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

All right. Well, good afternoon. Thank you for everyone joining us today, and especially, thank you to Chris Bohn and Martin Jarosick with CF Industries, a global leader in nitrogen fertilizers in case they're not sure where you are right now. So let's get right into it with Q&A.

So the markets for nitrogen, pretty exciting at the moment. I'm sure every day is exciting for you but certainly to outsiders. And to anybody new to the story, a very exciting time to be looking at CF Industries. So it's always nice to get your view on where we stand. First, of course, maybe just what has surprised you so far this year versus playing out as you expected? And then second, prices do seem to have risen beyond where the cost curve would normally dictate, but what the cost curve reflects are feedstock prices but not necessarily feedstock availability. And so if you can maybe go into where you're seeing the biggest dislocations from a supply perspective, and then obviously, always happy to get your outlook on demand.

Yes. Great. Well, thanks for having us today, Vincent. I think looking at the biggest surprise, you almost have to go back to 2020, where even with COVID, we were seeing pretty strong industry fundamentals. So coming into 2021, we had strong fundamentals that got even stronger by what I would say was the biggest surprise, and that is the tightness on the supply side of the market. So a lot of the turnarounds, ourselves included, that were scheduled during 2020 were shifted into 2021. When you combine that with what happened with weather in January with Asia, where a lot of Asian production went off because of the cold weather there, and then here in North America, specifically Southern part of the U.S. during February, where a number of plants were taken offline due to the cold snap we had there, that you lost basically millions of tons of production during that particular time frame. Additionally, the one thing that we at CF are pretty good about is our preventive maintenance program for those plants globally that didn't have programs in place like that. There's a lot of unplanned outages, some of which we continue to see here in North America. So all that on what we felt was a pretty strong fundamental market already just tightened it all even more from a supply standpoint. And therefore, we have more demand than what supply is right now. And I think as we look at what's happened with some of the India tenders, it's really illustrative of that, where India has gone out, trying to get 1 million tonnes. With supply being so tight, they've had to settle at 0.5 million tonnes. So while they have very strong demand going forward here, they're doing it in smaller tenders, higher prices than what they thought because we're in a demand-driven market given some of that supply tightness. Additionally, on top of that tightness, where we have tightness and an imbalance in the fertilizer market, you're seeing the same thing in the grains. So whether it be corn, soybean, cotton, whatever, you have very tight stocks to use. And you'll hear us talk about we believe this is a multiyear cycle because given that it's all grains, you're not really going to see the makeup of the stocks to use that are very low right now and all those particular crops over one cycle period. So where we're seeing tightness in fertilizer, you're similarly seeing that same tightness in grains. And you have this dual imbalance that's going on right now that I would say that is a bit of a surprise from the standpoint that it's probably going to take multi -- growing cycles in order for us to get through that.

Sorry, go ahead.

No. I was just going to say as far as the cost curve goes, I think that plays right into it as well. While we've seen energy prices move up globally, so we've seen TTF, NBP are at $9 to $10, JKM $12 and Chinese coal, call it, on an equivalent $8 to $9, you've seen the overall cost curve move up. Even with that increase in the cost curve, what we've seen is because there's such a tightness on the supply side, that prices are significantly above that right now. And we're really -- if you look fundamentally, this time of the year, we're beginning to see some softness. If anything, we're continuing to see strength, and it's again really reflective of that tight supply balance. One other comment I would make on the supply curve is while we've seen the slope of the supply curve get much steeper given energy costs move up, additionally, what we've seen is that sort of the marginal producer, that quartile, expand and get flatter because the Europeans being at about $10 per MMBtu cost have all actually now become the marginal producer. So they're in that -- that final ledge of high-cost producer has expanded significantly. So unless pricing stays high, the supply tightness that we're seeing is expected to continue. And that's why I think we're seeing the higher prices right now where generally we would begin to see a reset. So very strong demand. And then additionally, on the demand side, nitrogen is a nondiscretionary product. It's directly linked to yield. So as a farmer, if you're able to get $7 per bushel of corn, you're not going to really go low on what your nitrogen application is and sort of be penny wise and pound foolish. So we're seeing that around the globe as well. And then demand also from a grain standpoint, there are some issues in Brazil with the drought. So you're beginning to see some potential lower output down there that will continue this sort of imbalance that I spoke about.

Perfect. Well, thank you. I threw a lot at you in that opening round. All right. So second, globally, we could debate each individual project for sure. But at the very least, we can say there are a few new plants that appear to be nearing completion. I know getting them actually online and running is a whole separate issue. These investment decisions weren't made 3 months ago at $450 a tonne urea. So as you've seen these projects continue to at least get some funding, how has it maybe reshaped your thoughts about what the investment economics are for nitrogen for CF versus nitrogen in maybe a resource-efficient part of the world and how that maybe affects your longer-term supply-demand outlook?

Yes. So I think for starters, the benefit of this industry is exactly what you said. We can see what's happening with new supply coming on. And it's a pretty long wavelength where you have 4 or 5 years of visibility and can model that in and sort of make a prediction or a forecast as to what the S&D balance is going to look like. These projects that are beginning to come online are actually projects given the supply tightness that are needed right now. And while they were done at economic -- or the FIDs were made at economic conditions much different than where we reside today, I think they're coming on in areas that have low gas costs, whether it's subsidized by the government or whatever, and also low construction costs, something you don't have here in North America. So your economics that you need, let's say, globally in a low gas, low construction cost can put you at south of $300 per tonne urea, where here in North America, you have to be north of [ $300 per tonne ] urea for a long period of time in order to make that type of investment. So I think what our expectations are as we build out our modeling that goes longer than what some of the announcements are that in these low-cost regions, you'll continue to see the monetization of whatever their natural gas or their resources are and building fertilizer plants. But it's basically along the lines of what is the natural growth rate of nitrogen with population growth and the protein story. So there's nothing that we see -- this isn't back to the 2012 time frame where 35 plants were announced in North America, of which just a handful were actually produced because urea pricing was at $500, $600. I think this is very rational. The projects coming on or projects that can afford to come on, the projects being announced are. The only other part I would bring into that equation is we've had a lot of new projects announced in India over the last couple of years, but Indian production has remained flat at 24 million, 25 million production tonnes. And India continually year after year sets records on imports. So I think there is a bit of rationalization that goes on as these new plants come on with some of the very high-cost ones going off. But sometimes people don't work into their models accordingly.

Sure. That makes perfect sense. So if we could drill in just a little bit more detail on UAN. It's been a roller coaster recently. You've made some very pointed remarks that I will let people maybe read what you said. And we'll leave trade cases out of this because, one, they're difficult to predict and I know you can't say much about them. But let's kind of leave that aside. And one thing that has had -- maybe it's just me, but a bit confused is why UAN was ever really being sold at these prices in the first place when you look at where those prices ended up against ammonia and urea. And it might seem like a waste of time. But given the time frame for any potential trade litigation, I think it would be good to get your view on how Russia's supply is structured that has kept UAN relevant at these prices at all.

Yes. So I'll start, and if Martin has anything, he can add along the way. But like you said, with where pricing was going with UAN, it was actually at a discount to urea, which wasn't historically the norm and not all that far away on a per nitrogen equivalent to where ammonia is -- or was, I should say, at that particular time. And a lot of that was fundamentally because of the imports coming in as the U.S., Russia and Trinidad were blocked out of essentially the EU with the tariffs that were put on our exports to the EU. So it left limited areas in the globe where you could send urea. And at that particular time, we began to shift our production flexibility that we talk about to more urea, more DEF and even more ammonia. And as a result of that flexibility, we were able to get some higher margins by doing that, but we still had a lot of UAN to sell and move. With the Russians, particularly with their subsidized gas, they were bringing a lot of their production to the East Coast, where their ability -- because they don't have the Jones Act vessel issue, where it's cheaper to move something from Europe to the East Coast than it is for us from NOLA at Donaldsonville around to the East Coast on a Jones Act vessel. So that would be a whole another discussion point that we can have later. But as a result of that, we started to see a lot of low cost -- because they were blocked out of Europe, a lot of low-cost UAN that was subsidized, we believe, coming towards the U.S. and therefore resulting in oversupply hitting here in the U.S. And that really was a result of their limited opportunities and limited opportunities globally where UAN is used. I don't know if you had anything to add to that.

I think you have covered that one.

Sure. No, perfect. Thank you. All right. Chris, we'll stop trying to get you in trouble with Bert asking all of these [indiscernible] questions. We'll move over to capital allocation. You spoke recently about this, and hopefully, I'm phrasing it correctly. So correct me if I have this a little bit off. But excess cash flow this year, if you want to define it as excess cash flow in this pricing environment, you mentioned you're thinking about holding a bit more of it back to be a little bit more opportunistic with your share repurchases than your more steady state repurchase authorization. But going beyond that, even in the lower nitrogen price environment, you guys just produced consistent cash flows and the balance sheet only keeps improving. So at some point, we're going to have to start asking you a bit more pointedly like what's next for CF Industries. And I wanted to explore a couple of points on that. But first, I'll let you comment on your share repurchase plans.

Well, first of all, thanks for noticing our conversion to free cash flow. I think we're really second to none in generating free cash flow, whether it be from revenue or EBITDA, and being able to build strong free cash flow in all markets really. But particularly now in what we see not only this year but the following year and potentially the following year from that, we are going to be building a substantial amount of free cash flow over that time frame. As we discussed on a lot of the recent earnings calls, our first priority is to get to investment grade. Currently, we have about $10 million of frictional costs that are related to us not being investment grade that would go away. And given the 2023 notes go current next year, it's likely we'll take down a portion of that and really get our balance sheet from where it was close to $6 billion of gross debt and now is currently at $3.75 billion of gross debt down something south of there. But even doing that, we're going to have plenty of free cash flow post that time frame. I think the one thing that we've learned over the years with our share repurchase program that you noted is we're pretty ratable. As we built up cash, we'd give it back almost immediately in a ratable portion. But even when the fundamentals of our company were strong, and I point to 2020, last year, and granted it was a bit of an odd year, but the fundamentals were pretty strong, and we saw our share price drop below $20. And it really didn't support what the cash flow generation to -- off of that and just the volatility that we've had in our shares that don't always link to what's happening in the market. We're going to build a little bit more cash and probably be a little more aggressive when we do see those opportunities to take out more shares over time. So as investors, you can expect that we'll see higher cash balances. But when we do go in post our restructuring of our debt and getting our balance sheet in the right area, probably more significant purchases than the ratable we've done in the past. Outside of that, we've mentioned our new strategy related to green and blue, which we can go into more depth here in a little bit, but our CapEx remains relatively ratable. We're sort of in the $400 million, $450 million of CapEx on an annual basis sort of as a proxy going forward with that, even including some of the recently announced low-carbon projects that we're looking at. So I think outside of that, just like everybody else, we want to grow. We look at a lot of different projects. We would prefer to do that through acquisitions rather than building greenfields, one, because there's no disruption to the S&D balance. Cash flow is relatively immediate rather than waiting like we did when we did our brownfield plants years ago. And so that's an avenue that we continue to look at. I would say one of the issues with that is there's a bit of a bid-to-ask spread that we still continue to see out in the market but look at.

I'm shocked to hear the valuations might have moved up with what we see. But no, I mean, it's a perfect lead in. And we will come back to hydrogen. So I appreciate you leaving me that for later because I want to dedicate time to it. But when we talk about M&A, nobody, I think, has ever disagreed in the past that there's not much you could buy that wouldn't dilute the quality of your asset base, right? But humility is a nice thing, but with how well you run your business and your assets today, there must be some kind of value that you're putting on that and what you could bring to a target asset within nitrogen. So how has that thought process evolved as the balance sheet is giving you more flexibility? Maybe taking the last 6 months out of the equation because I'm sure things have gotten a bit more expensive.

Yes. I think how we look at it is very close to how you said it. We believe we have a lot of core competencies that operate around operational, whether it be from actual manufacturing or our storage and distribution network that we have really globally through our partnerships. And one of the things we look at is what is the synergy value we would get by bringing other assets into our network. And a lot of that comes from, really, if you look at our utilization, our utilization is high 90%. Other North American producers are in the mid-80%. And that 10% delta is really, I believe, due to our network that we have of best practice teams where when one of our plants goes down, you effectively have 150 chemical engineers working on that particular plant with what they've seen historically across, from spare parts that we have across the network to knowledge base that we've learned. So any acquisition we make, we definitely believe we can bring higher utilization, better distribution of the products and probably better procurement as well. But usually, when you're trying to get those utilization rates up, there is a cost to that. When we did the Terra acquisition, we've stuck hundreds of millions of dollars into those plants to get them to what we call the CF standard, both from safety and also utilization. But we work that into the purchase price. So as we're looking at assets, we have an assessment as to what we think we're going to have to put into it, and that gets worked into our financial modeling as we look at it along with the benefits that the synergies bring along there. And listen, there are going to be opportunities, and that's why we want that financial flexibility by having our balance sheet in order. And we're very close to that right now, and we think that provides us different outlooks both on the new strategy and also on our sort of base business today.

Sure. That's perfect. And if I could just pull on that thread just a little bit more. I know what kind of a cultural spiritual departure it would be to ever talk about anything but the nitrogen molecule. But those same kinds of core competencies would theoretically apply outside of nitrogen. And so as you look longer, longer term, how do you feel about moving into a more industrial chemistry where you get a little bit of a different cyclical profile, different end market profile, maybe more geographies to unlock and certainly opportunities for more distressed assets where you can bring a lot of value to the table?

Yes. So I think we do look at adjacencies. Years ago when we were looking at the OCI merger, we were looking at acquiring their methanol business that was part of that. And in the past, we've run a methanol plant as well. So the front end of that is very similar to ammonia, and we believe there is core competence. I think as you expand that to other adjacencies, the one thing -- we do look at different type of adjacencies, but we also understand where our competencies are and where we play in the value chain. And one of the reasons we are able to enjoy such great free cash flow is because we're very realistic about where we play best. And so we're pretty disciplined in what we look at. And when we do make a move, we feel very confident that we're going to be successful in that with high returns to the shareholders. So you're exactly right. We look at a lot of different spaces and look at them the same way I said earlier through what can we bring synergy-wise and what are the additional costs that we'd have and value them based on that.

Sure. And I don't mean to keep stressing this point. It's just -- again, it's a testament to how far the balance sheet has come and the normalized cash generation, it has to go somewhere. So I'm going to ask just one more on that.

Yes.

And it's kind of frightening to think about how long ago this was now, but a little while ago, you had this planned merger or at least in-depth discussions about tying up with Yara. For anybody who's not familiar, Norwegian peer, a little bit of a different product profile, definitely a certain geographic asset base. I thought it might just be worthwhile to go through, maybe reflect on what drove that thought process then and compare it to today and where CF is now and either why or why not a transaction like that makes no sense in 2020.

Yes. So I'll try to keep it more at a higher level rather than commenting on that specific. But during that particular time frame, both Yara and the OCI, there was a tax advantage. Obviously, that existed during that time frame, much of which has been taken care of with the current corporate tax structure right now. So the synergies that related to both those transactions were significant from a tax piece of it. Operationally, it really goes back to those points I made earlier, where both from a logistics where globally where product is flowing, there are synergies that relate to that, and that's something that you continue to look at, and also the actual production footprint where that resides and also the learnings that you have from utilization standards that you get there. At that particular time, Europe was probably a lower-priced gas than where it is today or where it may be just on the strip going forward, definitely on a differential to U.S. as well. But I think we look at those type of transactions almost no differently than how we look at smaller transactions. It's what are the synergies that are there, what are the costs that would be involved to do that and build frictional and real operational costs that exist and what is the benefit for the shareholders.

Sure. Very fair. Thanks for hammering that one. So we do have a couple of questions coming in, and I want to leave a little bit of time for you to just quickly go through hydrogen. I know it's been discussed quite a bit already. But one coming in here, given your dominant U.S. nitrogen footprint, especially in the UAN market, one thing you haven't mentioned is antitrust in terms of future potential acquisitions. How do you think about that? And how do you think the regulators would view the market in terms of domestic versus global?

From -- well, first of all, it's a global market. And that's why when we talk about everything that we look at, it's on a global cost curve because we're an import-dependent market, and its pricing is set by the marginal producer. So the way we view the market and the way the market actually acts is on a global basis, no different than a lot of other commodity products that are going on.

Sure. All right. So let's get to hydrogen with the time we have left. I mean again, you guys have been through it quite a bit already, so I don't want to bore anybody by rehashing all of that. But it would be great since you've made some recent kind of incremental commitments. How are your conversations with this budding industry have kind of progressed? And then second, maybe just walking through what the breakeven is internally for CF to dedicate capacity towards hydrogen or green ammonia versus what you're earning already with just traditional ammonia.

Yes. So I would say since our announcement last October, we have been contacted by a number of companies globally, from small companies to multinationals, about many different segments on the value chain of it, whether it be from end market to sequestration to actual production to technology providers. So we've been very much tied in with that, created a separate group now that actually looks at those particular opportunities going forward. And what I would say is I think the hydrogen economy is still where everyone believes it's going to go. And as a result of that, ammonia is going to have a place in that. And as a result, ammonia supply is going to have to grow over the years. And therefore, that should be good for all industry participants. What I would say is green ammonia from a technology standpoint is probably further away just given the cost structure that's in place for that. Our plant that we're doing, the 20-megawatt plant in Donaldsonville, is giving us a lot of learnings along the way. So when we do get to that sort of tipping point, we believe we'll be ahead of the curve on that. Where we do have a cost advantage, where it's very similar to gray or conventional ammonia, is on the blue ammonia. So if you think of ammonia production today, the syngas that we produce today is already stripped of the CO2. So we have the amine solution systems where we're removing and capturing that. So the only element left is really dehydration and compression, which isn't big capital, and then putting it either into EOR or into Class VI sequestration points. So where we see the market moving CF specifically very quickly is into blue ammonia. And I think blue ammonia from an end market is going to be more an intersection of where we play today with the agricultural. If you're looking at the USDA, look at incentives to get farmers to use lower carbon. That will be beneficial for them. But I think it even goes to ethanol producers as they look at how do they reduce their inputs of carbon for the low carbon fuel standard. So I think that's going to be an area that's going to provide a lot of opportunity sooner rather than later. And then recently, utility firms in Asia have announced -- Japan announced roughly $100 million grant to JERA, one of the large utility providers over there, to do a pilot co-combustion ammonia coal utility plant that, if that begins to pick up the way we think it is, will also be something that's more immediate from an end market standpoint. So a lot of good opportunities going forward with blue ammonia, similar cost structure to what we have with conventional, plays very well from a green ammonia, getting all the learnings so that when that sort of cost curve tips on that, we'll be at the forefront there.

Perfect. Gentlemen, thank you so much. That is all of our time. For everybody who joined us, thank you for participating.

Great. Thank you, Vincent. And thank you, everybody.

Appreciate it.