How Much Value in Terra Industries?

I was scanning through some data on Terra Industries (TRA) and an interesting fact caught my eye. TRA has a current market capitalization of $1.4 billion. TRA is the general partner and holds 75.1% of the common units of Terra Nitrogen Holdings LP (TNH). TNH has a market cap of $1.7 billion. As GP, Terra Industries currently receives about 40% of Terra Nitrogen’s net income plus its 75% share of the regular distributions.

TNH has been popular with investors due to its high quarterly distributions. The company is a limited partnership that pays out the majority of the earnings of a single nitrogen plant in Verdigris, OK. Earlier this year, I wrote an article on the changes in TNH’s income payout that were of increased benefit to the GP and decreased the cash available to the common unit holders. The market has paid little attention to my analysis as TRA stock has fallen by 65% from when the article was written and TNH is off only 35% and shareholders have picked up $10.63 in dividends.

Let us look at the value divergence between the two Terras. Terra Industry’s 75% stake of TNH is worth $1.27 billion at current values. If the GP (wholly owned by TRA) collects 40% of Terra Nitrogen’s income before any distributions are made, let us value the general partnership of TNH at, say, $430 million (40% times $1.7 billion with a 1/3 knocked off as a fudge factor). This gives Terra Industry’s holdings in Terra Nitrogen a total value of $1.7 billion, $300 million more than TRA’s entire market cap.

TNH revenues are consolidated into the TRA income sheet and for the 3rd quarter TNH generated 31% of Terra Nitrogen’s total revenues. So the market is giving 69% of Terra Industry’s business a value of negative $300 million. Oh, and did I mention, TRA is sitting on $680 million in cash, half of the current market cap.

I know the short term future of fertilizer companies is considered bleak by many, but this current valuation of TRA is ridiculous. A couple of points to consider: Currently, Terra’s cost of natural gas is $4 to $5 less than its international competitors in Europe and the Ukraine. Low natural gas prices (the main component of nitrogen production) will allow TRA to maintain excellent margins even at significantly lower fertilizer prices. U.S. farmers will still plant a minimum of 85 million acres of corn next year and world demand for grains will continue to grow as populations increase. The dollar strength argument against grain exports seems a little weak since corn prices have fallen by 60% from their springtime peak and the dollar has rallied only 25% to 30%.

I am not sure the market will give up on the beating up of fertilizer stocks soon. I just wanted to point out that the current belief as reflected in the share price of Terra Industries may be very misguided.-- Tim Plaehn in Seeking Alpha