Continued from Part 1
Planned capacity increase
As a result of increased profitability due to a natural gas boom in the United States since 2008, several natural gas producers are planning to add capacity over the next few years. According to CF Industries Holdings, Inc. (CF)’s recent investor day presentation, existing and some new entrant producers currently plan to add nearly 6 million tons of new ammonia capacity within the next five years. Most of the additions will come online during 2016 and 2017, however.
Proposed capacity increase
Proposals also announced further capacity increase of 7 to 8 million tons. If these plans also go through, these capacity additions will negatively affect nitrogenous fertilizer producers such as CF Industries Holdings, Inc. (CF), Agrium, Inc. (AGU), Potash Corp. (POT) and Terra Nitrogen Company LP (TNH), as well as the Market Vectors Agribusiness ETF (MOO) because they may mean lower profits for fertilizer producers as competition mounts due to lower capacity utilization rate.
Actual capacity increase differs from projected figure
Thankfully, not all plans go through. History has shown that approximately 50% of planned capacity increase, based on Fertecon’s projections, were realized over the past five years. This trend is positive, as it will reduce the growth in capacity, which reduces the risk of potential product price declines that may follow lower capacity utilization rates. Agrium, Inc. (AGU)’s recent decision to suspend engineering work on the $3 million project, listed as TBD/Under Study in the proposed capacity increase table above, is one such example. While its Redwater project will have less significance, it also suspended this project.
Effect on share prices
On the day it announced the suspension, shares of Agrium, Inc. (AGU) fell, while those of CF Industries Holdings, Inc. (CF) rose. This occurred because the share price of a company is a function of future expected earnings. As Agrium, Inc. (AGU) decided to pull back from new capacity additions, the market saw that Agrium, Inc. (AGU) will earn less than it would have—even though the suspension may support the sales price of nitrogenous fertilizers, which in turn supports earnings. On the other hand, CF Industries Holdings, Inc. (CF), which has not made changes to its plan, rose because fewer capacity additions will support industry competition and the company’s earnings. This would also positively support Terra Nitrogen Company, LP (TNH) and Potash Corp. (POT), as well as the Market Vectors Agribusiness ETF (MOO).
Learn more about capacity
So where might the capacity utilization rate be? Continue to Why Agrium Inc. suspending capacity addition will affect other producers (Part 3), which will follow later today.
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