CVR Partners: Natural Gas Is The Key (NYSE:UAN)

Investment Thesis

CVR Partners (NYSE:UAN) produces ammonia and urea ammonium nitrate (UAN) fertilizers.

On the one hand, this business is highly favored by investors due to its master limited partnership (”MLP”) capital structure. This means that the business distributes the majority of its earnings.

On the other hand, despite what anyone, including myself, predicted, fertilizer prices are dropping. So, what’s next?

Without being emotionally attached to this investment, let’s consider UAN rationally. Here’s what you need to know.

Fertilizer Market Goes into a Tailspin

Across the board, from ammonia to urea nitrate, fertilizer prices are down. Not only in the past few months, but also, compared to a year ago, where prices are down at least 10% y/y. So what happened to fertilizer prices?

Here are the facts. Many people, myself included, believed that global geopolitical tensions would lead to a shortage of fertilizer. This saw fertilizer prices soaring higher in the early parts of 2022.

And then, as a consequence, farmers pushed back against the higher fertilizer prices, and this saw prices falling. But here’s the next part of the trouble.

Prices are still, even now, falling. Why? One reason is Russian’s exports.

The graphic above shows revenues and not volumes. But it’s safe to say that there’s some level of correlation between the two.

For our purposes, it shows that Russia was not impacted by the war. As shipments to Turkey and other countries jumped massively.

That puts to rest a large part of the bull case that investors had for UAN in 2022 to rest. It didn’t work out as planned.

So is This It? Is it all Over Now?

What you see above is a reminder that nearly two-thirds of UAN’s input costs are coming from natural gas.

And as you know, natural gas prices have meaningfully sold off in the past several weeks and are down approximately 50% in the past month or so.

Consequently, if UAN’s input costs come down, that means that even with a slight decline in UAN28 (the fertilizer), UAN could still be substantially profitable in 2023. At least in the early parts of 2023, even without any consideration towards UAN28 prices improving.

UAN Valuation — What Will The 2023 Yield Be?

Before attempting to predict what the yield will be for 2023, allow me to remind you that back in 2022, the market as a whole was predicting that UAN’s share price would be much higher by now. And investors would have been wrong about this assumption.

Nevertheless, as investors, we must start our thinking somewhere. Consequently, I believe that $15 to $20 per unit could be on the cards. For this figure, I took UAN’s trailing twelve months’ cash distribution of $19.32 as of Q3 2022 as my starting assumption.

Then, I added to this figure the fact that in Q3 UAN’s plants were running at reduced capacity in Q3 due to maintenance cleans. This is something that happens biennially (once every second year). Hence utilization rates dropped to 52% down from 94% in the prior year. This will provide a boost to profits in 2023.

And then, on top of that, I have used my estimation that combines a lower UAN28 price decline of 10%, but also considering what we discussed about natural gas prices falling, which should provide plenty of support to the business’ cash flows.

The Bottom Line

There are a lot of moving parts afoot. The key conclusion is that I believe that investors will get somewhere around $15 to $20 in distributions in 2023, amounting to a yield of around 15% or thereabouts for the year.

The downside affecting UAN is the same that took hold of the company for the majority of H2 2022. And that is that fertilizer prices are falling. And until fertilizer prices stabilize, this stock will continue to reflect investor uncertainty.