5/2/2023

speaker
Operator

Good day, ladies and gentlemen, and welcome to CFIndustry's first quarter 2023 earnings conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. We will facilitate a question and answer session toward the end of the presentation. To pose a question at any time, please press star then one on your touchtone phone. I would now like to turn the presentation over to the host for today, Mr. Martin Jarosik with CF Investor Relations. Sir, please proceed.

speaker
Martin Jarosik

Good morning, and thanks for joining the CF Industries Earnings Conference Call. With me today are Tony Will, CEO, Chris Bone, CFO, and Bert Frost, Senior Vice President of Sales, Market Development, and Supply Chain. CF Industries reported its results for the first quarter of 2023 yesterday afternoon. On this call, we'll review the results, discuss our outlook, and then host a question and answer session. Statements made on this call and in the presentation on our website that are not historical facts are forward-looking statements. These statements are not guarantees of future performance and involve risks, uncertainties, and assumptions that are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or implied in any statements. More detailed information about factors that may affect our performance may be found in our filings with the SEC, which are available on our website. Also, you will find reconciliations between GAAP and non-GAAP measures in the press release and presentation posted on our website. Now let me introduce Tony Will, our president and CEO.

speaker
Tony

Thanks, Barton, and good morning, everyone. Yesterday afternoon, we posted results for the first quarter of 2023, in which we generated adjusted EBITDA of $866 million. Our cash generation remained strong, and on a trailing 12-month basis, our free cash flow was $2.3 billion. These results reflect continued outstanding execution by the CF Industries team. We ran our plans well, leveraged our logistics and distribution capabilities, and most importantly, worked safely. At the end of the quarter, our 12-month reportable incident rate was 0.33 incidents per 200,000 labor hours. significantly better than industry averages. While last year's unprecedented pricing environment has moderated, global industry dynamics remain favorable. Global nitrogen demand that was priced out of the market last year is returning, driven by the need to replenish grain stocks. At the same time, forward price curves suggest that energy spreads between North America and high-cost producers in Europe and Asia will continue to be significantly wider than historical averages. As a result, we expect to continue to generate substantial free cash flow. This will enable us to both invest in growth and return capital to shareholders. In line with this, we are pleased to have reached an agreement to purchase Insutec Pivot's ammonia facility in Wagman, Louisiana. The Wagamon facility offers us a newer, highly efficient ammonia plant that we expect to enhance through improved uptime and asset utilization. This acquisition is the latest step in our drive to provide shareholders with greater participation in our business and access to superior cash flows, as is shown on slides 6, 7, and 8 in our materials. The facility will fit seamlessly into our network and increase our capacity to meet demand for decarbonized ammonia as a clean energy source. once we have implemented carbon capture and sequestration at the site. We believe the demand for low-carbon ammonia will provide a robust growth platform for the company in the years ahead. We have made a series of disciplined investments alongside partnerships and collaborations with global leaders in order to be at the forefront of producing decarbonized ammonia as a clean energy source. With that, let me turn it over to Bert, who will discuss the global nitrogen market conditions in more detail. Bert?

speaker
Barton

Thanks, Tony. Over the last year, the global nitrogen market has continued to change rapidly and in dramatic ways. At this time in 2022, global energy prices reflected the shock and uncertainty brought on by Russia's invasion of Ukraine. There were fears that Russian fertilizer exports would be locked out of the global market, and we entered a period of substantial production curtailments and shutdowns across Europe while China restricted urea exports. Today, Global energy costs have moderated and global operating rates have risen. New capacity, delayed by the pandemic, ramped up production. Other than ammonia, Russian fertilizer exports have returned to near pre-war levels as willing buyers have continued to take the discounted product, especially in the United States and Brazil. And global fertilizer trade flows have largely adjusted. As a result, global nitrogen prices have fallen from 2022 highs. This helped lead to a first quarter of 2023 that was marked by lower than typical global buying activity. Agricultural purchases in North America took a wait and see approach as global nitrogen values fell and weather patterns did not support an early spring. Several large importing regions were essentially absent from the market during the quarter as well. Most notably, this included India, which only had one Urea tender during the quarter, in large part due to higher domestic operating rates. Additionally, European purchasers slowed import activity in the first quarter after securing substantial imports in the second half of 2022. Lower global nitrogen prices have triggered a rebound in demand from less affluent regions of the world, as you can see on slide 13, offsetting some of the impact of lower purchasing from large importers. CF Industries was well prepared for this environment, having entered the year with a strong order book. As demand in North America held off, we leveraged our distribution and logistics capabilities during the quarter. This included capturing superior netbacks available from exports, as well as positioning product at our distribution terminals for the spring application season. As a result, we had a more open order book heading into the second quarter than usual. We have managed this well as the North American spring application season kicked off recently. Pricing in North America has risen as demand emerged, and all products started moving at a more normal rate. We expect this to be an active fertilizer season, application season, in 2023, with corn acres in the U.S. expected to be up about 5% and wheat acres up around 9% compared to 2022. Income at the farm gate in the United States and Canada is historically high, underpinned by an extended period of low grain stocks-to-use ratios, supporting high crop prices, as you can see on slide 9. We continue to believe that this will take two growing seasons at trend yields to replenish global grain stocks. This should support agricultural-led demand as growers seek to optimize nitrogen applications and maximize returns. That said, over the next seven to eight weeks, the entire value chain will be walking a logistics tightrope due to the purchasing delays. And with that, let me turn the call over to Chris.

speaker
Tony

Thanks, Bert. For the first quarter of 2023, the company reported net earnings attributable to common stockholders of $560 million, or $2.85 per diluted share. EBITDA was $924 million, and adjusted EBITDA was $866 million. These results reflect the impact of realized and unrealized losses related to natural gas derivatives. As you know, we typically engage in hedging activity during the winter months, to de-risk our exposure to shocks in the natural gas market, such as those that occurred with winter storm Yuri in 2021. As our winter hedges rolled off, we purchased natural gas at market prices during the second quarter. As we worked through higher cost inventory produced in the first quarter, we expect natural gas costs and our cost of goods sold to decline significantly. Looking ahead to the rest of 2023, We continue to expect approximately 9 to 9.5 million tons of gross ammonia production and $500 to $550 million in capital expenditures. With more than $2.8 billion of cash on the balance sheet, we are prepared to fund the cash portion of the Wegman facility purchase price. We have begun the regulatory approval process with the U.S. government, but cannot predict when it will be complete. We remain focused on discipline investments in our clean energy growth platform to meet the demand that our MOUs with Jarrah and Lotte indicate is emerging. Our blue and green ammonia projects at Donaldsonville are progressing towards their respective start-up dates, and the feed study for our proposed joint venture with Mitsui is advancing as well, and we expect to make a final investment decision later this year. Even with this activity, Our capital requirements for the year are modest compared to our cash on the balance sheet and our outlook for robust free cash generation. As a result, we expect to continue to return substantial capital to shareholders. Over the last 12 months, we have returned more than $1.3 billion to shareholders through share repurchases and another $320 million through dividends. With that, Tony will provide some closing remarks before we open the call to Q&A.

speaker
Tony

Thanks, Chris. Before we move on to your questions, I want to thank everyone at CF for all that they did during the first quarter of 2023. Their commitment to safety and outstanding execution continued to drive our company's performance. This is an exciting time for CF Industries. Global nitrogen market conditions, coupled with our network and operational expertise, support our outlook for superior cash generation. We are excited about the value that integrating the Wagman facility into our network will offer, and we have positioned the company at the forefront of global decarbonized ammonia supply, bringing together our expertise in ammonia production, enhanced by partnerships and collaborations with leading companies such as Jera, Lotte, Mitsui, ExxonMobil, and Nextera. Taken together, we are well positioned to increase our free cash flow generation and and grow shareholder participation in that free cash flow, enabling us to continue to build on our track record of creating substantial long-term value for shareholders. With that, operator, we will now open the call to your questions.

speaker
Operator

We will now begin the question and answer session. To ask a question, you may press star, then 1 on your touchtone phone. To withdraw from the question queue, please press star, then 2. The first question is from Adam Samuelson with Goldman Sachs. Please go ahead.

speaker
Adam Samuelson

Yes, thank you. Good morning, everyone. Good morning, Adam. Good morning. So, Tony, Bert, I guess this is actually a bit more of a longer-term question. And certainly, as you look at your own activity on the blue and green ammonia side, you've got a number of MOUs and projects that are kind of in various stages of development approaching FID. There's been a slew of announcements similar to your own in North America over the last year, and I'm just trying to get your kind of current perspective on the demand growth, especially the demand growth outside of traditional fertilizer channels that you are looking at as you think about 25, 26, 27, 28. Do you think that that demand is going to come in commensurate and consistent with some of the potential capacity that's starting to get put into the market, or is there how do we think about the ammonia market surplus balance through the later parts of the decade?

speaker
Tony

Yeah, I mean, I think that's an excellent question, and there's certainly a lot of uncertainty out there. I would say the one thing that gives us great optimism and comfort right now, Adam, is the fact that a lot of the agreements that we have put in place and the discussions that we're advancing are are with end users that are actually going to be consuming the product for a clean energy source. So whether it's Jera, Lotte, or a number of others, they are ultimately the end users of that product, and they're pretty far advanced in terms of their thinking and some of the pilot projects they have run on co-combustion and so forth. So we feel pretty comfortable that the demand is going to be developing Our sense is that it's probably going to start developing in larger kind of increments as we get into 27, 28 timeframe. But by the time we get to 2030, you know, I think there will be a sizable volume of ammonia consumed in nontraditional applications as clean energy sources. Whether or not the pacing of some of these projects you know, exceeds or lags that I think is to be determined. I think there's a lot of question in terms of some of these announcements. How real are they? And are they actually going to go forward? And are people going to be willing to put the money down? You know, what we saw back in 2012 was something like 26 or 27 announced new projects in North America that of which only four of them got built, two of them by us, two other ones, and all of them were built by, you know, traditional industry participants. So a lot of the speculative plants that were talked about never materialized. And I would expect that same dynamic to happen here. But, you know, I think it's an excellent question. One of those things that we are evaluating and thinking about. And, and one of the things that I'm also excited about is the, you know, the Wagman, um, acquisition gives us a lot of flexibility in terms of how we think about continuing to grow our own decarbonized ammonia platform base, uh, and, and different levers in terms of how to, to achieve that while, um, you know, while, uh, having, um, the same kind of S&D balance in the industry and not overwhelming kind of the marketplace. So I think we're in a really good position. I think North America is clearly the place where these projects will get built and should get built, both because of the huge natural resource base, access to low-cost natural gas, but also the ability to do carbon capture and sequestration and the incentive structures in the 45Q. So, you know, more to come, but I think there's a lot of vaporware announcements out there right now.

speaker
Adam Samuelson

All right, that's very helpful. Thank you. And if I just have a quick follow-up near term with the Wagaman getting funded out of cash on hand this year, how do we think about kind of Buyback pace from cash flow is light in the first quarter. I imagine you might have been blacked out for part of it because of the Wagman kind of transaction. But how do we think about cash return with Wagman going out the door?

speaker
Tony

Yeah, you're absolutely right. The first quarter was heavily influenced by the fact that we were in pretty advanced conversations for most of that quarter, and therefore we were blacked out from being able to do buybacks. And then we were able to kind of jump in after the announcement went out the door and participate a little bit. You know, I think we feel very comfortable about the amount of cash generation that we expect through the balance of this year, plus a sizable amount of cash on hand even after we consummate the Wagman purchase. And so, you know, we have a large share repurchase authorization in front of us that the board just put in place. But one of the things that we have seen is despite having what from a historical standpoint is a very strong Q1, including very strong cash generation, share price volatility that seems to trade on, you know, all kinds of other factors. And we're committed to taking advantage of those dips opportunistically in a way that really rewards our longer-term shareholders in a very substantial way. And so what you'll probably see is us diving in deeper and harder on the dips and less so you know, when we're trading relatively flatter. But I think taking over, you know, a year or two-year period, that should really disproportionately reward those that stay with us.

speaker
Adam Samuelson

I appreciate all that, Keller. I'll pass it on. Thank you.

speaker
Operator

The next question is from Stephen Byrne of Bank of America Security. Please go ahead.

speaker
Stephen Byrne

Yes, thank you. I'd like to better understand your own outlook for demand for nitrogen in both fertilizer and industrial markets, when do you anticipate that collective demand will warrant pulling that production in Europe back on stream, even if it's $15, $20 per million BTU? Do you anticipate that that demand could develop or is the reduce demand for nitrogen in some of the chemical end markets, basically eliminating that pull.

speaker
Barton

Good morning, Steve. This is Bert. And when you look at the outlook for nitrogen for 2023 and beyond, it's positive. As we've said, due to, on a fertilizer basis, the stocks to use ratio where we are and where we are structurally in the grain complex. With what we've lost in production in Argentina this year, and in terms of corn and what's not being either consumed or exported from Ukraine, it's a substantial portion of the world supply. Then you look at the Chinese demand, maintaining that 20, 21, 22 million metric tons of corn imports supporting the international market, we're structurally positive that it's going to take at least two years and possibly longer to refill that supply of grains. And so fertilizer demand should be very strong, and we're seeing that now recover in some of the countries that took kind of a purchasing holiday in 2022 due to high prices, Thailand, Turkey, some places in South America where demand is recovering quite substantially. And we're looking at additional acres in the United States, additional corn and wheat acres, so additional demand. Brazil's been very strong. We're anticipating probably close to 8 million tons of imports through 2023. They've only imported one to date, so demand ahead, as well as with India. So fertilizer should be, I would say, returning to its historical growth pattern of 1% to 2%, but probably greater in this year. And that's why I think you're seeing some of the price recoveries. Regarding industrial demand, we're still doing very well in terms of our industrial book. And it's diversified with nitric acid, ammonium nitrate, and DEF in North America. I think in Europe, you're going to see a little bit harder situation just due to the cost structure and the complications there. But I think that's what you'll see is imported ammonia helping to balance that supply. And we're looking at probably five to six, seven million tons of ammonia production capacity, either offline or curtailed. That's going to help support the whole industrial or the whole ammonia production globally as products move that direction. So we're structurally positive for this year and for demand on both industrial and fertilizer.

speaker
Stephen Byrne

And then, Bert, maybe more near term, do you anticipate pricing in the Corn Belt, particularly in the northern plains that may be tied on supply with the river being closed? Do you expect premium pricing to come through in the remaining of this quarter? How much have you sold forward? And can you comment on any allocation out of your Port Neal plant that we've heard about?

speaker
Barton

So when looking at, that's the dynamic that we're experiencing today. The product is tight. Through the last several quarters, a lot of the inventory has remained with the producer side or in inventory with the producers. And retail took a holiday for at least two, two and a half quarters of purchasing. Well, when you need that product promptly for walk-up demand, which is where we are today, you need it today, tomorrow, the next day. And it is short and it is very tight. Then it's exacerbated by these river issues on the Mississippi with the lock closures and the difficulty to move product that may be in the Gulf up to the Midwest where it's needed. So, yes, we went on allocation in Port Neal. We're producing every day at maximum rates, but a lot of demand came in for maybe a 30-day window contract. A lot of demand came in wanting it in the first week of the month, and we're allocating that out on a ratable basis to treat all of our customers fairly. So product is tight. We don't believe there's going to be enough urea. We believe that it will have to be migrating for second and third applications to ammonia and UAN, and we're preparing for that with a positioning product throughout the system. And pricing has extended from the normal spread of NOLA, let's say, $30 to the Midwest. It's between $50 and $100 today, and it will probably go up towards the higher end as we get to peak applications. We're pleased with our order book. We demonstrated well in Q1 what we did, and our pricing reflects that. And we're equally happy with where we are for Q2.

speaker
Operator

The next question is from Joel Jackson of BMO Capital Markets. Please go ahead.

speaker
Joel Jackson

Hi, good morning, everyone. I have a couple questions. Just on your answer before, Bert, maybe Tony will chime in too. So we know that retail, as your own words, took a buying holiday for two to two and a half quarters. Can you talk about that some more? They did that, and it seems like they won out for a while. Maybe now they're not winning. But is that going to change your strategy going forward? What are the lessons learned from this year in many years of your career?

speaker
Barton

Yeah, I'm just a spring chicken, so I just have a few years on my career. But this has been an interesting year and a difficult year. I give a credit to the teams, the production team operating safely and the distribution teams managing our terminals well. our logistics teams of working with at times six to seven tows and at times 20 for moving product up the river, and then the export program with the vessels we've contracted and the work that goes into that. So a lot of dispersion of responsibilities and taking good decisions. But the retail sector, I think, as reflected, prices were falling. I understand that if they bought $500 UAN and the market is now $300 UAN, How do they price that to the farmer? And the farmer's reading some of the same materials, whether that's the publications or online. And so there's this standoff. What is an appropriate price at the retail level? What should the farmer be paying? And so, in effect, they said, I'm going to stop buying because the farmer stopped buying. And as does happen when there's an imbalance, prices fall, and they fell quite hard in Q1. Um, but eventually this was our conversation with a lot of our customers. You need to plan because it can take rail cars days to be loaded and move and to come back and to have a full cycle. Same thing with barges. And so that's where we are right now in a difficult situation on the retail side of, for the second applications are enough for the first and second and third applications. And so pricing has rebounded and we're now the highest price market in the world. And we think that's going to extend through to Q2. And then inventory will be drained, positioning well for Q3. So I think every year is different. And we've had overpurchasing, aggressive purchasing, probably in 2022 as a reflection of fear. And this year, a lack of purchasing as a reflection of anticipation of overabundance. And so, you know, I think We'll see how this year unfolds, but as I said in my comments, it's going to be very logistically challenged.

speaker
Joel Jackson

My second question is actually a two-parter. Is there any reason why Q2 earnings should not be higher than Q1? A lot lower average gas costs, maybe pricing down, but volumes higher. My second part of that is, Is there any reason why this year should be different than other years where Q3 pricing is typically lower than Q2 pricing? Any reason why that may not be the case this year?

speaker
Barton

When you're looking at Q2 versus Q1, we're still in the beginning of the game. If it's a nine-inning game, I'd say we're in inning three. And product has been moving. A lot of demand has been coming in for prompt shipments. And so I think it's a little hard to speculate on where and what But we're active in all fronts. We are exporting, we are moving product, and we are taking new orders. So I think Q2 will be positive. When you look at Q3, right, traditionally, we do have a reset period. Why? You're asking customers to hold inventory in North America for up to nine months. And that's something we work closely with our retail and wholesale customers to make sure we're properly priced against the import alternatives. helping our customers move that product ratably because we want to keep our plants operating and be in a good position for fall demand, which is generally ammonium, and then spring demand for the three major nitrogen products. So I think it's a little too early to go into Q3.

speaker
Tony

Yeah, the other thing I would just add, Joel, is that, you know, there's still basically eight weeks or so to go here in Q2. So there's a lot to play for yet. And it's probably too early to make a call one way or another in terms of how we do sequentially quarter on quarter. But if you look at our price realizations reported in Q1, Bert did a great job with his team of really getting some good numbers there, despite the fact that you saw pricing kind of moderate throughout that quarter. And, you know, if you take a straight average, we did a great job of getting price compared to Q1. Current prevailing prices in the spot market today tend to be a bit below where our average prices were in Q1 as reported. And so, again, more to play for. We do expect some tightness in the marketplace. We do expect the inland premium and product coming out of Port Neal and MedHat. and, you know, our other facilities to really trade at a pretty significant premium given some of the logistical challenges that Bert talked about. And it's also clear based on Chris's comments that our gas costs should be a lot lower than it was in Q1. So all of those things are positive. But, you know, we're starting at a point where prevailing prices are a bit below where, you know, where our average price realization was in Q1. So more to play for. But, you know, sum all of that together, we still expect a great first half of the year by historical standards and to generate a lot of cash over this period of time. Q3 is, as you pointed out, normally a reset period. But, you know, every year is different. So stay tuned, I guess.

speaker
Tony

Yeah, I think the only thing I would add to that, Joel, is on the natural gas prices. While we're buying at lower prices today, significantly lower prices, We still do have in inventory some of those hedges that were the actual production that occurred in Q1. So some of that will roll off here in Q2, and then we'll get into sort of the $2 per m mbtu gas that we're seeing today and purchasing today.

speaker
Joel

Thank you.

speaker
Operator

The next question is from Christopher Parkinson of Mizuho. Please go ahead.

speaker
Christopher

Great. Thank you so much. You obviously alluded to this a few times in your PowerPoint, your prepared remarks, but the cost curve seems to be engaging at least a little bit more in a fluid manner than it has in the last 12 to 18 months, especially with European operating rates increasing. I would just love to hear your team's perspectives on what your, let's say, second half slash normalized view of import-export trends are going to be just given the dynamics of in Europe right now? I mean, do you still expect more product coming out of MENA, specifically North Africa to Europe, you know, in terms of also ammonia trade flows, as you saw last year, going into Europe to, you know, basically supplement some of the product that's still offline? Just any quick thoughts on that, as well as you, Ian, would be incredibly helpful. Thank you so much.

speaker
Tony

Yeah, Chris, I'll start and then hand the mic over to Bert here in a second. But MENA is running at full rates, and so it's not like we're going to see incrementally more product coming out of MENA. Local consumption is relatively low in region, and so it's a pretty constant stream of product coming out of MENA. That said, our belief is it's a pretty tough operating environment in Europe. The reason why is there's a very steep contango on the gas forward curve between Q3 and Q4. And even if you see prices, the spot market moderate a little bit on gas, it's kind of hard to want to campaign an ammonia plant for three months or four months of operation. It takes a terrible toll on the equipment to heat it up and then cool it back down again. And plants don't operate well when you're pulling them up and down like that, at least on the ammonia side. And so, you know, we do not expect Europe to return to kind of historical relatively higher operating rates. We think it's going to be spotty and campaigned, and I think the upgrades will run, but that means it's a sink for ammonia as opposed to, you know, producing ammonia locally. We do think that Europe is going to go ahead and continue to evaluate and look at bringing in more urea and UAN as an alternative to locally produced nitrates. And, you know, I think that that bodes well for our production network in North America.

speaker
Barton

Yeah, just some of the numbers behind Tony's comments. When you're at 20 million tons more or less of production capacity in Europe, West and East, and you have five to seven of that off-liner curtailed, that's an impact of about two million tons of urea. So as those demands for that nitrogen are needed in Europe and they're pulling those imports in from wherever, that is structurally helpful to the global nitrogen complex and supporting prices. And as we go more towards winter, that only is further placing those plants in difficulty. with an operating environment plus carbon costs. Today, I would say that cost for ammonia is probably $550 to $600, where you can import for substantially less. So it makes sense, and that then supports the global price of ammonia. So I think that these trends only continue and get worse as we hit winter.

speaker
Christopher

And just as a quick follow up, Tony, it sounds ludicrous to mention this now, but we used to discuss normalized earnings many years ago between, let's say, 1.3 and 1.8 of EBITDA. Now, I think in most people's analysis, it's probably, let's not say quite, but almost double that. When I take a step back and I look at, obviously, your M&A pipeline as well as the deals with Jared Mitsui, do you have any additional thought for us on just how you're enhancing and improving CF's normalized EBITDA profile, not only for 23 and 24, but quite frankly, for the balance of the decade. Do you have any insights on your way of thinking there? Thank you so much.

speaker
Tony

Yeah, I mean, I think a lot of the new demand that we're looking at for ammonia as a clean energy source is much more likely to be kind of longer-term contractually based with ratable offtake and a return profile that's attractive based on either the acquisition price of the asset or the build construction if it's new build. And so our expectation is that you know, we believe that we're the best operators of these kind of assets in the world. We operate in one of the lower cost regions. There's incentive structures out there from a legislative perspective and access to some great partners like we have with, you know, ExxonMobil and others to help us achieve blue ammonia. And so from that perspective, you know, we think that we can earn a really attractive rate of return on incremental capital that we're putting in the ground on these kind of projects. And it's likely to be much more kind of ratable and fixed rate of return than it is subject to some of the volatility in the fertilizer space. And so we think that adding some of those layers of attractive fixed margin returns will be pretty additive to the overall valuation of the enterprise going forward, will continue to generate some good cash flow for us that we can deploy either against share repo or, you know, appropriate growth projects when we find opportunities to continue to generate those rates of return. So, you know, we'll probably see us doing more of that kind of thing, particularly as this new demand source emerges.