found? Were you able to execute? Are there still some projects on the go?

So we look at, again, what we can do as a company. It is always looking at for those opportunities. So it's a constant analysis of production, production rates, production optionality, inventory, logistical moves, logistical differences. Is truck compared to rail? Is barge compared to rail? And those things will always be looked at. So in the production side of our mix, yes, you've seen this add DEF and ramp that up very fast. You're seeing -- we're talking about nitric acid and the value that we can bring to the nitric acid market. And we've got -- we're the largest nitric acid producer. So we can make industrial-grade product. We're going to be making that. And different components, and then it's the mix between that. You've seen us go from a very small industrial AN producer to a very large producer and ramp down our ag component. So we are always looking at things that we can do and how can we maximize the upgradable ton and exporting ammonia today is not that attractive. So that ammonia ton needs to be moved into the industrial market, the ag market or upgraded and improved.

Just turning the focus, Chris. You gave some guidance last year. So your guidance last week of EBITDA of this year, maybe being close to 2018 levels, to think of about $1.4 million, something like that EBITDA, maybe a little bit higher than that. You had talked about a few months ago that even that EBITDA was down about $100 million this year, you could probably get similar free cash flow as 2019. Now that you're a little bit lower on the 2020 outlook, can you still hold the same free cash flow outlook? Or will it be a little bit lower than maybe what you were thinking 3 months ago?

I mean I think a lot of it is going to be based on what's going to happen in the second half of the year. But obviously, we're off to a very good start with our Q1 performance. And also, the free cash flow we generated in Q1 with our last 12 months being over $900 million. I think as you look at the remaining part of the year, some of the things that Bert was addressing here with how he's looking to flex it with netbacks and also maybe the customer base being a little bit more just-in-time really plays to our network strength, where we can get some premiums in those additional rents on our network for that. Looking at other cost things that we're doing, as I mentioned on the call, both from an SG&A standpoint, we're looking to be about $25 million less on SG&A year-over-year. And that's just if you take the first quarter and run rate with that. And I think all of us are aware that there's probably some lower travel that we didn't have here in Q2 that we had in Q1 and other professional services. So I think what we're going to see is, both from an [ ag ] side and also a controllable cost per ton side that some of those differentials on free cash flow are going to be made up by maybe less spending in those particular areas. So I still feel pretty confident that we're going to have the significant free cash flow in those particular years that we talked about based on where our performance is right now. Now as Tony said, still early in the year, a long way to play with the back half of the year. But what we're seeing right now, we still feel very confident about.

Maybe we can talk about a few different trends that have been going on in the last few years and see how that might affect your business. So first thing, maybe we could talk about is digital ag, precision ag. Bert already talked about how the faster equipments, more miles per hour, a little bit more miles per hour has changed the business. We've seen players like Monsanto royalties, data science tools a decade ago expecting to save the grower a huge amount of pounds of acre per nitrogen, saving the money and hopefully get farmers pay for the tool. Farmers aren't paying for the tools or are paying very little. So what have you seen from some of the promises of digital ag and data science? Are they helping growers save on the nitrogen fertilizer budgets? Or is it just the same pounds per acre? They're just spreading it more smartly across their plots.

So farmers are smart folks. They're economically driven. Majority of the people today, especially at a certain age group are college educated, they're agronomically trained. They're good at what they do. And they focus -- they've learned on -- these application periods have been shrunk and optimally used, whether it's soil temperatures or application rates. And so it's not just a nitrogen discussion. If you're looking at today, and fertilizer prices are at 10-year lows, it's an economic advantage to the farmer, this total corn farmer in the Midwest I-state, it's about $100 a per acre total cost for fertilizer, NP&K and any micronutrient. That's very attractive. If you're figuring 200 bushels an acre, $3 plus, let's say, $3.50 corn, you're talking about plus $700 revenue per acre. So the fertilizer cost is not that big. And so reducing the one nutrient, nitrogen, that gives you yield doesn't make sense. However, with precision ag, we've talked about that quite a bit, there has been a lot of good work done and a lot of good work absorbed in the farming community on different application rates at different times that we're seeing overall, in, at or up. I think there are things still to come with the pivot bios and the micro-organisms. That's still on the come. They haven't proven and that hasn't been as well received or as embraced yet and because it's not approved yet. And so can they, with these micro-organisms at a cost, be less than what their current mix gives them? That's still in question. And the last point, you're right. Everybody has their app, everybody has their tool, whether you're a nutrient supplier, a retailer, a chemical supplier or even John Deere. And you're right. The farmer said, "I've got 15 options here." And this is direct conversations with many of our farmer friends. I've got -- I just used 15 as an example. How do I choose the right one? Do I go to company X, Y or Z? Do I only use that? Do I use a mix of them? And it's a little bit overwhelming because everybody thinks they have the digital solution. So we're trying to work with that group of people to be a part of that equation, to be a solutions provider, but not to come out independently with our own data analysis that cost us money to produce and doesn't give us any value for our shareholders. So that's something, I think, that still needs to come together in our industry and how that will be -- how that will play out.

Bert, if you think of biologicals have a bit of a future here, and it is totally something that CF doesn't do anything, is that a business you could maybe get into? It's a totally different business. It's a totally different business. Is that just alien to CF?

So again, a lot of research dollars and time. Some of the research that's being done is not true research, as we would call it. It's paid for by the supplier. And so that still has to be proved out is that, are you paying a farmer to get your result and then publish it? Or are you actually getting that result because of what the farmer's doing and utilizing the product in the way that he will? That's still to be determined and still to find out is this an embraced -- a new embraced product or market for the farmer. Is that something we look -- we look at a lot of different things. We look -- we talk to a lot of different people. We're always looking at our business to how we can make it better, how we can improve our position and how we can grow working with the Board on different discussions. So whether it's this, that or the other, we're going to look at things and make the best decision for our shareholders.

And another trend that you've seen, a slow rise of some more e-commerce platforms or crop inputs. CF doesn't touch the grower directly. Would it make sense for you to get involved with a partner, with an e-commerce player, sell some of your products through them? They'd send you the order and you'd fulfill it? What would have to happen for that to be attractive to you?

Well, it has to be something that's attractive to the company that creates value for us in the form of increased revenue or increased margin. And at this point, what we see from those platforms are they're fantastic for buying your seeds and your chemicals and receiving your pallets and having them at your farm at your disposal. Until a farmer has inventory space that he can fill and he will purchase independently for us to go on and have that fulfilled, we work with our channel partners, which is the retail sector, which is very well entrenched. I grew up in an ag community. The retail provider there, our farm is in a place in Colorado supplied by a CHS facility. We, as a family, would view them as a key supplier. But you have Nutrien. You have WinField. You have all kinds of very, very good, big and independent players. Why would we go around them and not work with them? Because that retail unit provides not only fertilizer, chemical seeds, services, agronomic advice, that is who I think is better placed because you have one that may be in a wheat community, one be in a corn community, one to be in different. So those are things we want to help. And if the world changes, well, of course, we're going to look at that. But that world has not changed yet.

Yes, I would agree. I think it's a look at what the supply chain is and those costs that are associated with that. Right now, one of our lead advantages is how we move bulk product to these particular retailers and work with them through that.

Okay. Chris. Bert. Martin, too, thank you very much for joining us. Enjoy the rest of your day. And thank you.