Shares of Potash Corp./Saskatchewan Inc. (TSX:POT)(NYSE:POT) are down more than 15% in the past five months, and long-term investors with a craving for yield are starting to look at the stock with hungry eyes.
Let’s take a look at the current situation to see if Potash Corp. deserves to be in your portfolio.
Tax changes
The rout in the oil patch is having a negative impact on Saskatchewan’s revenues, so the government recently decided to make up the difference by changing its tax policy on other segments.
When it released its 2015-16 budget in March, the province changed the way potash companies can claim capital expenditures as tax deductions.
The news hit Potash Corp.’s stock because the company had to lower its 2015 earnings guidance. Potash Corp. said the effect on pre-tax earnings in 2015 will be as much as $100 million.
Market outlook
While the new tax policy is frustrating for management and investors, the overall impact is quite small when considering the big picture.
The long-term outlook for the potash market is an attractive one. The world currently has seven billion human mouths to feed and that number is expected to hit 11 billion by 2050. At the same time, urban expansion continues to gobble up the arable land needed to grow the crops we need to feed all the new people. This means farmers will be under pressure to improve yields. To do this, they will have to use more crop nutrients.
Global potash demand is already at record levels, and Potash Corp. has done a good job of setting itself up to meet future needs.
Production growth
Potash Corp. is wrapping up more than $6 billion in expansion projects across its portfolio. This is good news for dividend investors because it should mean a lot more cash will be available for distributions as the facilities shift from development to production.
Output should increase, operating costs should drop, and margins should improve, assuming prices remain stable or begin to move higher.
Potash Corp. is also planning to expand through acquisitions. The company recently bid US$8.7 billion to acquire German producer K+S AG, which has large holdings in both Saskatchewan and Europe. The initial overtures have been rejected, but Potash Corp. is in a strong enough position to sweeten the offer.
The 40% premium potash is offering may be an indication that the entire sector is undervalued.
Dividend growth
Potash Corp. recently increased its dividend by 9% to $US1.52 per share, which translates into a nice 4.7% yield. As capital expenditures drop, more free cash flow should start to find its way into the pockets of shareholders.
Should you buy Potash Corp.?
The dividend is very safe and the long-term outlook for the agriculture sector is compelling. Potash Corp. currently trades at an attractive 15 times forward earnings and just 2.9 times book value. At this point, investors can simply buy the stock, sit back, and watch the dividends roll in for decades.
