Who pays the freight?

Have you ever thought about why it is that you pay the freight to ship your grain out but you also pay the freight to ship your fertilizer in? That doesn’t seem right (and actually it’s not always true). I’m sure some of you rationalize it by thinking that it is just another case of the farmer getting screwed but it’s really not that simple.

The decision about who pays the freight depends on whether the freight region is a net importer or exporter of the commodity in question. In the grain example the west is clearly an exporter. We export into an international market so the grain has an established market value at tidewater. The costs to get the grain to port are borne by producers because the buyers would simply go elsewhere if we attempted to get a higher price at the port. It is useful to note that the more we are able to differentiate our production the more we are able to extract a premium to compensate us for the freight but that’s the subject for a whole ‘nuther post.

According to the latest available shipping statistics from the Canadian Fertilizer Institute (www.cfi.ca), Canadian manufacturers exported roughly 600,000 te. of ammonia, 1.3 million te. of urea, 200,000 te. of nitrate and 400,000 te. of UAN in the fertilizer year 2007-08. Virtually all of those exports went to the U.S. Most of the Canadian potash production was also doubtless exported but CFI doesn’t report those numbers for current years. For the years 2004/05 CFI reported 17 million te. of Potash exported and for 2005/06 over 12 million te. were reported. Those export numbers are really good news for Canadian farmers.

Before we talk about why high fertilizer exports are good for domestic farmers, let’s look at how fertilizer is priced in North America. Phosphate fertilizer is definitely an import for Canadian farmers. Agrium produces phosphate fertilizer at Redwater but the rock phosphate to produce that fertilizer is imported. So your phosphate fertilizer is ultimately an import, even if it was processed in Canada.

The fact that your phosphate is imported means that you have to pay the freight to get it here. It has a value somewhere on the Mississippi river, for argument’s sake let’s say it is reference Minneapolis. At one time the reference point was New Orleans but it doesn’t really matter exactly where the reference point is. The point is that the fertilizer has an internationally established value somewhere outside Canada.

In order for us to buy the fertilizer we have to be prepared to pay the price wherever the international reference point is. Then in addition we have to pay the freight to get it here. That leads to the bizarre situation where a farmer who can see the Agrium facility at Redwater will actually pay more for his phosphate than one at Yorkton or Morden. The fertilizer will get processed at Redwater, loaded on trucks or rail, hauled to an intransit warehouse, off-loaded or transloaded, delivered to a retail facility somewhere on the east side of Sask. or west side of Manitoba and still sell for less money than it will right next door to the Agrium facility. The simple reason is that the farmers closer to Minneapolis have other options. They can deal with brokers and bring in fertilizer from the US. The simple rule is that the farther your farm is from New Orleans, the more you will pay for phosphate.

So what about nitrogen or potash where we are net exporters? The story is the exact opposite. Imagine you are a manufacturer with more nitrogen capacity than what you can sell into the Canadian market. Your excess nitrogen production has an established market value somewhere in the U.S. Midwest but you have to get it there in order to sell it. The freight to get it into selling position is a cost to you so you could actually sell the nitrogen for less than that market price closer to home and still obtain higher net returns. That in turn becomes a cost of production advantage for Canadian farmers.

About five years ago now when natural gas prices got so ridiculously high I heard the CEO of Saskferco say that it didn’t matter what happened to gas prices. If they got too high to produce nitrogen locally his company would just import nitrogen from offshore. On the surface that seems like a reasonable response but the impact on Canadian farmers is huge. Rather than getting a price break on nitrogen due to freight costs our farmers would then have to pay additional freight to import nitrogen. In effect that is double jeopardy – losing the advantage of the freight plus having to pay the freight is a double hit.

As a higher percentage of our domestic nitrogen production is consumed in western Canada so too will the domestic manufacturers become less susceptible to international pricing. Obviously they have to be aware of pricing in the Midwest U.S. but the closer we get to seeding the harder it is for Canadian producers to substitute U.S. supply. There are also a host of non-tariff barriers to trade that have to be overcome to arbitrage price differences between the U.S. and Canada. For example, we have different placarding requirements for ammonia and different trucking configurations with neighbouring states.

But right now all that really matters is getting the 2009 crop in the bin. Fertilizer for the 2010 crop seems less important when last year’s crop is still lying in the field. Don’t miss the pricing opportunities that the current weather is exposing in the fertilizer market. If you are worried about getting your crop in then perhaps your fertilizer dealer is worried that you won’t get it in too.