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Ten years ago, when Bill Doyle embarked on one of the biggest production expansion programs in the history of the potash business, there was an obvious rationale: the global population is rising, and the world has limited arable land to grow crops. More potash will be needed.
A decade later, that thesis remains as true as ever. But the logic of the expansion is not so obvious. The shareholders of Mr. Doyle’s company, Potash Corp. of Saskatchewan Inc., cannot help but think about two key numbers: nine and 17.
Nine million tonnes is Potash Corp.’s anticipated production level in 2013. Thanks to those expansion projects, its capacity will be 17.1 million tonnes by 2015. Even this year, Potash Corp.’s production will not come close to its capacity of 12.8 million tonnes. So what will it do with 17?
It is fair to say that this is not the scenario Mr. Doyle envisioned when he greenlighted the $8.3-billion expansion a decade ago. If even some of that money was returned to shareholders instead, they would have been ecstatic. It has led some onlookers to suggest that Potash Corp. and other producers, which are also ramping up production, have expanded too far and too fast, costing themselves pricing power.
In hindsight you could say that,” said Fai Lee, an analyst at Odlum Brown. “But at the time, [the expansions] seemed to make sense because demand was growing at a reasonably steady pace. Call it 4%.”
The problem is that demand unexpectedly flatlined in the last several years, leaving the industry with too much capacity. Oversupply has become a major concern for investors and contributed to the negativity surrounding the sector, despite forecasts of higher demand this year.
“There has been zero potash demand growth in the last eight or nine years. Zero,” said National Bank analyst Robert Winslow. “And while demand has been flat, supply has been rising.”
Mr. Lee said global production capacity has grown by about 10 million tonnes since 2007, despite flat demand. And Mr. Winslow calculated that supply will grow an additional 4% per year through 2017. This is what he calls “high-probability” supply, meaning it comes from existing producers. It does not even account for potential new entrants like BHP Billiton Ltd., which wants to build the world’s largest potash mine by far.
It raises the question of when demand will finally catch up to supply, and how much idled production the industry will be stuck with in the meantime. The more excess capacity there is, the tougher it will be to raise prices.
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