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Revision as of 08:14, April 29, 2009

Terra Nitrogen Company, owned in majority by Terra Industries, operates the fourth largest nitrogen fertilizer production facility in the U.S.[1]

Driven by rising food prices and greater demand for corn, higher nitrogen fertilizer demand and prices increased revenue by $210.8 million in 2007 over the previous year. In 2007, Terra Nitrogen sold 3.85 million tons of UAN (a clean, odorless, and non-hazardous liquid fertilizer) and 1.1 million tons of ammonia, increases of 27% and 10% over 2006, respectively. Sales prices for the company's products increased by 10% and 45%, reflecting increased demand for nitrogen fertilizer from higher food demand. [2] Corn prices reached a high of $7 per bushel in the summer of 2008 and fell to $4 per bushel in November 2008 as a result of the slowing global economy.[3] If corn prices remain low when farmers begin next year's growing season, demand for nitrogen fertilizer will fall.[4]

The largest cost component of ammonia production is natural gas. While natural gas price increases in the first half of 2008 have a strong possibility of negatively affect the company's income, the US Energy Information Administration projects natural gas prices will decline from $10.49 per MMBtu in July 2008[5][6] to $5.80 per therm in December 2008 as a slowing global economy reduces the demand for energy.[7] A 10 cent per million Btu decrease in natural gas prices would result in a reduction of $3.4 million in annual costs for the company.[8]

75% of Terra Nitrogen is owned by Terra Industries (TRA), in an arrangement that clearly benefits the parent company TRA. [9] Terra Industries is entitled a minimum dividend of 60.5 cents per share per quarter, and, as a result, Terra Nitrogen built up a deficit in owed dividends to TRA. [10] Recently, however, the deficit has been payed off, which will allow for stronger returns to non-TRA shareholders. [11]


Business Overview

2007 2006 2005 2004 2003
Revenue ($M)635.5424.7454.8419.2403.6
Net income ($M) [12] [13] 205.846.255.945.8-35.3

Terra Nitrogen operates a single nitrogen processing plant in Verdigris, Oklahoma. The plant runs at 100% capacity to produce a million tons of ammonia annually, most of which is upgraded to produce 2.2 million tons of UAN annually.[8] [9] The plant was inspected and refurbished extensively in a $22 million three week renovation in August 2007, when failed equipment and leaks were repaired and energy-saving technologies were installed.[14][15] The Department of Energy estimates the new technologies will save the company $3.5 annually in energy costs. [15]

Terra Nitrogen's customers are dealers, national farm retail chains, distributors, and other fertilizer producers. In 2007, the majority of nitrogen fertilizer was sold to dealers, but no single customer accounted for more than 10% of the company's sales. [16] Terra Nitrogen does not sell its products internationally. [17]

75% of Terra Nitrogen is owned by its general partner, Terra Industries (TRA). [9]

Background on Nitrogen Industry

The three primary nutrients required for plant growth are phosphorous, potassium, and nitrogen. Nitrogen is an essential element element for most organic compounds in plants, especially proteins and chlorophyll. There are no known substitutes for nitrogen fertilizers in cultivating high-yield crops today. Nitrogen must be reapplied each year after intense agricultural use since nitrogen is quickly absorbed by crops and tends to evaporate from the soil over time. Thus, demand for nitrogen fertilizer tends to be consistent on a year-by-year basis. [18] The single largest nitrogen consumer crop in North America is corn. [18]

Products

Urea Ammonium Nitrate (UAN)

Marketed under the name TerraSol, UAN is a clean, odorless, and non-hazardous liquid fertilizer.[19] Terra Industries is the largest producer of UAN in the United States, producing 3.85 million tons of UAN annually. [19] UAN is used mostly in North America and only recently has been traded in international markets. [17] Terra Nitrogen's sole production facility is located in Verdigris, Oklahoma, providing a competitive advantage in serving agricultural customers in the Great Plains and Corn Belt regions. [17] Because of its high water content, UAN is expensive to transport, limiting its distribution to local regions. [16]

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TerraSol (UAN) Prices [15]
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Ammonia Prices realized by TNH [2]

Anhydrous Ammonia

Ammonia is the simplest nitrogen fertilizer and is used in the production of other nitrogen fertilizers, including UAN. Although generally the least expensive source of nitrogen fertilizer available to agricultural customers, ammonia may be less attractive since it requires specialized equipment and has limited application flexibility. In 2007, Terra Nitrogen produced 1.1 million tons of ammonia, 0.8 million of which was used internally to produce UAN. [16]

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Terra Nitrogen 2007 Production [19]

Trends and Forces

Decreasing natural gas prices lower operating costs

Natural gas is the most important raw material in the production of UAN and other nitrogen-based fertilizers. Terra Nitrogen acquires natural gas through both spot and term purchases, and purchases derivatives instruments to hedge against some price volatility. [20] In 2007, natural gas purchases accounted for 64% of Terra Nitrogen's total expenses. [21] The decrease in natural gas prices in 2007 reduced total costs by $7.4 million.[22] In the first half of 2008, natural gas prices rose with the increasing cost of oil, leading to additional costs for Terra Nitrogen. However, as of October 2008, the price per therm of natural gas had dropped to $0.81 from its high of $1.45 over the summer. According to Nicor Gas, the cost of natural gas is projected to decline further to $0.77 per therm in November, leading to decreases in costs with the potential to more than offset cost increases in the first half of the year. [7] A 10 cent per million Btu decrease in natural gas prices would result in a reduction of $3.4 million in annual costs for the company.[8]

Rising Worldwide Demand for Food Increases Fertilizer Profit Margins

Higher global grain demand continue to keep crop prices elevated in 2008, leading to additional demand for fertilizer. For example, the US Department of Agriculture forecasts U.S. corn exports to be a record 2.5 billion bushels in the 2008 marketing year, while world grain consumption is forecasted to increase by over three percent. The grain market is expected to continue to be tight for at least the next few years, though tempered in the near term by the global economic downturn. Grain stocks are low worldwide and it will take an extended period of strong production to bring inventories up to satisfy demand.[23] Fertecon forecasts that global nitrogen fertilizer demand will rise around 2% per year from 2005 to 2015, increasing by 21 million tons. In North America, nitrogen fertilizer consumption is expected to increase from 13.9 million tons to 16 million tons, a 15% increase, from 2005 to 2015.[24]

Environmental Regulation Poses Additional Costs in Near Future

Terra Nitrogen announced in July 2008 that it will reduce greenhouse gas emissions by 20% using special ceramic filter technology at two of its plants. [19] The installation of the technology at one plant will cost $1.6 million in its first year and $1.2 million every year thereafter. [19] In 2007, the company's capital expenditures on environmental control amounted to $0.5 million. [25] Over the past 20 years, Terra Nitrogen has reduced its EPA Toxic Release Inventory (TRI) regulated substances by more than 70%. [8]

Terra is a "Founding Reporter" member of The Climate Registry, a non-profit organization committed to "standards for the measurement, verification, and public reporting of greenhouse gas emissions throughout North America." [19] Terra officials say they support the objective of lowering GHG emissions. The director of Environmental, Health and Safety for Terra Industries has stated that the company believes global warming policy should be reasonable, supported by fact, and implemented in a way amenable to American industry.[19]

Terra Nitrogen's Subsidiary Status Limits Dividends to Shareholders

75% of Terra Nitrogen is owned by Terra Industries (TRA), a much larger company that sells nitrogen products and methanol and has assets across the US, Canada, and the UK. [26] [10] Since Terra Nitrogen consists of only one nitrogen fertilizer processing plant, an increase in demand or prices for nitrogen products would translate more directly into higher returns for Terra Nitrogen. This has allowed Terra Nitrogen to increase revenue from $425 million in 2006 to $636 million in 2007. [12]

On the other hand, the partnership agreement between Terra Nitrogen and Terra Industries (TRA) limits the dividends payable to common (non-TRA) stockholders. The agreement stipulates that Terra Industries receives a larger proportion of the distributable cash if dividends per share exceed 60.5¢ in a quarter. In addition, the agreement states the cumulative distributions must exceed 60.5¢ per quarter. [10] Since the per share dividends were below 60.5 cents for several years, TNH built up a deficit of owed dividends to Terra Industries.[11] As of July 2008, however, the deficit had been paid off. [11]

Competition

Terra Nitrogen competes with domestic and foreign producers of nitrogen products, including some that are government subsidized. [20] Since natural gas is a raw material needed for the production of ammonia, competitors that have better access to natural gas are at an advantage. In the Urea Ammonium Nitrate (UAN) market, Terra Nitrogen primarily competes with local companies due to the high cost of transporting UAN. [16] According to the company's website, TNH's primary competitors are Agrium (AGU), Koch Industries, CF Industries Holdings (CF), Mosaic Company (MOS) and PCS Nitrogen.[27]

Terra Nitrogen CF Industries Agrium (AGU) Potash Corp (POT)
2007 Revenue ($M)636.31[28]2757.7[29]5270[30]5234.2[31]
Net profit margin32.34%13.49%8.37%21.08%
Nitrogen fertilizer production volume (millions of tons)1.1[16]6.9[32]5[30]3.218[33]
UAN % of total production67.60%31.60%--


Table of US Nitrogen Fertilizer Production Facility Capacities 2005 [34]

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References

  1. Ohio State University, "A Primer on Ammonia, Nitrogen Fertilizers, and Natural Gas Markets," 2005
  2. 2.0 2.1 Terra Nitrogen 2007 Annual Report, page 7
  3. UPI "Ethanol producers and corn prices fall"
  4. Plant Management Network
  5. US Energy Information Administration
  6. EIA Natural Gas Conversion Calculator
  7. 7.0 7.1 The Daily Journal "Natural gas prices decline sharply as winter nears"
  8. 8.0 8.1 8.2 8.3 TNH 2007 Annual Report page 8
  9. 9.0 9.1 9.2 Seeking Alpha, "Terra Industries: An Interesting Fertilizer Play"
  10. 10.0 10.1 10.2 TRA 2007 10-K, Item 1 "Business," page 2
  11. 11.0 11.1 11.2 Seeking Alpha, "Terra Industries: An Interesting Fertilizer Play"
  12. 12.0 12.1 TNH 2007 10-K, Item 8 "Financial Statement," page 30
  13. TNH 2005 10-K, Item 8 "Financial Statement," page 26
  14. TNH 2007 10-K, Item 7 "Management's Discussion," page 21
  15. 15.0 15.1 15.2 Terra Nitrogen 2007 Annual Report, page 8
  16. 16.0 16.1 16.2 16.3 16.4 TNH 2007 10-K, Item 1 "Business," page 2
  17. 17.0 17.1 17.2 TNH 2007 10-K, Item 1 "Business," page 1
  18. 18.0 18.1 TNH 2007 10-K, Item 1 "Business," page 3
  19. 19.0 19.1 19.2 19.3 19.4 19.5 19.6 Claremore Daily Progress, "Terra Nitrogen Reducing Greenhouse Gas Emissions"
  20. 20.0 20.1 TNH 2007 10-K, Item 1 "Business," page 5
  21. TNH 2007 10-K, Item 1A "Risk Factors," page 8
  22. TNH 2007 10-K, Item 7 "Management's Discussion," page 20
  23. Agrium Q1 2008 Conference Call Transcript
  24. TNH 2007 10-K, Item 1 "Business," page 4
  25. TNH 2007 10-K, Item 1 "Business," page 6
  26. Investing Thoughts, "Terra Nitrogen vs. Terra Industries"
  27. Terra FAQ
  28. Google Finance TNH
  29. Google Finance CF
  30. 30.0 30.1 Agrium Fact Sheet
  31. Google Finance POT
  32. CF 2007 10-K, Item 1 "Business," page 8
  33. POT 2007 10-K, Item 1 "Business," page 9
  34. Ohio State University, "A Primer on Ammonia, Nitrogen Fertilizers, and Natural Gas Markets," 2005
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