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The world’s largest fertilizer company is thriving in these unprecedented times. So why doesn’t Nutrien have investors’ respect?

James MacDonald/The Globe and Mail

Farmers in Saskatchewan have been social distancing for over a century, the joke in the agricultural sector goes. Behind the cheap laugh lies an essential truth: A global pandemic isn’t felt much on a crop farm. The work conditions don’t require a lot of human contact compared to other industries and, as another well-worn industry adage goes, “People gotta eat.”

Which is good news for Nutrien Inc., the largest producer of potash—and second largest of nitrogen fertilizer—in the world, with 20,000 employees and a market capitalization approaching $30 billion. It’s also only in its third year of existence. Nutrien was born from the merger on Jan. 1, 2018, of PotashCorp of Saskatchewan and Agrium Inc., each a multibillion-dollar concern with its own long history.

The combined company has largely lived up to its pre-merger promises—if you allow for some factors out of its control. In its 2019 annual report, Nutrien reported US$650 million in cost savings, achieved as a result of integrating its two predecessors (up from the US$500 million projected pre-merger).

The company tallied US$4 billion in EBITDA and paid one of the most generous dividends in the materials sector during what turned out to be a disastrous year for North American growers. The sector was racked by a frosty spring, the U.S.–China trade conflict and African swine fever, which effectively culled the world’s pig herd by a quarter (pigs consume corn, which requires fertilizer). It may not have been the Elysian future the merger’s architects imagined, but the company chugged through disruptions that might have had dire consequences for a smaller producer with only one line of business. And now we have COVID-19.

“We were thinking 2020 was going to be a normalized year. Then COVID hit,” says president and CEO Charles “Chuck” Magro, who personally snapped up nearly half a million dollars in shares amid the March nosedive. The pandemic certainly poses some risk to Nutrien. There’s the potential for an outbreak at one of the company’s mines or manufacturing facilities. The collapse of gasoline demand last spring—since substantially recovered—also boded ill for ethanol, which utilizes corn as a feedstock.

But through two COVID-infected quarters, Nutrien has turned an operating profit. “The structure of this company is really built for this kind of volatility,” Magro says.

Some of the global volatility of 2020 has, oddly, been good news for Nutrien. A contested election in Belarus—the world’s second largest potash producer—led to strikes at other mines and boosted the company’s stock price.

Regardless, Nutrien is built for resilience. What most investors may still not appreciate is the firm isn’t simply a commodity producer. It’s a mining company, yes, but also a manufacturer, a retailer, a financial institution and even a software-as-a-service provider. And this ever more vertically integrated model—instituted through what some describe as a management coup—has brought stability its predecessor PotashCorp never knew and size alone could not deliver.

At the time the merger was first proposed in 2016, the rationale analysts most commonly cited was the ability to influence fertilizer prices through increased market share. John Stephenson of Stephenson & Co. Capital Management told The Globe and Mail that a combined company “would have more negotiating clout and supply discipline.” The deal “will improve market reach and allow the company to optimize its product margins,” wrote Monica Bonar, senior director at Fitch Ratings, in a report.

But history shows that market dominance seldom guarantees price stability in this or other commodities. Highly concentrated markets tend to be at least as volatile as those with a multitude of competitors; the opening or decommissioning of a single mine can upset the balance between supply and demand. De Beers’s strategy of creating shareholder value had less to do with cornering the world’s rough diamond supply—a monopoly that crumbled, in any case—than its marketing genius, convincing couples throughout the developed world that spending thousands of dollars on a rock was a requirement of respectable matrimony.

And sheer market power was not the rationale Magro, then CEO of Agrium, was peddling, either. He spoke of the “industrial logic” of combining a large upstream producer with a downstream retailer. “The beauty about this transaction,” he told The New York Times in 2016, “is the US$500 million in operating synergies that are in our control.”

At least since the Saskatchewan government privatized it in 1989, PotashCorp had been reliant on fickle commodity prices. It saw good times—recall that on the eve of the Great Recession, PotashCorp vied (with BlackBerry and Encana!) for the title of market-cap leader on the Toronto Stock Exchange. Two years later, it was the subject of a US$38.6-billion takeover bid by Australia’s BHP Billiton (now just BHP Group), the world’s largest mining company. China’s Sinochem initiated a rival bid, though it was withdrawn in the face of Canadian political and public opposition. Under pressure from a Saskatchewan government wary of a massive foreign owner, the federal government ultimately nixed the BHP takeover, too.

At its peak, potash was selling for US$800 a tonne, and the former provincial Crown corporation had close to 40% of global market share. Over the next few years, potash prices collapsed to about US$150 a tonne, as rival producers increased capacity and demand moderated. Meanwhile, restraints on European supply lifted with the break-up of a Russian-Belarusian export cartel. Retail shareholders today can only weep at the memory of BHP’s US$130-a-share offer price.

PotashCorp itself would launch a bid for German-based K+S AG in 2016 (the two sides could not agree on a price) after years of picking up stakes in smaller fertilizer producers abroad. “PotashCorp tried a lot of things,” says Joel Jackson, managing director of fertilizer and chemicals research at BMO Capital Markets. What it couldn’t overcome was the fact that the half-dozen or so major potash producers in the world have the capacity to produce some 80 million tonnes of the stuff per year, nearly 20 million tonnes more than the world’s farms currently consume.

Compared to PotashCorp, Agrium was diversified. The Calgary-based firm, whose history as a division of Cominco (now Teck Resources) goes back to 1931, had a potash mine in Saskatchewan, as well as nitrogen and phosphate plants—giving it exposure to all three of the main crop nutrients—plus a growing network of farm supply dealerships in the U.S. and Canada. This fit with the strategy of Magro, who joined the company as a vice-president in 2009, and his team. The company would not just get bigger but also be part of every step of the fertilizer business, from mine (or pipeline) to the end user’s farm. Agrium acquired more stores in 2012 when regulators forced Swiss-based commodity trader Glencore International PLC to divest most of its western Canadian retail outlets as part of its acquisition of Viterra, the successor to the Saskatchewan Wheat Pool. (Glencore Agriculture, thereafter focused on its core business of grain marketing, recently reverted to using the Viterra name.)

It was PotashCorp, not Agrium, that “really needed this merger,” says Brooke Dobni, a professor of strategy at the University of Saskatchewan’s Edwards School of Business. Despite its enviable market share, PotashCorp was completely at the whim of global demand. Its only lever to control the price was to reduce shifts or shut down its least profitable mines, often to see a new mine open up in Russia or Belarus, where all-in labour costs were a fraction of those in Canada. The low end of a commodity cycle can last a decade or more, and sitting on shuttered mines is no way to run a business.

Exactly who approached whom is still a closely guarded secret, but it’s fair to say a multiyear plunge in fertilizer prices had both firms looking for strategic alternatives in the summer of 2016. In late August, the companies halted trading in their shares and confirmed rumours they were exploring a merger, but stressed that “there can be no assurance that any transaction will result from these discussions.” Just two weeks later, the union was announced—but it took 16 months to seal.

The final, all-share transaction gave PotashCorp shareholders a slight edge over Agrium’s, based on market capitalization. But in light of what’s transpired since, some market observers see the balance of power differently.

“This was not a merger,” opines BMO’s Jackson. “This was Agrium taking over PotashCorp. This was PotashCorp’s board, after going through two CEOs in the space of two years, after the failed K+S takeover, throwing in the towel.” (Outsider Jochen Tilk had succeeded longtime CEO Bill Doyle in 2014.) Jackson notes that Agrium executives ended up taking most of the key positions in the combined company, and though the head office is nominally in Saskatoon (in compliance with probably unenforceable legislation dating back to PotashCorp’s privatization), Magro runs the company from Calgary.

Moreover, Magro and Agrium brought a mentality to the business that was different from that of a straight materials producer like PotashCorp. For them, the commodity itself was not so valuable as the relationship with the end customer—the farmer. “This is a commodity business, but relationships in the ag business matter,” Magro told a conference in Florida last February, highlighting the fact that, through its retail division, Nutrien has a direct connection to half a million farmers in seven countries.

Kayle Neis/The Globe and Mail

Magro himself claims a lifelong connection to the farm lifestyle. Growing up on the Niagara Peninsula as the child of Maltese immigrants, he worked summers and weekends on a dairy farm for four years before going off to the University of Waterloo to study chemical engineering. “I loved the [farm] way of life. It was like a second family that took me in,” he recalls. After getting an MBA at the University of Windsor and a lengthy stint at Nova Chemicals in Alberta, he describes his move to Agrium in 2009 as a kind of homecoming.

With Nutrien, Magro is satisfied that “we’ve created a unique company that can perform well on a global stage, that can contribute meaningfully to driving the technology we need to have in agriculture to make our industry and our planet more sustainable.”

Yet he’s still restless. “The merger was the beginning of a journey, not the end,” he says, noting there are much larger materials companies and room to grow.

In its annual report, Nutrien spells out its strategy: “During low points of the cycle, we expect to focus on growing our crop nutrient production, distributions to shareholders and transformational opportunities. At the high points of the cycle, we expect to focus on organic growth opportunities and reducing leverage. The stability of retail allows us to keep growing this business and our dividend throughout the cycle.” In short, the steady retail sales will backstop the volatile materials business.

The investment that has actually taken place since the merger—which most observers would describe as a low point in the cycle—has been almost entirely in retail. Nutrien’s purchase of Ruralco Holdings Ltd. last year consolidated Australia’s farm supply market from three major players to two. Meanwhile, the company picked up smaller retailers in Brazil and the U.S., where, despite its leading position, it still has just 22% of the business. Nutrien has also built a sideline in customer finance. Currently lending to 20% of its customers, Magro would like to grow that to half.

It’s worth noting, too, that the largest single capital allocation in 2019—32% of free cash flow—went towards share buybacks.

Both Jackson and Dobni are skeptical of Nutrien’s claim that it saved US$650 million in 2019 as a result of the merger. That sum does not factor in, for example, the US$20-million payout to former PotashCorp’s Tilk in 2018, Dobni says. And there would have been other executive severances, investment banking fees and integration hiccups to deal with, adds Dobni, who has consulted for PotashCorp and Canpotex in the past. “It always costs way more and takes more time than expected to make these changes.”

Others question Nutrien’s very promising e-commerce metrics—Nutrien Ag Solutions, as the division is called, tallied US$250 million in sales in 2019 and hopes to hit US$1 billion in 2020. But observers note that those figures include sales entered by in-store sales staff in response to phone and in-person orders. Just the move to a cloud-based sales platform, whoever does the ordering, will deliver efficiencies. And, as Magro notes, COVID-19 has pushed farmers to shift to digital orders at double the rate predicted at the year’s outset. The hope is that farmers will come to use Nutrien’s cloud-based platform as their own input-tracking spreadsheets. The app will offer recommendations on which seeds to plant and fertilizers to apply. Or, as Magro put it at the February conference: “We see ourselves as an independent crop adviser.”

Investment analysts are generally sanguine about Nutrien these days, with many thinking its true value will become better recognized over time. “Given the volatility of fertilizer prices over the past couple of years, we believe Nutrien has benefited from the merger of the two companies and diversification across business lines,” says Fai Lee, an equity analyst for Odlum Brown Ltd. in Vancouver, in an email. “While the COVID-19 virus could have a temporary negative impact on the company’s operations, we believe demand for Nutrien’s products is more resilient than what is currently reflected in its share price.”

Magro remains committed to vertical integration. “The integrated model we’ve built—that is where the true value comes out. I believe that over the entire cycle, we will outperform, trough to peak and peak to trough.”

While not convinced by that argument, Jackson at BMO thinks there’s a role for a stable, dividend-paying company like Nutrien in the materials space: “It’s going to have a lower beta [a measure of stock price volatility] than other fertilizer pure plays. A CF Industries and a Mosaic will perform better on risk-on days; on risk-off days, Nutrien will outperform.”

You can see in Nutrien the story of Canada’s resource-based economy. In a sparsely populated, commodity-rich country, there is a territorial tendency to equate the asset itself with wealth. Faced with volatile prices, the go-to strategy is to grow larger to extend control over pricing. It never works.

James MacDonald/The Globe and Mail

For these enterprises, whether forest product or oil producers, or miners of coal, the reintegration of the former Soviet bloc economies into the global market over the past three decades was an unmitigated disaster. Never mind that Saskatchewan boasted nearly half the world’s mineable potash. If a competitor in Russia or Belarus—paying a fraction of the wages and having few worksite and environmental regulations—could become a lower-cost supplier, Canada’s supposed advantage becomes moot.

One response is to shutter mines, as Nutrien and its predecessors have done. Another is to lobby for regulatory reform—code for bringing that burden down to the level of a developing-country, which Magro has also attempted through his co-chairship of the Business Council of Canada’s task force on national competitiveness. A third option is to concede that, most of the time in the commodity cycle, the resource is not, in fact, worth anything; it’s an abstraction and a distraction. What creates lasting value, in an age when a yoga-pant retailer’s market capitalization surpasses that of Canadian Natural Resources Ltd., is the relationship with the customer. In a sign of evolution in Canada’s natural resource sector, Nutrien has been playing that card, too.

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