Potash Corporation of Saskatchewan Inc. (TSX:POT)(NYSE:POT) is down more than 30% this year, and the dividend now serves up a juicy 7% yield.

Income investors are looking at the name with hungry eyes, but many are wondering if the distribution can survive the difficult conditions facing the global potash market.

Let’s take a look at the current situation to see if the dividend is in trouble.


Potash Corporation reported Q2 2015 earnings of US$0.50 per share. The company had operating cash flow of US$836 million and generated free cash flow of US$532 million. Dividends for the quarter only totaled US$312 million, so the company generated more than enough funds to cover both the capital outlays and the distributions.

That’s what dividend investors like to see because it means the business doesn’t have to take on debt or issue new stock to cover the payout.

For the third quarter, the company expected to earn US$0.35-0.45 per share. We’ll find out on October 29 how things actually turned out. For all of 2015, earnings guidance is set at $1.75-1.95 per share. These numbers are lower than the original expectations set at the beginning of the year, but still decent enough to maintain the payout. Potash Corporation pays a quarterly distribution of US$0.38 per share.

Market outlook

Analysts are more concerned about the next few years. Global potash demand is very strong, but production is set to increase, and the former oligopoly that once kept supply in check has broken down.

As a result, a market-share battle is brewing, and that is putting pressure on prices. How low the big global producers are willing to go is yet to be seen, but Potash Corporation is well positioned to compete.

Production expansion

Potash Corporation is in the final innings of a massive capital program that began back in 2003 when the company launched a plan to expand production at its Canadian sites. Most of the major spending ($8.4 billion) has been completed and Potash Corporation is now ramping up production at the new facilities. Capacity should top 18 million tonnes once all the operations are running at full steam.

This is important for investors because it means there is little capital risk going forward, and Potash Corporation should see free cash flow improve as the projects shift from development to production. Operating costs are already coming down and that should continue as the ramp-up moves to full capacity.

Takeover bid dropped

Potash Corporation recently dropped its US$8.7 billion bid to buy German producer K+S AG. This means investors are less likely to see the company take on more debt or issue stock to raise funds for a buyout. That too bodes well for the sustainability of the distribution.

Is the dividend safe?

For the moment, the dividend looks safe, and prices would have to drop a lot more and stay low for quite some time before management would be required to reduce the payout.

That scenario is certainly possible, but Potash Corporation is one of the lowest-cost producers in the market, and its growth is essentially fully funded. That puts the company in a strong position to battle for market share with its international competitors.

Low prices are not in the interest of any producer, and the market is still controlled by a relatively small number of companies, so I don’t expect the price wars to last a long time.

Dividend investors with a contrarian edge might want to start a position in the stock while the opportunity is still available to pick it up at such a depressed price.

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Fool contributor Andrew Walker owns shares of Potash Corporation.