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Emerging Markets Planting the Seeds for Fertilizer Growth

As caloric needs increase around the world, potash companies are a good way to play the trend.

Growth prospects for emerging-market diets remain robust. We expect no slowdown in absolute caloric intake in the next decade compared with the prior decade. Poorer places such as India and sub-Saharan Africa drive much of the growth. Relatively richer emerging countries such as China will shift what they eat, which can have just as meaningful implications for agriculture input producers as how much a country eats. This growth story underpins an attractive demand outlook for fertilizer, particularly potash. India and sub-Saharan Africa will drive much of the food consumption growth in emerging markets. We expect that sub-Saharan Africa's caloric demand growth will be equivalent to the calories consumed by Germany, France, the United Kingdom, and Italy combined. India's growth will match the total caloric intake of two Japans. Each would exceed China's caloric gain of the past decade.

Wide-moat  Potash Corp (POT) remains our favorite way to play this trend. Not only does the company hold an advantageous position on the global cost curve, but PotashCorp has spare capacity that should be filled by growing demand from emerging markets.

Emerging-Market Food Demand Will Remain Strong Over the Next Decade
We expect caloric growth in emerging markets to remain robust through 2022, with absolute caloric intake growth roughly equal that of the past decade. However, the sources of growth will be very different. Higher caloric intake in India and sub-Saharan Africa and increased meat consumption in China highlight our forecast. Accounting for economic and demographic factors (age, population, and urbanization), we expect sub-Saharan Africa and India to post the largest increases in total caloric intake by 2022. We forecast a 942 billion kcal increase in daily food consumption by 2022 for sub-Saharan Africa and a 684 billion kcal increase for India. These are meaningful increases that will have significant consequences for global food and agriculture markets. Sub-Saharan Africa's growth would be equivalent to the calories consumed by Germany, France, the United Kingdom, and Italy combined. India's growth would match the total caloric intake of two Japans. Each would exceed China's caloric gain of the past decade.

China will continue to drive growth in global meat consumption. For its income, China already obtains an unusually high share of its calories from meat. But based on consumption patterns across incomes and the rural-urban divide in China, we see more growth to come: 23% per capita to 2022. Though slower than the past decade (27%), a higher starting point means a greater absolute gain: 25 billion kilograms annually, slightly more than the meat consumption of Germany, France, the U.K., and Italy combined (23 billion kg).

How Will the Agriculture Sector Satisfy the Emerging World’s Growing Appetite?
Based on our estimates, China, India, Brazil, sub-Saharan Africa, and Southeast Asia will consume 11.7% more kilocalories from cereals, 10.6% more from beef, 3.7% more from pork, and 22.6% more from chicken, from 2011 to 2022. It's also important to remember the multiplier effect that meat places on crop demand. For example, it takes roughly 7 kilograms of grain to produce 1 kilogram of beef. For pork and poultry, the multipliers are 4 and 2, respectively. Thus, as a population moves from eating mainly grain to consuming more meat, the level of grain production needed to support that population increases substantially.

Incremental food consumption will need to be met by increased food production, a function of acres under agricultural production and yields, both for crops and livestock. How will this need be met? By increasing land under production or driving yields higher? The answer is both, but with yield progress contributing the lion's share. The world's ability to plant more and more acres is limited, with Brazil as the notable exception.

The World Lacks Sufficient Spare Arable Land to Meet Rising Emerging-Market Demand
At current yield, we estimate that 15% more arable land would need to be planted with cereals over the next decade just to satisfy demand from cereals and meat from China, India, Brazil, sub-Saharan Africa, and Southeast Asia. This new area of planted crops would be on par with the land area of Texas and California combined. The growth in crop land over the past decade was only 2.4%. From 1961 to 2011, global crop land increased only 13.3%. With limited opportunities to increase arable land, the majority of gain must come from yield increases.

Fertilizer Application Is a Relatively Easy Way to Improve Crop Yields
Optimizing fertilizer application offers a relatively easy way to drive yield improvement. Though the cost of additional fertilizer is an obvious headwind to higher application rates, there exist fewer structural barriers to overcome compared with other yield-enhancing alternatives. For example, genetically modified seeds require government approvals and encounter stiff social opposition in many countries. Large-scale farming, another route to yield improvement, requires broad and expensive mechanization and, in many cases, land reform.

While easier than other farming improvements, increased fertilizer application still has hurdles. If it did not, we would already see emerging economies applying more fertilizer. Headwinds to increased application rate include insufficient farmer funds, lack of government investment in agricultural improvements, the potential for environmental damage, and lack of knowledge of the benefits of optimal fertilizer application. For example, subsistence farmers in Africa may lack the funds to apply fertilizers or may not know what yield benefit he or she could expect from application. Further, China is struggling with nitrogen fertilizer runoff leading to water contamination and more acidic soils, which can harm crop yields.

Current Fertilizer Application Rates Favor Potash Growth Over Phosphate and Nitrogen
Developed-market fertilizer application rates offer a gauge of the growth potential in emerging markets. We use the United States as a proxy for efficient fertilizer application. However, we cannot simply divide the amount of potash or nitrogen that the United States uses by total area planted to crops and compare that with China. Different crops require significantly different amounts of fertilizer. Crop mix differs substantially among countries. Comparing fertilizer application by crop across countries gives us a much better approximation of the growth potential. We use International Fertilizer Industry Association (IFA) data from 2011 to judge relative growth opportunities among nitrogen, phosphate, and potash.

Opportunities to increase potash application to corn are abundant in emerging markets. U.S. farmers apply potash to corn at a rate of about 60 kg/Ha (53 lbs/ac), which far outpaces China (16 kg/Ha), India (7 kg/Ha), and even more advanced farming countries like Brazil (47 kg/Ha) and the European Union (40 kg/Ha). On average, world farmers apply potash to corn at a rate of 24 kg/ha.

If Chinese and Indian farmers applied potash to corn at the same rate as their U.S. counterparts, the two countries would consume 36% more potash annually. This would push global potash consumption up by as much as 5%. And while corn is perhaps the most glaring example of potential underapplication, there is potential for potash growth in other crops as well.

However, the story is different for nitrogen and phosphate. For example, Chinese farmers are already applying more nitrogen to wheat than U.S. farmers are. Further, China, India, and Indonesia are applying material amounts of nitrogen to soybeans. This is curious because soybeans create or "fix" their own nitrogen from the atmosphere. China, India, and Indonesia apply 37 kg/ha, 23 kg/ha, and 24 kg/ha, respectively, compared with much lower application rates in the United States (3 kg/ha), Brazil (5 kg/ha), and the EU (3 kg/ha). This case in particular highlights what we see as a potential overapplication of nitrogen in emerging markets.

Emerging Markets to Fuel Potash Demand Growth
Emerging markets will be the driver of potash consumption growth. Globally, we expect potash consumption to grow at an annual rate of 3.6% from 2013 to 2020. In China, which consumes about 20% of global potash, gaps in application rates by crop with more developed farming economies are likely to narrow. Additionally, we think crop mix in China will continue to shift to fruits and vegetables and away from basic staples, like rice. In general, fruits and vegetables require more potash than grains. We think China's annual growth rates will average about 4% through the end of the decade, which is similar to growth rates from 2000 to 2011.

In India, the government subsidy program for fertilizers has led to relative price increases for potash compared with nitrogen, leading to a marked decline in Indian potash consumption. In 2013, the country consumed about 3.5 million metric tons of potash, or roughly 6% of global demand. Given food security concerns in the country and the likely damage that underapplication of potash will do to crop yields, we think the government will eventually be forced to adjust the subsidy program back toward previous levels. India potash shipments peaked above 6 million metric tons in 2010, and we expect the country to exceed this level by the end of the decade.

Potash consumption growth in Latin America will be primarily driven by an increase in planted acres, as Brazil remains one of the few places in the world that is set to add land to crops. North American potash consumption should be relatively flat, with application rates near efficient levels already and opportunities to increase crop land limited; however, there may be some upside given possible underapplication in recent years. For example, Iowa State University has made upward revisions to its potash application rates for corn and soybeans.

Jeffrey Stafford does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.