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Stock Analysis & Ideas

CF Industries Stock: Why I’m Not Buying Just Yet

Story Highlights

Strong market headwinds are not sparing the agricultural inputs sector either – except for CF Industries Holdings and a few others. Even during this unique turbulence, CF Industries should pay off through a straightforward investment approach. The company’s fundamentals and dividend growth prospects are sound. Nonetheless, current headwinds may cause the stock to drop in the short term before trending higher again.

CF Industries Holdings (CF) shares stood out in the stock market, as its stock rose nearly 20% despite the overall market’s decline. The increase would have been even more pronounced if the series of price spikes that began last March had not been prematurely interrupted by headwinds.

These headwinds, which have proven to be stronger than the favorable business environment, may not be over yet.

I wouldn’t Buy CF shares today, but not because of the possible ongoing market headwinds. I would rather take advantage of these headwinds in the form of lower share prices, and, since the business outlook is positive, I think investing in CF Industries Holdings has a better chance of success when both conditions are met.

Thus, I would hold this stock for the time being if I had it, but I am bearish overall in the short term.

About CF Industries Holdings

CF Industries Holdings manufactures hydrogen and nitrogen products and supplies them for various industrial activities worldwide. These activities include the production of energy and fertilizers and the reduction of CO2 and greenhouse gas emissions.

The company has nine manufacturing facilities in North America and the UK, as well as a warehousing, shipping, and distribution network in North America. Also, its logistics capabilities enable the company to have a global reach. Customers include cooperatives, independent fertilizer distributors, trading companies, wholesalers, and industrial users.

Q1-2022 Results Saw High Growth

Thanks to higher selling prices and strong global demand, revenue for the first quarter of 2022 was $2.9 billion, up more than 173% year-over-year, beating analysts’ median forecast by $246 million.

As a result of this improvement, GAAP earnings per share (EPS) rose nearly 502% year-over-year to $4.21, but it missed the average analyst estimate of $4.35.

Meanwhile, net cash flow from operations increased 143% to $3.69 billion over the trailing twelve months and free cash flow increased 166% to $2.8 billion.

Solid Balance Sheet

The company’s financial position as of March 31, 2022, was marked by total debt of $3.7 billion, well above total cash of $2.6 billion.

However, an interest coverage ratio of 9.7 indicates that the company can easily handle its financial burden because any resulting obligations are met in a timely manner.

The interest coverage ratio, which is calculated by dividing the company’s operating income by its interest expense, determines how easily a company can pay interest expenses on any outstanding debt.

The higher the rate, the better and the stronger the financial strength of the analyzed company. Ideally, the ratio should be at least 1.5.

CF Industries Holdings’ operating income for the three months ended March 2022 was $1.64 billion, while interest expense for the three months ended March 2022 was $241 million.

Demand Should Remain Strong

In many regions of the world, fertilizer demand is expected to increase in the coming months as planting season approaches. In other regions, it is expected to remain robust due to certain factors.

In countries with robust demand, crop yields are increasing to replenish the supply of food items, which are being challenged by two factors. These are the extreme climatic conditions that are increasingly occurring worldwide and the risk of a food crisis, which the G7 countries want to avoid.

After the blockade of agricultural terminals in the ports of the Black Sea because of the war in Ukraine, a food crisis is now a real risk in many poor African countries and parts of Southeast Asia.

The future for CF Industries’ business is bright, as it’ll operate in an environment that will support its growth.

The Price and Global Supply of Fertilizers

The company should benefit from rising fertilizer prices around the world, as the demand for these products coincides with an expected contraction on the supply side.

The significant increase in energy costs will lead to a reduction in supplies from Europe and Asia, as operators there will try to cut costs by slowing down their business activities.

In addition, due to rising inflation, many countries are tightening export bans on products, including fertilizers and food items, to increase the purchasing power of their currencies.

These measures will also drive up prices as the availability of fertilizers in global markets will be more limited, while demand for these products will remain robust as a domestic crop will have to make up for the lack of imports.

Finally, the G7 sanctions against the Russian economy, coupled with Russia’s restrictions on its exports (as a countermeasure by President Vladimir Putin against Western countries and Japan’s sanctions), will also affect fertilizer supplies.

The Energy Bill

With continental energy cost differentials expected to favor North American low-priced producers over European and Asian peers for at least the next 48 months, CF Industries Holdings and other American producers are poised to capitalize on higher margins.

CF Industries’ Dividend Hike

The company recently increased its quarterly dividend, benefiting from a sharp rise in EPS from $1.47 in 2020 to $4.24 in 2021.

The quarterly dividend was raised from $0.30 per share to $0.40 per share, an increase of 33.3%, as you can see below.

Financial soundness and extremely favorable business conditions could lead to further dividend increases and improve the profitability of an investment in CF stock.

Wall Street’s Take on CF Stock

In the past three months, 10 Wall Street analysts have issued a 12-month price target for CF stock. The stock has a Hold consensus rating based on two Buys, eight Holds, and zero Sell ratings.

The average CF Industries Holdings price target is $105.90, implying 26.7% upside potential.

Valuation – The Stock Has Become Affordable

CF shares are currently trading at $83.59. The company has a market cap of $17.4 billion, a price/earnings ratio of 10.6, and a price/sales ratio of 2.1.

The stock is approximately 7% times above the median of its 52-week range of $43.19-$113.49.

After falling over 26% from its April peak of $113.49, the stock price doesn’t look unaffordable. It is well below recent valuations, as the following metrics show.

The stock price is about 11.3% below the 50-day moving average price of $94.07 and is trading about 6% above the 200-day moving average price of $78.85.

Demand destruction and recession risks have been the primary source of headwinds for CF and other fertilizer stocks over the past few months. As macroeconomic and geopolitical triggers may linger over the next few weeks, further declines in the stock price are possible.

The stock has a 14-day Relative Strength Index (RSI) of 40, suggesting that the stock price is still fairly far from oversold levels despite the sharp decline that occurred over the past few months.

The RSI indicator ranges between 30 and 70. A reading of around 30 means the stock a oversold, while a reading of 70 means a stock has approached overbought levels.

There’s plenty of room for the stock price to move lower should certain factors cause demand destruction or seriously affect fertilizer spending, such as a runaway rise in fertilizer prices and aggressive monetary authorities.

With prices likely to fall, I think it would be wise not to increase or take a new position in CF stock until an opportunity arises to earn a better dividend yield compared to the market average.

Also, as we’ve seen, there’s a chance the dividend yield will also increase due to a higher payment.

Conclusion – Short-Term Headwinds Outweight Tailwinds

CF Industries Holdings seems like a very interesting investment to make by purchasing shares to add to an existing position. However, it is probably wise to delay such trades, as shares are on track to become cheaper amid expected strong headwinds.

In the meantime, the development of business conditions in favor of low-cost fertilizer producers in the U.S. will improve the profitability of CF Industries Holdings, raising the likelihood of another dividend hike.

Disclosure

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