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Agrium Inc.: Should You Buy, Sell, or Hold?

Shares of Agrium Inc. (TSX: AGU)(NYSE: AGU) are up 20% in just the past four weeks as the market is once again betting on a big payday triggered by activist investors.

The last time this happened, the stock ran up to $115 per share and then drifted back into the mid $80s.

Is the rally sustainable this time, or should investors take the early holiday gift and sit back to see what happens next?

Let’s take a look at Agrium’s situation to see if the current share price is justified.

Potash production

Agrium’s shares moved lower in early October because the company warned that Q3 and Q4 earnings were going to miss previous estimates due to an extended shutdown at its Vanscoy potash facility. The news shouldn’t have come as a surprise.

Vanscoy was scheduled to be out of action to tie in the last part of a $2 billion expansion project. A mechanical failure on the site’s main hoist system in July simply moved up the changeover schedule.

Agrium’s potash production is expected to increase by 40% as a result of the Vanscoy expansion.

Shareholders should be excited because the completion of the project could mean a nice boost to free cash flow as a result of lower capital expenditures and higher revenues. Global potash demand is at record levels and wholesale prices are expected to move higher in 2015.

The recent flooding at Russia’s largest potash producer, Uralkali, could affect as much as 20% of the company’s production. This should be supportive for global wholesale prices.

Nitrogen production

Nitrogen margins are essentially dependent on the price of natural gas. In the third quarter, average nitrogen gross margins were $105 per tonne, down from $119 per tonne in Q3 2013.

The average natural gas cost for the quarter was $4.01/MMBtu and gas currently trades near that level. Production in 2015 should be better than the current year, as unplanned shutdowns have hindered Agrium’s nitrogen output throughout 2014. One concern is the potential for natural gas prices to move significantly higher if North America gets hit with another brutal winter.

Retail operation

Agrium’s retail division continues to deliver strong results supported by revenue coming from the assets acquired from Viterra in 2013. The retail stores sell crop nutrients, seed, and crop protection products to farmers in North America, Australia, and South America.

When wholesale markets are volatile, the retail division gives Agrium a way to balance out revenue, but retail earnings can also vary greatly. In the Q3 2014 earnings statement, Agrium said record corn yields in the U.S. have pushed down prices and squeezed margins for growers. This could result in lower retail sales for 2015.

Some of the 2014 record harvest was delayed and this means farmers could push purchases of crop nutrients into the spring. If this happens, Agrium might face transport issues trying to get product moved to its customers.

Should you buy?

Agrium trades at about 14 times forward earnings and 2.4 times book. The company just increased its dividend to US$3.12 per share. At current prices you get a 3% yield.

The long-term outlook for Agrium is positive, and investors should see consistent dividend hikes moving forward. Having said that, the next two or three quarters might be challenging given the potential for higher natural gas prices, and weaker demand from North American retail customers.

If the winter turns out to be as bad as last year, Agruim might also run into trouble again with getting product to its customers, as logistics bottlenecks are likely.

At this point the stock is probably a hold, given the big move in recent weeks. If you have new money to invest, there are other names that provide similar dividend-growth opportunities without the same volatility. One top company is discussed in the following free report.

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Fool contributor Andrew Walker has no position in any stocks mentioned. Agrium is a recommendation of Stock Advisor Canada.

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