If you've visited the grocery store lately, then you've probably noticed prices for basic food items such as bread and ground beef have soared this year. The increase is mainly as result of skyrocketing prices for commodities. Wheat prices, for instance, have climbed 65% just in the past year, while corn prices have nearly doubled.
Rising grain prices reflect a growing imbalance between food supply and demand. Farmers are ramping up crop production to feed more humans and livestock, but global food output will need to expand by 70% in the next 30 years just to match increasing food demand resulting from the growing global population.
As demand for agricultural commodities grows, so does the need for fertilizer to boost crop yields. This is causing fertilizer prices to zoom as well -- fertilizer costs are approaching record levels set in 2009. Next year, U.S. corn growers are expected to fork out $165 an acre for fertilizer, which is a 35% jump in just two seasons.
1. Terra Nitrogen (NYSE: TNH)
Terra Nitrogen is a master-limited partnership (MLP) and a leading U.S. producer of nitrogen fertilizer. The company has annual capacity to produce 1.9 million tons of nitrogen fertilizer and 1.1 million tons of ammonia, a key fertilizer ingredient. In the past year alone, prices for Terra Nitrogen's fertilizers have increased 47%, and sales have dramatically improved. In the first six months of 2011, Terra Nitrogen's sales rose 38% year-over-year to $394.6 million, while earnings climbed a whopping 148% to $249.8 million.
Earnings growth has accelerated recently, but Terra Nitrogen has been a stellar long-term performer as well. My colleague Carla Pasternak, editor of High-Yield Investing, recently highlighted Terra Nitrogen as the best-performing high-yield stock of the past decade. The reason is clear: the stock has soared more than 6,000% in 10 years. A $1,000 investment in Terra Nitrogen 10 years ago, for instance, would be worth nearly $65,000 today.
As an MLP, Terra Nitrogen is required to distribute the majority of its earnings to unit holders. The company declared a cash distribution of $3.75 per unit in this year's second quarter. On a forward basis, this works out to an annual distribution payment of $15 per unit and a generous yield of 8%.
The company is financially sound, with zero debt and a 147% return on equity (ROE). In addition, profit margins have been exceptional, exceeding 52%, mainly because Terra Nitrogen's raw material costs are falling. The main ingredient for producing nitrogen fertilizer, natural gas, has plummeted from $14 per million BTU three years ago to roughly $4 per million BTU today. Insiders also clearly like the company's prospects; they hold 51% of the company's shares.
2. CVR Partners (NYSE: UAN)
CVR Partners is a new MLP that went public in April 2011 when CVR Energy spun off the fertilizer side of its business. The company is the only fertilizer producer in North America that uses petroleum coke (a byproduct of crude-oil refining) to make nitrogen-based fertilizer. CVR Partners secures its petcoke supplies from a nearby CVR Energy refinery. This reliable feedstock supply gives CVR Partners a nice low-cost advantage, since petcoke is much cheaper than natural gas.
CVR Partners produced 350,000 tons of urea and ammonium nitrate (UAN) fertilizer during the first six months of 2011 and already has plans to expand output. The company benefits from increased UAN prices, which are 46% higher this year than last year. As a result, CVR Partners' revenue rose 46% year-over-year in the first six months of 2011 to $138 million. Earnings rose 111% in the same period to $54.9 million. The company is also financially strong, with cash of $280 million and only $125 million of debt.
CVR Partners paid a cash distribution of $0.41 per unit in the June quarter of 2011, which covered the period from the April 13 initial public offering (IPO) closing through the end of June. More importantly, the company reaffirmed guidance for distributions totaling $1.92 for the 12 months ending March 2012. Based on the promised $1.92 distribution, the stock yields 7.4%. With just two quarters of reported earnings, the company doesn't have a measurable price-to-earnings (P/E) ratio yet, but CVR Partner shares have gained 50% since its debut at $18 per share on the New York Stock Exchange.
Risks to consider: Distributions from both of these companies vary with earnings and may fall if earnings decline. Also, because CVR Partners began trading only recently, there is no supporting historical trend data to analyze. However, high-growth rates for CVR Partners so far this year prove the partnership's ability to grow the business.
Action to take --> My top pick is CVR Partners, mainly because Terra Nitrogen shares are somewhat pricey at 16 times earnings and near the high end of its five-year P/E range. However, Terra Nitrogen is a more known quantity, and I still think both companies have exceptional growth prospects. I'd be a buyer of Terra Nitrogen shares on a price pullback.