Commodities
A Fertile Play from Norway
 By Vasu Vijayraghavan
RealMoney contributor
3/6/2008 7:59 AM EST
URL: http://www.thestreet.com/p/rmoney/commodities/10406266.html

Here in Paris, springtime is just around the corner ... which makes it a fine time to think about fertilizer companies. I'm a big fan of 100-year-old Norwegian fertilizer company Yara International (YARIY.PK). The company was the first industrial producer of nitrogen fertilizer.

This $16 billion vertically integrated company is reaping the benefits of the sustained increase in the price of agricultural commodities. As the following chart of World Bank data shows, agricultural feedstock prices have recently increased faster than other raw material prices.

Raw Materials vs. Beverages and Food
Source: www.worldbank.org

Upstream and Downstream

Sales of Yara's upstream products such as ammonia and finished fertilizer production rose by 10% in 2007. This segment, which accounted for 32% of sales, also supplies raw materials that underpin 50% of its downstream products such as nitrate, phosphate-based fertilizer products and urea. (Urea is an organic chemical compound waste product which is extensively used in fertilizer and animal feed additives, recently surpassing nitrate-based fertilizers in popularity). Yara uses the ammonia for its own fertilizer production, as well as selling this product independently to other fertilizer companies.

Demand for downstream products rose a healthy 20% last year. The segment, which accounts for 56% of sales, generated 55% EBITDA growth in 2007, driven by volume growth and price increases.

Yara's industrial chemicals division, which accounts for 12% of sales, produces medical gases, dry ice, helium and polymers for industrial applications such as refrigerated transport, environmental solutions, oil recovery, water, wastewater and sludge treatment. This segment boosted EBITDA an impressive 132% in 2007, thanks in part to an acquisition of a Finnish phosphate miner. The deal also helped secure one of the key raw materials in Yara's fertilizer production.

German chemicals conglomerate BASF A.G (BASFY.PK), is the only major competitor in terms of breadth of products. It should be noted that Yara trades on the Pink Sheets, and only 6,386 shares of the ADRs trade hands every day, raising the investment risk considerably, despite its large-cap status, and rendering the stock too illiquid for many investors.

Input costs are a concern for a fertilizer company, but Yara's access to low cost natural gas in the Middle East allows the company to stabilize the cost of its energy inputs. Ammonia is necessary for the production of urea, which is then processed into urea-based fertilizer. Phosphate rock, to which Yara will have greater access due to the Finnish acquisition, is one of the essential ingredients in calcium nitrate and ammonium nitrate-based fertilizer.

Moreover, the company has just entered into a joint venture with the Libyan Investment Authority to develop fertilizer and industrial products in that country; no doubt an important consideration for Yara was having preferential access to that country's substantial oil reserves.

Yara is directing most of its capital expenditures to upstream activities. This segment has the lowest EBITDA growth and the greatest cyclicality. Despite the growing presence of China as an urea exporter, which serves to cushion urea prices, a smaller player such as Yara will need to secure supplies in ammonia and phosphate production (from its upstream activity), in recognition of considerable volatility in the supply of these materials.

Yara Metrics
Downstream depreciation growth -3%
Industrial depreciation growth 4%
Upstream depreciation growth 17%
Downstream investment growth -60%
Industrial investment growth 133%
Upstream investment growth 332%

As seen in the following graph, Yara's shares have surged in recent years. That's likely due to the 49% jump in profits last year. The stock sports a 1.3% dividend yield, and trades at a comparatively rich 41.5 times free cash flow (compared to 37.2 for the peer group), I consider it a sweet buy, without any hesitation.

Yara International
Source: http:// finance.yahoo.com

Yara's support seems to be $30, but I see the six month appreciation potential to around $70 -- or higher. On the negative side, the company has also increased its net indebtedness by 67%, and reports a fairly high debt-to-capitalization ratio of 43%.

Vasu Vijayraghavan holds a long position in Yara. She was an academic finance professor at the University of Paris who has now turned to a new career as a financial consultant. As an academic, she wrote on corporate governance issues, especially in the European context, and she believes in a long-run and balance sheet approach to stock picking.

Currently, Vasu is working as a consultant for lawyers, doing business valuation. She is a Level II CFA candidate and enjoys writing long/short and earnings calls pieces for TheStreet.Com.

Vasu holds a Ph.D. from the University of Michigan and a B.A. from Harvard University.