CF Industries: This Fertilizer Firm Is Simply Too Low-cost

Funding Thesis

CF Industries (NYSE:CF) is a extremely worthwhile and really well-managed enterprise. Within the very close to time period, fertilizer costs have rolled off, as farmers push again towards increased fertilizer prices.

The extra influence for CF Industries had been that its enter prices had been elevated on the again of upper pure gasoline costs. However this has now modified, with pure gasoline costs falling dramatically.

Nonetheless, when all is claimed and finished, the enterprise is making file free money flows and shopping for again shares.

I spotlight that within the present quarter, free money flows had been up 65% y/y. And there is each indication going that 2023 could possibly be simply as robust as 2022.

What’s Taking place Proper Now?

CF Industries has been impacted by the identical elements as different potash fertilizer corporations. Nonetheless, CF Industries has had one further issue impacting its outcomes too, and that was increased pure gasoline costs.

When pure gasoline costs go increased, because it’s an enter value for the manufacturing of nitrogen, this straight impacts CF’s free money movement potential. I am going to focus on its free money movement in a second.

Nonetheless, needless to say prior to now few weeks pure gasoline costs have plummeted. What’s extra, consider this,

Internet farm revenue, a broad measure of earnings, is forecast at $147.7 billion in calendar 12 months 2022, a rise of $7.3 billion (5.2 %) in 2022 relative to 2021.

As you’ll be able to see right here, web farm revenue is powerful, which is conducive for farmers to pay up for fertilizer. However for now, farmers are pushing again. And my competition is that they can not push again for an excessive amount of longer.

In essence, I consider that in early 2023, within the spring utility season, farmers should return to purchasing fertilizer. And after they do, that is going to result in nitrogen costs rising.

Nonetheless, for my bullish thesis to work, I do not want any huge heroics or squeezes within the nitrogen worth. I simply want issues to stay regular or for volumes to enhance barely.

Oozing Free Money Move

For Q3 2022, CF’s free money flows had been $800 million, up 65% y/y from $486 million in Q3 of final 12 months.

By the way, I ought to remind members that out of this $800 million of free money movement seen within the quarter, stock-based compensation was $10 million! No typo. Once more, that is why I like investing in commodities.

The graphic above adjusts for CF’s noncontrolling curiosity. And regardless of all these subtractions, CF’s free money flows are shifting up and to the suitable.

And that extra free money movement is getting used to repurchase shares at a really regular clip. And that is why on the again of revenues being up 70% y/y, CF’s EPS figures went from destructive $0.86 to $2.18. A change that’s not even mathematically calculable!

In the meantime, you’ll be able to see the variety of shares excellent coming down on the skinny inexperienced line, within the graph above.

And now we’ll focus on its valuation.

CF Inventory Valuation — Roughly 5x FCF

The graph that follows is self-explanatory.

We will see that proper now, the free money movement yield is considerably increased than the 2017-2021 interval.

This leads many buyers to cost that CF Industries is over-earning and that it should subsequently imply revert decrease.

Nonetheless, after every part that we have now mentioned, I consider you will agree, that even when CF Industries had been to see nitrogen costs coming down in 2023, they don’t seem to be prone to come down 50% anytime quickly.

Put one other method, even when over the following twelve months CF Industries’ free money movement goes from $3.7 billion to $2.6 billion, for a 30% discount, that will nonetheless solely go away CF Industries priced at lower than 8x subsequent 12 months’s depressed free money flows.

That is actually very low-cost.

The Backside Line

The way in which I give it some thought is like this. I am now being requested to pay someplace round 5x to 8x FCF. That implies that if I purchase into CF Industries now, and maintain the enterprise for 5x to 8x years, then this enterprise pays for itself.

However then, on prime of that, I need to be mindful, that CF Industries is repurchasing practically 5% to 10% of its market cap over the following twelve months.

That implies that inside 4 to 7 years, very roughly, my funding has paid for itself. And every part that this fertilizer firm makes after years 4 or 7, relying on how issues unfold, over the following +20 years, is all my upside coming totally free.

Now, I am not saying that one wants to carry onto a fertilizer producer for a number of years. However I am saying that considering on this method, the enterprise is clearly not going away. And CF will proceed to purchase again shares.

And I can enhance my complete possession of CF over time, with out having to deploy any extra capital. That is actually a really enticing funding profile. Notably in an surroundings the place I can see that meals costs are very excessive world wide. I can take part in that inflationary surroundings, with out having to do something. Simply from sitting and getting paid over time.