Finding ‘Hidden’ Value: France

This note is the second in a due diligence series focused on the ‘hidden’ value in the downstream Sales & Marketing division. Yara split the division out after 2018 and shows $613m EBITDA was made in FY’18. However, margins are lower than historically, and a more focused management, an asset review, and higher volumes could generate meaningful upside. Considering Sales & Marketing at a 7% EBITDA margin (compared to 5.5% FY’18) on 5% higher volumes, Yara could make $800m in this division. On 10x EBITDA, the same multiple as Brenntag, we value Sales & Marketing at $8bn. This effectively leaves Production/Upstream valued at <$6bn, or <$300/t, in an industry where newbuild costs >$1,000/t, and Yara has large, specialty product portfolios. There is upside on the rating if Yara can deliver consistent growth and margin improvement.

However, Yara’s European production assets should rightly command a discount to US peer CF Industries. Yara faces a higher gas cost than US producers, and this disadvantages it on the cost curve. Since 2012, Yara has consumed gas at an average global cost of $5.7/mmbtu and European gas at $7/mmbut. In the same period, US Henry Hub has averaged $3/mmbtu. As a reminder, nitrogen fertilisers are made from ammonia and, very broadly speaking, investors should multiply the gas cost by 30x to get the gas cost in a tonne of ammonia or urea. The marginal content cost of gas in US production is therefore ~$90/t, compared to $210/t in Europe. Ammonia prices have been $250-300/t in recent years, compared to $500/t previously (FY’11-’14), which means European producers are loss-making in the current cycle.

After running through the UK subsidiary, we have now looked through France. France is more production-heavy than the UK, operating three loss-making plants. The comparison of Yara UK and Yara France is a useful exercise for investors as it contrasts the two businesses of upstream versus downstream within Yara. In this context, we are concerned that Yara is running loss-making plants in Europe to flow volumes through the profitable downstream division. The French plants are small, dated, and high-cost. In the long run, we suggest that only the Ambes plant near Bordeaux is large enough to compete and Yara should consider closing these plants and ‘liberating’ sales & marketing to source third-party volumes where necessary to replace the Yara product. The French plants are continually burdened by asset impairment and environmental, restructuring, and personnel provisions.

Review of French Operations

Yara France is a larger operation than the UK, with 2.5x the number of employees (635 versus 259). Of interest for our purposes is that France has the same level of revenue ($716m) but lost $81m PBT in 2018. The UK was nicely profitable as it is a distribution and logistics operations, whilst France is highly loss-making as it is a production-heavy, high-cost operation. France has >5x the fixed asset base than the UK and invested 6x the capex over the last two years (per subsidiary filings). We understand investors would always favour the UK operation over France for the higher returns, stability of returns, and infrastructure considerations. Essentially, France would struggle to achieve a positive value in a market sale, whilst the UK could trade on 10-15x EBITDA. Yara, as a group, is a combination of both, and is marked at 7x EV/EBITDA by consensus.

Whilst Crop Nutrition (Sales & Marketing) and Industrial Solutions operate at the HQ site near Paris, Yara also had four production facilities in the country, prior to the closure of Pardies, in:

• Ambes: 0.5mt urea, 0.6mt nitrates, also in the West, on the Gironde near Bordeaux.
• Le Havre: a small plant with 0.4mt ammonia, 0.3mt urea, built in the 1960s, rented at the Port.
• Montoir: another small plant with 0.3mt nitric acid, 0.4mt nitrates, 0.3mt NPK, mainly supplying the west of France on the Atlantic coast near Nantes.
• Pardies: sub-scale plant with 0.2mt urea and 0.1mt nitrates (closed in 2018).

Small plants in high-cost gas and high-cost countries in Europe are unfavourably positioned globally. Yara clearly has problems in France; Pardies was closed in 2018, Montoir was impaired again in 2018 ($13m, after $18m in FY’17). Tragically, in the same year, an employee was killed at Montoir.