How the seed was planted for the Potash-Agrium merger

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The seed that sprouted into the world's biggest fertilizer company was planted a year ago, when a CEO who had trouble making a big deal sat down with a friendly rival to talk about a small deal.

In October, 2015, Potash Corp. of Saskatchewan Inc. chief executive officer Jochen Tilk decided to abandon a hostile $8.7-billion (U.S.) takeover of K+S Group after the German company's executives refused to engage in talks and commodity prices slumped. However, Mr. Tilk remained focused on building a larger, more efficient business. That mindset set the tone for a conversation last fall with Agrium Inc. CEO Chuck Magro, a familiar face courtesy of the two companies' long-standing involvement in potash marketing consortium Canpotex Ltd.

Mr. Magro came calling last year with a problem: He wanted to scale up the smallest of Agrium's three major product lines, mining phosphate for fertilizer. Globally, the company's production capacity ranked ninth in an industry where producers strive to be in the top three.

Agrium's operation consists of two phosphate refineries, in Alberta and Idaho. Potash had a larger business, with seven U.S. phosphate facilities strung across the Midwest farm belt and Southeast. It's the world's fourth-largest producer. Mr. Magro asked if there was any interest in combining the two operations, which would create the No. 3 player.

Mr. Tilk's response was to kick off a larger conversation about business strategy. In an interview yesterday, the Potash CEO said he strives to consistently create value in a boom-and-bust industry by being the lowest-cost global producer of commodities, "not just sitting back and letting markets dictate your results."

The first date, a chat about phosphates, turned into a second date, a meeting on the two company's nitrogen fertilizer businesses. Potash also ranked fourth in this sector, Agrium ranked No. 6. Together, they would be No. 3. Potash was already the world's largest miner of its namesake commodity, while Agrium ranks a distant eighth in potash production.

The fit in commodity production led to a third date, a conversation on how to best sell crop nutrients. Agrium has built a massive retail network to get fertilizer to farmers; Potash doesn't own stores. Transportation costs are a major issue for producers of a heavy, low-cost commodity that's moved by rail, truck or ship. These costs can be slashed if fertilizer from Potash mines went straight to Agrium outlets.

In recent months, the two CEOs realized their companies could merge and achieve savings of up to $500-million a year on combined revenues of $20.6-billion, without dominating any one sector to a degree that would attract unwanted attention from competition watchdogs. What began as a chat about phosphate mining turned into a decision to go all the way, with what the advisers called "Project Champion," a full merger that creates a leading global commodity company.

While this $36-billion union is driven by growth potential and synergies – cost savings alone are expected to add $5-billion to the combined market capitalization – the two CEOs recognized that being mid-tier Canadian companies made them targets, while being the largest and best-financed player in the sector would provide an enormous competitive advantage.

These executives watched Canadian mining icons Alcan, Inco and Falconbridge get snapped up by foreign buyers, and the world's largest miner, BHP Billiton Inc., took an unsuccessful run at Potash in 2010. This merger is playing out against a bigger-is-better trend in the agriculture and chemical sectors, as E.I. du Pont de Nemours & Co. and Dow Chemical Co. are in the midst of a $69-billion union, Germany's Bayer AG is bidding $55-billion for Monsanto Co. and China National Chemical Corp. is buying Swiss seeds maker Syngenta AG for $43-billion.

Merger talks survived a media leak in late August that forced Potash and Agrium to confirm talks before their plans were set. Among the final details to be negotiated were what investment bankers call the "social issues," or who does what at the combined companies.

That final step required a sacrifice from Mr. Tilk, who landed the CEO job at Potash just two years ago. If this merger is approved, Mr. Magro will be CEO of the combined companies, while Mr. Tilk will serve as executive chairman, with responsibility for the company's strategy. Sources close to the companies say Mr. Tilk was quick to set ego aside to get the merger done.

That attitude turned Mr. Magro's initial call last year on a small phosphate deal into a transformational merger that creates a champion among commodity companies.