filings.toolsItem 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
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Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
You should read the following discussion and analysis in conjunction with the consolidated financial statements and related notes included in Item 8. Financial Statements and Supplementary Data. All references to “CF Holdings,” “we,” “us,” “our” and “the Company” refer to CF Industries Holdings, Inc. and its subsidiaries, except where the context makes clear that the reference is only to CF Industries Holdings, Inc. itself and not its subsidiaries. All references to “CF Industries” refer to CF Industries, Inc., a 100% owned subsidiary of CF Industries Holdings, Inc. References to tons refer to short-tons. Notes referenced in this discussion and analysis refer to the notes to consolidated financial statements that are found in Item 8. Financial Statements and Supplementary Data—Notes to Consolidated Financial Statements. The following is an outline of the discussion and analysis included herein:
| • | Overview of CF Holdings |
| • | Our Company |
| • | Industry Factors |
| • | Items Affecting Comparability of Results |
| • | Financial Executive Summary |
| • | Results of Consolidated Operations |
| • | Year Ended December 31, 2018 Compared to Year Ended December 31, 2017 |
| • | Year Ended December 31, 2017 Compared to Year Ended December 31, 2016 |
| • | Operating Results by Business Segment |
| • | Liquidity and Capital Resources |
| • | Off-Balance Sheet Arrangements |
| • | Critical Accounting Policies and Estimates |
| • | Recent Accounting Pronouncements |
Overview of CF Holdings
Our Company
We are a leading global fertilizer and chemical company. Our 3,000 employees operate world-class manufacturing complexes in Canada, the United Kingdom and the United States. Our principal customers are cooperatives, independent fertilizer distributors, traders, wholesalers, farmers and industrial users. Our principal nitrogen fertilizer products are ammonia, granular urea, urea ammonium nitrate solution (UAN) and ammonium nitrate (AN). Our other nitrogen products include diesel exhaust fluid (DEF), urea liquor, nitric acid and aqua ammonia, which are sold primarily to our industrial customers, and compound fertilizer products (NPKs), which are solid granular fertilizer products for which the nutrient content is a combination of nitrogen, phosphorus and potassium. We serve our customers in North America through our production, storage, transportation and distribution network. We also reach a global customer base with exports from our Donaldsonville, Louisiana, plant, the world’s largest and most flexible nitrogen complex. Additionally, we move product to international destinations from our Verdigris, Oklahoma, facility, our Yazoo City, Mississippi, facility, and our Billingham and Ince facilities in the United Kingdom, and a joint venture ammonia facility in the Republic of Trinidad and Tobago in which we own a 50 percent interest.
Our principal assets include:
| • | five U.S. nitrogen fertilizer manufacturing facilities, located in Donaldsonville, Louisiana (the largest nitrogen fertilizer complex in the world); Port Neal, Iowa; Yazoo City, Mississippi; Verdigris, Oklahoma; and Woodward, Oklahoma. These facilities are owned directly or indirectly by CF Industries Nitrogen, LLC (CFN), of which we own approximately 89% and CHS Inc. (CHS) owns the remainder. See Note 17—Noncontrolling Interests for additional information on our strategic venture with CHS; |
| • | two Canadian nitrogen fertilizer manufacturing facilities, located in Medicine Hat, Alberta (the largest nitrogen fertilizer complex in Canada) and Courtright, Ontario; |
| • | two United Kingdom nitrogen manufacturing facilities, located in Billingham and Ince; |
CF INDUSTRIES HOLDINGS, INC.
| • | an extensive system of terminals and associated transportation equipment located primarily in the Midwestern United States; and |
| • | a 50% interest in Point Lisas Nitrogen Limited (PLNL), an ammonia production joint venture located in the Republic of Trinidad and Tobago that we account for under the equity method. |
Our nitrogen fertilizer manufacturing facility in Verdigris, Oklahoma, is owned and operated by Terra Nitrogen, Limited Partnership (TNLP). Prior to April 2, 2018, TNLP was a subsidiary of Terra Nitrogen Company, L.P. (TNCLP), which was a publicly traded limited partnership of which we were the sole general partner and the majority limited partner, and in which we owned an approximate 75.3% interest.
On February 7, 2018, we announced that, in accordance with the terms of TNCLP’s First Amended and Restated Agreement of Limited Partnership (as amended by Amendment No. 1 to the First Amended and Restated Agreement of Limited Partnership, the TNCLP Agreement of Limited Partnership), Terra Nitrogen GP Inc. (TNGP), the sole general partner of TNCLP and an indirect wholly owned subsidiary of CF Holdings, elected to exercise its right to purchase all of the 4,612,562 publicly traded common units of TNCLP (the TNCLP Public Units). TNGP completed its purchase of the TNCLP Public Units on April 2, 2018 (the Purchase) for an aggregate cash purchase price of $388 million. We funded the Purchase with cash on hand. Upon completion of the Purchase, CF Holdings owned, through its subsidiaries, 100 percent of the general and limited partnership interests of TNCLP.
Industry Factors
We operate in a highly competitive, global industry. Our operating results are influenced by a broad range of factors, including those outlined below.
Global Supply and Demand Factors
Our products are globally traded commodities and are subject to price competition. The customers for our products make their purchasing decisions principally on the basis of delivered price and, to a lesser extent, on customer service and product quality. The selling prices of our products fluctuate in response to global market conditions, changes in supply and demand and different cost factors.
Historically, global fertilizer demand has been driven primarily by population growth, gross domestic product growth, changes in dietary habits, planted acreage, and application rates, among other things. We expect these key variables to continue to have major impacts on long-term fertilizer demand for the foreseeable future. Short-term fertilizer demand growth may depend on global economic conditions, farm sector income, weather patterns, the level of global grain stocks relative to consumption, fertilizer application rates, and governmental regulations, including fertilizer subsidies or requirements mandating increased use of bio-fuels or industrial nitrogen products. Other geopolitical factors like temporary disruptions in fertilizer trade related to government intervention or changes in the buying/selling patterns of key exporting/consuming countries such as China, India, Russia and Brazil, among others, often play a major role in shaping near-term market fundamentals. The economics of nitrogen-based fertilizer manufacturing play a key role in decisions to increase or reduce production capacity. Supply of fertilizers is generally driven by available capacity and operating rates, raw material costs and availability, government policies and global trade. Raw materials are dependent on energy sources such as natural gas or coal; therefore, supply costs are affected by the supply of and demand for these commodities.
Strong demand, high capacity utilization and increasing operating margins as a result of higher global nitrogen fertilizer prices stimulated global investment in nitrogen production facilities, which resulted in an increase in global nitrogen fertilizer production capacity. At times, global nitrogen fertilizer capacity increased faster than global nitrogen fertilizer demand, creating a surplus of global nitrogen capacity in the market, and leading to lower nitrogen fertilizer selling prices.
Global Trade in Fertilizer
In addition to the relationship between global supply and demand, profitability within a particular geographic region is determined by the supply/demand balance within that region. Regional supply and demand can be influenced significantly by factors affecting trade within regions. Some of these factors include the relative cost to produce and deliver product, relative currency values, the availability of credit and governmental trade policies, including the imposition of duties, tariffs or quotas, that affect foreign trade or investment. The development of additional natural gas reserves in North America over the last decade has decreased natural gas costs relative to the rest of the world, making North American nitrogen fertilizer producers more competitive. These lower natural gas costs contributed to announcements of several nitrogen fertilizer capacity expansion projects in North America, including our capacity expansion projects in Donaldsonville, Louisiana and Port Neal, Iowa, which
CF INDUSTRIES HOLDINGS, INC.
were completed in December 2016. Changes in currency values may also alter our cost competitiveness relative to producers in other regions of the world.
Imports account for a significant portion of the nitrogen fertilizer consumed in North America. Producers of nitrogen-based fertilizers located in the Middle East, the Republic of Trinidad and Tobago, Venezuela, North Africa, Russia and China have been major exporters to North America in recent years.
Farmers’ Economics
The demand for fertilizer is affected by the aggregate crop planting decisions and fertilizer application rate decisions of individual farmers. Individual farmers make planting decisions based largely on prospective profitability of a harvest, while the specific varieties and amounts of fertilizer they apply depend on factors like their current liquidity, soil conditions, weather patterns, crop prices, fertilizer products used and timing of applications, expected yields and the types of crops planted.
Items Affecting Comparability of Results
Nitrogen Fertilizer Selling Prices
The U.S. Gulf is a major global fertilizer pricing point due to the volume of nitrogen fertilizer that trades there. Through most of 2016, nitrogen pricing at the U.S. Gulf declined, often trading below parity with other international pricing points due to the combination of new global nitrogen production capacity that came on line in 2016, continued imports from various exporting regions and decreased North American buyer interest as a result of greater global nitrogen supply availability. Seasonal decreases in agricultural demand combined with delayed customer purchasing activity resulted in multi-year lows in nitrogen fertilizer selling prices in the second half of 2016. In 2017, the significant price fluctuations we experienced continued and were symptoms of a market in transition as new capacity came on line and global trade flows began to adjust.
In 2018, higher energy costs in Asia and Europe, along with continued enforcement of environmental regulations in China, resulted in lower nitrogen production in these regions. In addition, outages impacted the nitrogen supply and demand balance. These factors collectively drove global nitrogen prices higher throughout 2018.
The average selling price for our products for 2018, 2017 and 2016 was $229 per ton, $207 per ton and $217 per ton, respectively. The increase in average selling prices of 11% in 2018 from 2017 increased net sales by $520 million. The decline in average selling prices in 2017 from 2016 reduced net sales by $293 million.
Sales Volume
In the first quarter of 2018, drought conditions in the Southern Plains along with wet and cold temperatures throughout much of the Midwestern United States and the United Kingdom delayed the spring application season and impacted sales volume. This delay in the spring application season resulted in high inventory levels both entering and through much of the second quarter as volume typically shipped in the first quarter was instead shipped in the second quarter of 2018. After the delayed spring application season, through the first nine months of 2018, sales volume for our products was essentially unchanged compared to the first nine months of 2017. In the fourth quarter of 2018, our sales volume declined 11% compared to the prior year fourth quarter, due primarily to the impact of unfavorable weather conditions in the Northern Plains and the Midwestern United States, which limited fall fertilizer applications of ammonia and the impact of lower ammonia and AN production due to plant turnaround and maintenance activity.
Sales volume for our products in 2018, 2017 and 2016 is shown in the table below.
| 2018 | 2017 | 2016 | ||||||||||||||||||
| Sales Volume (tons) | Net Sales | Sales Volume (tons) | Net Sales | Sales Volume (tons) | Net Sales | |||||||||||||||
| (tons in thousands; dollars in millions) | ||||||||||||||||||||
| Ammonia | 3,135 | $ | 1,028 | 4,105 | $ | 1,209 | 2,874 | $ | 981 | |||||||||||
| Granular urea | 4,898 | 1,322 | 4,357 | 971 | 3,597 | 831 | ||||||||||||||
| UAN | 7,042 | 1,234 | 7,093 | 1,134 | 6,681 | 1,196 | ||||||||||||||
| AN | 2,002 | 460 | 2,353 | 497 | 2,151 | 411 | ||||||||||||||
| Other | 2,252 | 385 | 2,044 | 319 | 1,654 | 266 | ||||||||||||||
| Total | 19,329 | $ | 4,429 | 19,952 | $ | 4,130 | 16,957 | $ | 3,685 |
CF INDUSTRIES HOLDINGS, INC.
The decrease in sales volume in 2018 from 2017 was due primarily to the impact in the fourth quarter of 2018 of unfavorable weather conditions in the Northern Plains and the Midwestern United States. In addition, the volume decline reflects lower ammonia and AN production, primarily in the fourth quarter of 2018, as a result of plant turnaround and maintenance activity. The decline in sales volume decreased net sales by $221 million in 2018. The increase in total sales volume in 2017 from 2016 was due primarily to higher ammonia and granular urea sales volumes, driven by increased production from the completion of our capacity expansion projects in December 2016. This increase in sales volume increased net sales by $738 million in 2017.
Other Items Affecting Comparability of Results
During the years ended December 31, 2018, 2017 and 2016, certain significant items impacted our financial results. The following table and related discussion outline these significant items and how they impacted the comparability of our financial results during these periods. Positive amounts in the table below are costs or expenses incurred, while negative amounts are income recognized in the periods presented.
| 2018 | 2017 | 2016 | ||||||||||||||||||
| Pre-Tax | After-Tax(1) | Pre-Tax | After-Tax(1) | Pre-Tax | After-Tax(1) | |||||||||||||||
| (in millions) | ||||||||||||||||||||
| Unrealized net mark-to-market (gain) loss on natural gas derivatives(2) | $ | (13 | ) | $ | (10 | ) | $ | 61 | $ | 39 | $ | (260 | ) | $ | (163 | ) | ||||
| (Gain) loss on foreign currency transactions including intercompany loans(3) | (5 | ) | (4 | ) | 2 | 1 | 93 | 93 | ||||||||||||
| Insurance proceeds(3) | (10 | ) | (8 | ) | — | — | — | — | ||||||||||||
| Costs related to the acquisition of TNCLP Public Units(4) | 2 | 1 | — | — | — | — | ||||||||||||||
| Earnings attributable to noncontrolling interests - TNCLP(5) | 8 | 8 | 19 | 19 | 26 | 26 | ||||||||||||||
| Equity method investments: | ||||||||||||||||||||
| PLNL settlement income(6) | (19 | ) | (19 | ) | — | — | — | — | ||||||||||||
| Equity method investment tax contingency accrual(6) | — | — | 7 | 7 | — | — | ||||||||||||||
| Gain on sale of equity method investment(6) | — | — | (14 | ) | (9 | ) | — | — | ||||||||||||
| Impairment of equity method investment in PLNL(6) | — | — | — | — | 134 | 134 | ||||||||||||||
| Loss on embedded derivative liability(3) | — | — | 4 | 3 | 23 | 14 | ||||||||||||||
| Impact of U.S. Tax Cuts and Jobs Act(7) | — | 16 | — | (491 | ) | — | — | |||||||||||||
| Debt activity: | ||||||||||||||||||||
| Loss on debt extinguishment | — | — | 53 | 33 | 167 | 105 | ||||||||||||||
| Debt and revolver amendment fees(8) | — | — | — | — | 18 | 11 | ||||||||||||||
| Capacity expansion project expenses(3) | — | — | — | — | 73 | 46 | ||||||||||||||
| Start-up costs - Donaldsonville / Port Neal expansion plants(2) | — | — | — | — | 52 | 32 | ||||||||||||||
| Transaction costs and termination of agreement with OCI: | ||||||||||||||||||||
| Transaction costs | — | — | — | — | 179 | 96 | ||||||||||||||
| Financing costs related to bridge loan commitment fee(9) | — | — | — | — | 28 | 18 | ||||||||||||||
| Total Impact of Significant Items | $ | (37 | ) | $ | (16 | ) | $ | 132 | $ | (398 | ) | $ | 533 | $ | 412 |
| (1) | The tax impact is calculated utilizing a marginal effective rate of 22.9% in 2018, 36.8% in 2017 and 37.2% in 2016. |
| (2) | Included in cost of sales in our consolidated statements of operations. |
| (3) | Included in other operating—net in our consolidated statements of operations. |
| (4) | Included in selling, general and administrative expenses in our consolidated statement of operations. |
| (5) | Included in net earnings attributable to noncontrolling interests in our consolidated statements of operations. |
| (6) | Included in equity in earnings (loss) of operating affiliates in our consolidated statements of operations. |
| (7) | Included in income tax provision (benefit) in our consolidated statements of operations. |
| (8) | Included primarily in interest expense in our consolidated statements of operations. |
| (9) | Included in interest expense in our consolidated statements of operations. |
CF INDUSTRIES HOLDINGS, INC.
The following describes the significant items that impacted the comparability of our financial results in 2018, 2017 and 2016. Descriptions of items below that refer to amounts in the table above, refer to the pre-tax amounts, except for the discussion under Tax Cuts and Jobs Act.
Unrealized net mark-to-market (gain) loss on natural gas derivatives
Natural gas is typically the largest and most volatile single component of the manufacturing cost for nitrogen-based products. We manage the risk of changes in natural gas prices through the use of derivative financial instruments. The derivatives that we may use for this purpose are primarily natural gas fixed price swaps, natural gas basis swaps and natural gas options. We use natural gas derivatives as an economic hedge of natural gas price risk, but without the application of hedge accounting. This can result in volatility in reported earnings due to the unrealized mark-to-market adjustments that occur from changes in the value of the derivatives, which is reflected in cost of sales in our consolidated statements of operations. In 2018, 2017 and 2016, we recognized unrealized net mark-to-market (gains) losses on natural gas derivatives of $(13) million, $61 million and $(260) million, respectively.
(Gain) loss on foreign currency transactions including intercompany loans
In 2018, 2017 and 2016, we recognized (gains) losses of $(5) million, $2 million and $93 million, respectively, from the impact of changes in foreign currency exchange rates on primarily British pound and Canadian dollar denominated intercompany loans that were not permanently invested.
Insurance proceeds
In 2018, we recognized income of $10 million related to a property insurance claim at one of our nitrogen complexes. These proceeds are reflected in other operating—net in our consolidated statement of operations.
Acquisition of the TNCLP Public Units
In 2018, we incurred $2 million of costs for various legal services associated with the acquisition of the publicly traded common units of TNCLP. These costs are reflected in selling, general and administrative expenses in our consolidated statement of operations.
Beginning in the second quarter of 2018, as a result of the April 2, 2018 acquisition of the TNCLP Public Units, there are no longer earnings attributable to noncontrolling interests in TNCLP. In 2018, 2017 and 2016, earnings attributable to noncontrolling interests in TNCLP was $8 million, $19 million and $26 million, respectively.
Equity method investments
| • | Our joint venture in the Republic of Trinidad and Tobago, PLNL, operates an ammonia plant that relies on natural gas supplied, under a Gas Sales Contract (the NGC Contract), by The National Gas Company of Trinidad and Tobago Limited (NGC). PLNL experienced past curtailments in the supply of natural gas, which reduced historical ammonia production at PLNL. The NGC Contract had an initial expiration date of September 2018 and was extended on the same terms until September 2023. Any NGC commitment to supply gas beyond 2023 will be based on new agreements. In May 2018, the NGC and PLNL reached a settlement of an arbitration proceeding regarding PLNL’s claims for damages due to natural gas supply curtailments. The net after-tax impact of the settlement reached between NGC and PLNL that is recognized in our consolidated statement of operations for 2018 was an increase in our equity in earnings of operating affiliates of approximately $19 million. |
| • | The Trinidad tax authority (the Board of Inland Revenue) issued a tax assessment against PLNL related to a dispute over whether tax depreciation must be claimed during a tax holiday period that was granted to PLNL under the Trinidad Fiscal Incentives Act. The tax holiday was granted as an incentive to construct PLNL’s ammonia plant. Based on the facts and circumstances of this matter, PLNL recorded a tax contingency accrual, which reduced our equity in earnings of PLNL for 2017 by approximately $7 million reflecting our 50% ownership interest. In early 2018, PLNL settled this matter with the Board of Inland Revenue for the amounts accrued. |
| • | In the fourth quarter of 2017, we recognized a gain of $14 million related to the sale of our interest in a joint venture that owned a carbon dioxide liquefaction and purification facility. |
| • | In 2016, our equity in earnings (loss) of operating affiliates includes an impairment charge of our equity method investment in PLNL of $134 million. See “Critical Accounting Policies and Estimates” below, for additional information. |
See Note 8—Equity Method Investments for additional information regarding our equity method investments.
CF INDUSTRIES HOLDINGS, INC.
Loss on embedded derivative liability
Under the terms of our strategic venture with CHS, if our credit rating as determined by two of three specified credit rating agencies is below certain levels, we are required to make a non-refundable yearly payment of $5 million to CHS. Since our credit ratings were below certain levels in 2016, 2017 and 2018, we made a payment of $5 million to CHS in each year. These payments will continue on a yearly basis until the earlier of the date that our credit rating is upgraded to or above certain levels by two of three specified credit rating agencies or February 1, 2026. This obligation is recognized on our consolidated balance sheets as an embedded derivative. Included in other operating—net in our consolidated statements of operations in 2017 and 2016 is a net loss of $4 million and $23 million, respectively. The impact to our consolidated statement of operations in 2018 is immaterial.
Tax Cuts and Jobs Act
On December 22, 2017, the U.S. government enacted the Tax Cuts and Jobs Act (the “Tax Act” or “Tax Reform”) which includes a number of changes to U.S. tax law that affect us. As a result of the Tax Act we recognized a $491 million income tax benefit in 2017, and an income tax charge of $16 million in 2018. These impacts generally resulted from the following items:
| • | Impact of Tax Rate Change on Deferred Tax Liabilities - The most significant impact of Tax Reform was the reduction of the U.S. statutory corporate tax rate from 35% to 21%. This change necessitated the revaluation of all of our U.S. deferred tax balances, which resulted in an income tax benefit of $552 million that was recorded in 2017. |
| • | Transition Tax (Repatriation Tax) on Foreign Earnings and Profits - Tax Reform required us to pay U.S. tax on our previously untaxed foreign earnings. Foreign earnings held in the form of cash and cash equivalents are taxed at a 15.5% rate, and the remaining earnings are taxed at an 8% rate. We have elected to pay the transition tax in installments over an eight-year period. As a result, we recognized a provisional charge and liability of $57 million in 2017. During 2018, we recorded an additional $16 million to increase the provisional amount recorded in 2017. |
Debt activity
On December 1, 2017, we redeemed all of the $800 million outstanding principal amount of the 6.875% senior notes due May 2018 (the 2018 Notes) in accordance with the optional redemption provisions provided in the indenture governing the 2018 Notes. The total aggregate redemption price was approximately $817 million. On December 26, 2017, we purchased approximately $300 million aggregate principal amount of the $800 million outstanding principal amount of the 7.125% senior notes due 2020 (the 2020 Notes) at a total purchase price of approximately $331 million. As a result of the early redemption of the 2018 Notes and the purchase of the 2020 Notes, we recognized a loss on debt extinguishment of $53 million in 2017, primarily consisting of $48 million of total premiums paid for the early retirement of debt for the 2018 Notes and 2020 Notes.
On November 21, 2016, we prepaid the $1.0 billion aggregate principal amount of the senior notes due 2022, 2025 and 2027 (the Private Senior Notes), and paid the related make-whole amount of approximately $170 million. We made the prepayment and make-whole payment using the proceeds from an offering of $1.25 billion aggregate principal amount of senior secured notes consisting of $500 million aggregate principal amount of senior secured notes due 2021 and $750 million aggregate principal amount of senior secured notes due 2026 (collectively referred to as the “Senior Secured Notes”). We recognized $167 million of the $170 million cash make-whole payment on the Private Senior Notes as a loss on debt extinguishment in 2016, with the $3 million remainder being a debt modification cost that is being amortized over the term of the Senior Secured Notes.
In connection with the completion of the offering of the Senior Secured Notes and the prepayment of the Private Senior Notes in November 2016, certain amendments to the Revolving Credit Agreement became effective. The amendments included, among other things, changes in and additions to the financial and other covenants and a reduction in the size of the facility from $1.5 billion to $750 million.
In 2016, in conjunction with our debt restructuring, including amendments to the Revolving Credit Agreement in July and November 2016, we recognized $18 million of debt issuance and amendment fees.
See further discussion below under “Liquidity and Capital Resources” for additional information.
Capacity expansion projects
Our capacity expansion projects were completed in the fourth quarter of 2016. Capacity expansion project expenses of $73 million are included in other operating—net in our consolidated statement of operations for the year ended December 31, 2016, and generally consisted of administrative costs and other project costs that did not qualify for capitalization.
CF INDUSTRIES HOLDINGS, INC.
Start-up costs of $52 million, which primarily related to the cost of commencing production at the ammonia plants, were incurred in 2016 and are included in cost of sales in our consolidated statement of operations for the year ended December 31, 2016.
Transaction costs and termination of agreement with OCI
On August 6, 2015, we entered into a definitive agreement (as amended, the Combination Agreement) to combine with the European, North American and global distribution businesses of OCI N.V. (OCI). On May 22, 2016, CF Holdings, OCI and the other parties to the Combination Agreement entered into a termination agreement (the Termination Agreement) under which the parties agreed to terminate the Combination Agreement by mutual written consent. Pursuant to the Termination Agreement, CF Holdings paid OCI a termination fee of $150 million. Under the Termination Agreement, the parties to the Combination Agreement also agreed to release each other from any and all claims, actions, obligations, liabilities, expenses and fees in connection with, arising out of or related to the Combination Agreement and all ancillary agreements contemplated thereby (other than the confidentiality agreement between CF Holdings and OCI) or the transactions contemplated therein or thereby.
In 2016, we incurred $179 million of transaction costs associated with the proposed combination with certain businesses of OCI and our strategic venture with CHS. This includes the $150 million termination fee paid to OCI in the second quarter of 2016, which is described above, and costs for various consulting and legal services.
On September 18, 2015, in connection with our proposed combination with OCI, we entered into a senior unsecured 364-day Bridge Credit Agreement (as amended, the Bridge Credit Agreement). Upon the termination of the Combination Agreement on May 22, 2016, the lenders’ commitment under the Bridge Credit Agreement terminated automatically and we recognized $28 million in bridge loan commitment fees.
Financial Executive Summary
We reported net earnings attributable to common stockholders of $290 million in 2018 compared to $358 million in 2017, or a decrease in net earnings between the periods of $68 million, as 2017 included the benefit of Tax Reform. Diluted net earnings per share attributable to common stockholders was $1.24 in 2018 compared to $1.53 in 2017, or a decrease of $0.29 per share.
Our income tax provision for 2018 was $119 million compared to an income tax benefit of $575 million in 2017, a change of $694 million, primarily driven by the impact of Tax Reform, which was recognized in 2017. We recognized a $491 million tax benefit in 2017 related to the enactment of Tax Reform in the United States, which added $2.10 to diluted earnings per share. Further information regarding the impact of Tax Reform can be found above under “Items Affecting Comparability of Results—Tax Cuts and Jobs Act.” The remaining increase in our income tax provision of $203 million was due primarily to pre-tax income in 2018 compared to a pre-tax loss in 2017.
Our total gross margin increased by $483 million, or 111%, in 2018 to $917 million as compared to $434 million in 2017. The increase in gross margin was due primarily to:
| • | an 11% increase in average selling prices, which increased gross margin by $520 million, driven by the tightening supply and demand conditions in the global nitrogen market, which are more fully described in the section above titled “Items Affecting Comparability of Results,” |
| • | the impact of a $13 million unrealized net mark-to-market gain in 2018 compared to a $61 million loss in 2017, which increased gross margin by $74 million, |
| • | a decrease in physical natural gas costs in 2018, including the impact of natural gas derivatives that settled in the period, which increased gross margin by $57 million, |
| • | partially offset by the impact of lower sales volume, which decreased gross margin by $26 million, and higher costs of $142 million primarily associated with plant turnaround and maintenance activity, and other plant outages, in 2018. |
CF INDUSTRIES HOLDINGS, INC.
Net interest expense declined by $75 million to $228 million in 2018 compared to $303 million in 2017. The decline is due to our redemption in December 2017 of all of the 2018 Notes and our December 2017 purchase of approximately $300 million aggregate principal amount of the $800 million outstanding principal amount of the 2020 Notes. As a result, we recognized a loss on debt extinguishment of $53 million in 2017, primarily consisting of $48 million of total premiums paid for the early retirement of debt for the 2018 Notes and 2020 Notes.
In August 2018, our Board of Directors authorized the repurchase of up to $500 million of CF Holdings common stock through June 30, 2020 (the 2018 Share Repurchase Program). In 2018, we completed the 2018 Share Repurchase Program with the repurchase of 10.9 million shares for $500 million, of which $33 million was accrued and unpaid as of December 31, 2018.
CF INDUSTRIES HOLDINGS, INC.
Results of Consolidated Operations
The following table presents our consolidated results of operations and supplemental data:
| Year ended December 31, | |||||||||||||||||||||||||
| 2018 | 2017 | 2016 | 2018 v. 2017 | 2017 v. 2016 | |||||||||||||||||||||
| (in millions, except as noted) | |||||||||||||||||||||||||
| Net sales | $ | 4,429 | $ | 4,130 | $ | 3,685 | $ | 299 | 7 | % | $ | 445 | 12 | % | |||||||||||
| Cost of sales (COS)(1) | 3,512 | 3,696 | 2,842 | (184 | ) | (5 | )% | 854 | 30 | % | |||||||||||||||
| Gross margin | 917 | 434 | 843 | 483 | 111 | % | (409 | ) | (49 | )% | |||||||||||||||
| Gross margin percentage | 20.7 | % | 10.5 | % | 22.9 | % | 10.2 | % | (12.4 | )% | |||||||||||||||
| Selling, general and administrative expenses(1) | 214 | 191 | 173 | 23 | 12 | % | 18 | 10 | % | ||||||||||||||||
| Transaction costs | — | — | 179 | — | — | % | (179 | ) | (100 | )% | |||||||||||||||
| Other operating—net | (27 | ) | 18 | 208 | (45 | ) | N/M | (190 | ) | (91 | )% | ||||||||||||||
| Total other operating costs and expenses | 187 | 209 | 560 | (22 | ) | (11 | )% | (351 | ) | (63 | )% | ||||||||||||||
| Equity in earnings (loss) of operating affiliates | 36 | 9 | (145 | ) | 27 | N/M | 154 | N/M | |||||||||||||||||
| Operating earnings | 766 | 234 | 138 | 532 | N/M | 96 | 70 | % | |||||||||||||||||
| Interest expense—net | 228 | 303 | 195 | (75 | ) | (25 | )% | 108 | 55 | % | |||||||||||||||
| Loss on debt extinguishment | — | 53 | 167 | (53 | ) | (100 | )% | (114 | ) | (68 | )% | ||||||||||||||
| Other non-operating—net(1) | (9 | ) | 3 | 2 | (12 | ) | N/M | 1 | 50 | % | |||||||||||||||
| Earnings (loss) before income taxes | 547 | (125 | ) | (226 | ) | 672 | N/M | 101 | 45 | % | |||||||||||||||
| Income tax provision (benefit) | 119 | (575 | ) | (68 | ) | 694 | N/M | (507 | ) | N/M | |||||||||||||||
| Net earnings (loss) | 428 | 450 | (158 | ) | (22 | ) | (5 | )% | 608 | N/M | |||||||||||||||
| Less: Net earnings attributable to noncontrolling interests | 138 | 92 | 119 | 46 | 50 | % | (27 | ) | (23 | )% | |||||||||||||||
| Net earnings (loss) attributable to common stockholders | $ | 290 | $ | 358 | $ | (277 | ) | $ | (68 | ) | (19 | )% | $ | 635 | N/M | ||||||||||
| Diluted net earnings (loss) per share attributable to common stockholders | $ | 1.24 | $ | 1.53 | $ | (1.19 | ) | $ | (0.29 | ) | (19 | )% | $ | 2.72 | N/M | ||||||||||
| Diluted weighted-average common shares outstanding | 233.8 | 233.9 | 233.1 | (0.1 | ) | — | % | 0.8 | — | % | |||||||||||||||
| Dividends declared per common share | $ | 1.20 | $ | 1.20 | $ | 1.20 | $ | — | — | % | $ | — | — | % | |||||||||||
| Natural gas supplemental data (per MMBtu) | |||||||||||||||||||||||||
| Natural gas costs in COS(2) | $ | 3.15 | $ | 3.33 | $ | 2.61 | $ | (0.18 | ) | (5 | )% | $ | 0.72 | 28 | % | ||||||||||
| Realized derivatives loss in COS(3) | 0.01 | 0.07 | 0.46 | (0.06 | ) | (86 | )% | (0.39 | ) | (85 | )% | ||||||||||||||
| Cost of natural gas in COS | $ | 3.16 | $ | 3.40 | $ | 3.07 | $ | (0.24 | ) | (7 | )% | $ | 0.33 | 11 | % | ||||||||||
| Average daily market price of natural gas Henry Hub (Louisiana) | $ | 3.12 | $ | 2.96 | $ | 2.48 | $ | 0.16 | 5 | % | $ | 0.48 | 19 | % | |||||||||||
| Average daily market price of natural gas National Balancing Point (UK) | $ | 8.07 | $ | 5.80 | $ | 4.66 | $ | 2.27 | 39 | % | $ | 1.14 | 25 | % | |||||||||||
| Unrealized net mark-to-market (gain) loss on natural gas derivatives | $ | (13 | ) | $ | 61 | $ | (260 | ) | $ | (74 | ) | N/M | $ | 321 | N/M | ||||||||||
| Depreciation and amortization | $ | 888 | $ | 883 | $ | 678 | $ | 5 | 1 | % | $ | 205 | 30 | % | |||||||||||
| Capital expenditures | $ | 422 | $ | 473 | $ | 2,211 | $ | (51 | ) | (11 | )% | $ | (1,738 | ) | (79 | )% | |||||||||
| Sales volume by product tons (000s) | 19,329 | 19,952 | 16,957 | (623 | ) | (3 | )% | 2,995 | 18 | % | |||||||||||||||
| Production volume by product tons (000s): | |||||||||||||||||||||||||
| Ammonia(4) | 9,805 | 10,295 | 8,307 | (490 | ) | (5 | )% | 1,988 | 24 | % | |||||||||||||||
| Granular urea | 4,837 | 4,451 | 3,368 | 386 | 9 | % | 1,083 | 32 | % | ||||||||||||||||
| UAN (32%) | 6,903 | 6,914 | 6,698 | (11 | ) | — | % | 216 | 3 | % | |||||||||||||||
| AN | 1,731 | 2,127 | 1,845 | (396 | ) | (19 | )% | 282 | 15 | % |
N/M—Not Meaningful
| (1) | On January 1, 2018, we adopted ASU No. 2017-07, Compensation - Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost. As a result, we reclassified certain amounts in our consolidated statements of operations in 2017 and 2016. See Note 3—New Accounting Standards for additional information. |
| (2) | Includes the cost of natural gas and related transportation that is included in cost of sales during the period under the first-in, first-out inventory cost method. |
| (3) | Includes realized gains and losses on natural gas derivatives settled during the period. Excludes unrealized mark-to-market gains and losses on natural gas derivatives. |
| (4) | Gross ammonia production, including amounts subsequently upgraded on-site into granular urea, UAN, or AN. |
CF INDUSTRIES HOLDINGS, INC.
Year Ended December 31, 2018 Compared to Year Ended December 31, 2017
Net Sales
Our net sales are derived primarily from the sale of nitrogen fertilizers and are determined by the quantities of fertilizers we sell and the selling prices we realize. The volumes, mix and selling prices we realize are determined to a great extent by a combination of global and regional supply and demand factors. Net sales also include shipping and handling costs that are billed to our customers. Sales incentives are reported as a reduction in net sales.
Our total net sales increased $299 million, or 7%, to $4.43 billion in 2018 compared to $4.13 billion in 2017 due to an 11% increase in average selling prices, which increased net sales by $520 million, partially offset by a 3% decrease in sales volume, which decreased net sales by $221 million.
Average selling prices were $229 per ton in 2018 compared to $207 per ton in 2017 as selling prices increased across all segments. During 2018, higher energy costs in Asia and Europe, along with continued enforcement of environmental regulations in China, resulted in lower nitrogen production, tightening supply and demand conditions. In addition, outages at several producers also impacted the nitrogen supply and demand balance. These factors collectively drove global nitrogen prices higher in 2018.
The decrease in total sales volume of 3% was due primarily to lower sales volume in our ammonia and AN segments, partially offset by higher sales volumes in our granular urea and Other segments.
Cost of Sales
Our cost of sales includes manufacturing costs, purchased product costs, and distribution costs. Manufacturing costs, the most significant element of cost of sales, consist primarily of raw materials, realized and unrealized gains and losses on natural gas derivative instruments, maintenance, direct labor, depreciation and other plant overhead expenses. Purchased product costs primarily include the cost to purchase nitrogen fertilizers to augment or replace production at our facilities. Distribution costs include the cost of freight required to transport finished products from our plants to our distribution facilities and storage costs incurred prior to final shipment to customers.
Our cost of sales decreased $184 million, or 5%, in 2018 from 2017. The decrease in our cost of sales was due primarily to a 3% decrease in sales volume, an unrealized net mark-to-market gain on natural gas derivatives in 2018 compared to a loss in 2017, and the impact of lower realized natural gas costs. These decreases were partially offset by higher costs related to plant turnaround and maintenance activity and other plant outages in 2018. The cost of sales per ton averaged $182 in 2018, a 2% decrease from $185 per ton in 2017. Cost of sales includes a $13 million unrealized net mark-to-market gain in 2018 compared to a $61 million unrealized net mark-to-market loss in 2017. Additionally, realized natural gas costs, including the impact of realized derivatives, decreased 7% to $3.16 per MMBtu in 2018 from $3.40 per MMBtu in 2017.
Selling, General and Administrative Expenses
Our selling, general and administrative expenses consist primarily of corporate office expenses such as salaries and other payroll-related costs for our executive, administrative, legal, financial and marketing functions, as well as certain taxes and insurance and other professional service fees, including those for corporate initiatives.
Selling, general and administrative expenses increased $23 million to $214 million in 2018 from $191 million in 2017. The increase was due primarily to higher employee costs, including higher incentive compensation as a result of improved operating results, costs associated with certain corporate initiatives, and costs for various legal services associated with the acquisition of the publicly traded common units of TNCLP.
Other Operating—Net
Other operating—net includes administrative costs that do not relate directly to our central operations and, in 2016, costs associated with our capacity expansion projects. Costs included in “other operating costs” can include foreign exchange gains and losses, unrealized gains and losses on foreign currency derivatives, costs associated with our closed facilities, amounts recorded for environmental remediation for other areas of our business, litigation expenses and gains and losses on the disposal of fixed assets.
Other operating—net was $27 million of income in 2018 compared to $18 million of expense in 2017. The income in 2018 was primarily due to the combination of changes in legal reserves, insurance proceeds of $10 million and a gain of $6 million from the recovery of certain precious metals used in the manufacturing process.
CF INDUSTRIES HOLDINGS, INC.
Equity in Earnings of Operating Affiliates
Equity in earnings of operating affiliates primarily consists of our 50% ownership interest in PLNL. We include our share of the net earnings from our equity method investment in PLNL as an element of earnings from operations because this investment provides additional production and is integrated with our other supply chain and sales activities. Our share of the net earnings includes the amortization of certain tangible and intangible assets identified as part of the application of purchase accounting at acquisition.
Equity in earnings of operating affiliates was $36 million in 2018 compared to $9 million in 2017. The increase in earnings was due primarily to improved operating results for PLNL primarily driven by higher ammonia selling prices. In addition, earnings in 2018 include approximately $19 million related to the net after-tax impact of a settlement reached between NGC and PLNL of an arbitration proceeding regarding PLNL’s claims for damages due to historical natural gas supply curtailments. See above under “Items Affecting Comparability of Results—Equity method investments” for additional information. Earnings in 2017 includes a gain of $14 million related to the sale of our interest in a joint venture that owned a carbon dioxide liquefaction and purification facility.
Interest Expense—Net
Our interest expense—net includes the interest expense on our long-term debt, amortization of the related fees required to execute financing agreements and annual fees pursuant to our Revolving Credit Agreement. Capitalized interest relating to the construction of major capital projects reduces interest expense as the interest is capitalized and amortized over the estimated useful lives of the facility along with all other construction costs. Interest expense—net also includes interest income, which represents amounts earned on our cash, cash equivalents and investments.
Net interest expense decreased by $75 million to $228 million in 2018 from $303 million in 2017. The $75 million decrease was primarily due to our redemption in December 2017 of all of the $800 million outstanding principal amount of the 2018 Notes and our December 2017 purchase of approximately $300 million aggregate principal amount of the $800 million outstanding principal amount of the 2020 Notes.
Loss on Debt Extinguishment
Loss on debt extinguishment of $53 million in 2017 primarily consists of premiums paid for the early retirement of debt for the 2018 Notes and 2020 Notes.
Income Tax Provision (Benefit)
Our income tax provision for 2018 was $119 million on pre-tax income of $547 million, compared to an income tax benefit of $575 million on a pre-tax loss of $125 million in 2017. Our effective tax rate for 2018 is based on the U.S. federal tax rate of 21% as a result of the enactment of the Tax Act on December 22, 2017, as compared to the U.S. federal tax rate of 35% that was applicable in 2017. Our effective tax rate is impacted by earnings attributable to noncontrolling interests in CFN and, prior to April 2, 2018, TNCLP, as our consolidated income tax provision (benefit) does not include a tax provision on the earnings attributable to the noncontrolling interests. Our effective tax rate for 2018 of 21.7%, exclusive of the earnings attributable to the noncontrolling interests of $138 million, would be 29.1%.
Our effective tax rate for 2018 was impacted by a $16 million increase to the provisional amount recorded in 2017 for the transition tax liability as result of the enactment of the Tax Act.
The Tax Act also provided a new tax category, Global Intangible Low-Taxed Income (GILTI), for income from foreign operations that is subject to federal income tax beginning in our 2018 tax year. The tax effect for our GILTI reduced the deferred tax asset for the 2017 net operating loss carryover by $12 million.
On April 2, 2018, we acquired the TNCLP Public Units. Our effective tax rate in 2018 is impacted by a $16 million reduction to our deferred tax liability due to the change in our effective state income tax rate resulting from the implementation of legal entity structure changes related to the acquisition.
In 2017, due primarily to the $491 million income tax benefit from the Tax Act, we recognized a $575 million income tax benefit on a pre-tax loss of $125 million. Our effective tax rate in 2017, exclusive of the tax benefit from the Tax Act and exclusive of the earnings attributable to the noncontrolling interests of $92 million from our pre-tax loss, results in an effective tax rate of 38.8%. See Note 17—Noncontrolling Interests for additional information.
Both 2018 and 2017 were impacted by additional discrete tax items. See Note 10—Income Taxes for additional information.
CF INDUSTRIES HOLDINGS, INC.
Net Earnings Attributable to Noncontrolling Interests
Net earnings attributable to noncontrolling interests includes the net earnings attributable to the approximately 11% CHS minority equity interest in CFN, a subsidiary of CF Holdings. Prior to April 2, 2018, net earnings attributable to noncontrolling interests also included the net earnings attributable to the 24.7% interest of the publicly held common units of TNCLP. Beginning in the second quarter of 2018, as a result of the April 2, 2018 acquisition of the TNCLP Public Units, there are no longer earnings attributable to noncontrolling interests in TNCLP.
Net earnings attributable to noncontrolling interests increased $46 million in 2018 compared to 2017 due primarily to higher earnings from CFN driven by higher average selling prices due to the impact of a tighter global nitrogen supply and demand balance, partially offset by the reduction in noncontrolling interests due to the April 2, 2018 purchase of the noncontrolling interests in TNCLP.
Diluted Net Earnings Per Share Attributable to Common Stockholders
Diluted net earnings per share attributable to common stockholders decreased $0.29 to $1.24 per share in 2018 from $1.53 per share in 2017. This decrease is due primarily to the impact of Tax Reform in 2017, partially offset in 2018 by higher gross margin primarily driven by higher selling prices due to the impact of a tighter global nitrogen supply and demand balance, the impact of higher unrealized net mark-to-market gains on natural gas derivatives, and lower realized natural gas costs.
Year Ended December 31, 2017 Compared to Year Ended December 31, 2016
Net Sales
Our total net sales increased $445 million, or 12%, to $4.13 billion in 2017 compared to $3.69 billion in 2016 due to an 18% increase in sales volume, which increased net sales by $738 million, partially offset by a 5% decrease in average selling prices, which reduced net sales by $293 million.
Average selling prices were $207 per ton in 2017 compared to $217 per ton in 2016 due primarily to lower ammonia, UAN and granular urea average selling prices in 2017. Selling prices were negatively impacted by greater supply availability which continued to pressure selling prices globally. During the fourth quarter of 2017, certain announced nitrogen industry capacity additions that were expected to occur, were delayed, and certain maintenance outages all led to a favorable supply demand balance and contributed to a rise in nitrogen pricing.
The increase in total sales volume of 18% was due primarily to higher ammonia and granular urea sales volumes, driven by increased production from the completion of our capacity expansion projects in December 2016.
Cost of Sales
Our cost of sales increased $854 million, or 30%, from 2016 to 2017. The increase in cost of sales was primarily due to the impact of higher sales volume, higher unrealized net mark-to-market losses on natural gas derivatives and higher realized natural gas costs, including the impact of realized derivatives, in addition to higher depreciation expense related to the completion of our capacity expansion projects and placing those assets into service. These increases to cost of sales were partially offset by targeted cost reduction initiatives, production efficiencies due to increased volume in 2017 and the absence of start-up costs of the new ammonia plant at our Donaldsonville facility and the new ammonia and urea plants at our Port Neal facility that occurred in 2016. The cost of sales per ton averaged $185 in 2017, a 10% increase from $168 per ton in 2016. Cost of sales included a $61 million unrealized net mark-to-market loss in 2017 compared to a $260 million unrealized net mark-to-market gain in 2016. Additionally, realized natural gas costs, including the impact of realized derivatives, increased 11% from $3.07 per MMBtu in 2016 to $3.40 per MMBtu in 2017.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased $18 million to $191 million in 2017 from $173 million in 2016. The increase was due primarily to the combination of certain corporate office initiatives and higher incentive compensation due to improvements in operating performance.
Transaction Costs
Transaction costs consist of various consulting and legal services associated with the proposed combination with certain businesses of OCI that was terminated on May 22, 2016 and our strategic venture with CHS, which began on February 1, 2016.
CF INDUSTRIES HOLDINGS, INC.
In 2016, we incurred $179 million of transaction costs, including the $150 million termination fee paid to OCI in the second quarter of 2016 as a result of the termination of the Combination Agreement and costs for various consulting and legal services.
Other Operating—Net
Other operating—net was $18 million of expense in 2017 compared to $208 million of expense in 2016. The decreased expense was due primarily to a $93 million loss in 2016 from the impact of changes in foreign currency exchange rates on primarily British pound and Canadian dollar denominated intercompany loans that were not permanently invested. Due to a restructuring of certain intercompany loans, we did not incur the same level of foreign exchange rate impacts in 2017. The decreased expense was also due to expansion project expenses in 2016 of $73 million, generally consisting of administrative and other project costs that did not qualify for capitalization, and a $23 million charge representing the net fair value adjustments to an embedded derivative related to our strategic venture with CHS. See Note 9—Fair Value Measurements for additional information.
Equity in Earnings (Losses) of Operating Affiliates
Equity in earnings (losses) of operating affiliates was $9 million of earnings in 2017 compared to $145 million of losses in 2016. Earnings in 2017 included a gain of $14 million related to the sale of our interest in a joint venture that owned a carbon dioxide liquefaction and purification facility. In the fourth quarter of 2016, we recognized a $134 million impairment of our equity method investment in PLNL. For additional information regarding the impairment of our equity method investment in PLNL, see “Critical Accounting Policies and Estimates,” below, and Note 8—Equity Method Investments.
Interest Expense—Net
Net interest expense increased by $108 million to $303 million in 2017 from $195 million in 2016. The $108 million increase was due primarily to a decrease in the amount of interest capitalized due to the completion of our capacity expansion projects. In 2016, capitalized interest was $166 million compared to $2 million in 2017. Net interest expense in 2016 also included the amortization of capitalized bridge credit agreement fees of $28 million pertaining to the bridge loan for our proposed combination with certain businesses of OCI. Upon the termination of the proposed combination with OCI, the unamortized portion of these fees was expensed.
During 2016, due to the uncertain duration of the prevailing low nitrogen fertilizer selling price environment and in order to provide liquidity and covenant flexibility for the future, we modified the Revolving Credit Agreement by reducing its size from $2.0 billion to $750 million and modifying certain covenants and other terms. As a result of these changes, we recognized $16 million of debt amendment fees and accelerated amortization of loan fees in interest expense in 2016.
Loss on Debt Extinguishment
Loss on debt extinguishment of $53 million in 2017 primarily consisted of premiums paid for the early retirement of debt for the 2018 Notes and 2020 Notes. Loss on debt extinguishment of $167 million in 2016 consisted of the make-whole payment, which resulted from our November 21, 2016 prepayment of the $1.0 billion aggregate principal amount of Private Senior Notes. The loss on debt extinguishment of $167 million excluded $3 million (of the $170 million make-whole payment), which was accounted for as a modification and recognized on our consolidated balance sheet as deferred financing fees, a reduction of long-term debt, and is being amortized using the effective interest rate method over the term of the Senior Secured Notes.
Income Tax (Benefit) Provision
Our income tax benefit for 2017 was $575 million on a pre-tax loss of $125 million, compared to an income tax benefit of $68 million on a pre-tax loss of $226 million in the prior year. The higher income tax benefit in 2017 was due primarily to the impact of the Tax Act, which resulted in an income tax benefit of $491 million recorded in the fourth quarter of 2017, reflecting our best estimate of the impact of the Tax Act.
The primary impact of the Tax Act is the revaluation of all of our U.S. deferred tax balances, as result of the reduction of the U.S. statutory corporate tax rate from 35% to 21%, which resulted in an income tax benefit of $552 million that was recorded in 2017. This income tax benefit was partially offset by a tax charge and liability of $57 million, which represented our best estimate of the transition tax, or repatriation tax, on foreign earnings and profits, as described above under “Items Affecting Comparability—Tax Cuts and Jobs Act.”
CF INDUSTRIES HOLDINGS, INC.
In addition, in both years, our effective tax rate was impacted by earnings attributable to noncontrolling interests in CFN and TNCLP, as our consolidated income tax (benefit) provision does not include a tax provision on the earnings attributable to the noncontrolling interests. As a result, earnings attributable to the noncontrolling interests of $92 million and $119 million in 2017 and 2016, respectively, which are included in our pre-tax loss, impact the effective tax rate in both years. See Note 17—Noncontrolling Interests for additional information.
Due primarily to the $491 million income tax benefit from the Tax Act, we recognized a $575 million income tax benefit in 2017 on a pre-tax loss of $125 million. Our effective tax rate in 2017, exclusive of the tax benefit from the Tax Act and exclusive of the earnings attributable to the noncontrolling interests of $92 million from our pre-tax loss, resulted in an effective tax rate of 38.8%. Our effective tax rate in 2016, exclusive of the earnings attributable to the noncontrolling interests of $119 million from our pre-tax income, resulted in an effective tax rate of 19.6%.
In the fourth quarter of 2016, we determined the carrying value of our equity method investment in PLNL exceeded fair value and recognized an impairment of our equity method investment in PLNL of $134 million, which is included in the equity in earnings of operating affiliates. Our 2016 income tax provision does not include a tax benefit for the impairment of our equity method investment as it will not give rise to a tax deduction, which reduced our 2016 effective tax rate.
Both 2017 and 2016 were impacted by additional discrete tax items. See Note 10—Income Taxes for additional information.
Net Earnings Attributable to Noncontrolling Interests
Net earnings attributable to noncontrolling interests includes the net earnings attributable to the 24.7% interest of the publicly-held common units of TNCLP. Prior to our acquisition of the TNCLP Public Units on April 2, 2018, we owned approximately 75.3% of TNCLP and outside investors owned the remaining 24.7%. Net earnings attributable to noncontrolling interests also includes the net earnings attributable to the approximately 11% CHS minority equity interest in CFN, a subsidiary of CF Holdings.
Net earnings attributable to noncontrolling interests decreased $27 million in 2017 compared to 2016 due primarily to lower earnings from both CFN and TNCLP as both were impacted by lower average selling prices due to greater global nitrogen supply availability due to global capacity additions. The earnings of CFN were also impacted by higher natural gas prices and the impact of higher depreciation as a result of the completion of our capacity expansion projects and placing those assets into service.
Diluted Net Earnings (Loss) Per Share Attributable to Common Stockholders
Diluted net earnings (loss) per share attributable to common stockholders, including the impact of Tax Reform, increased $2.72 to earnings of $1.53 per share in 2017 from a loss of $1.19 per share in 2016. This increase was due primarily to the impact of Tax Reform partially offset by lower gross margin primarily driven by an increase in unrealized net mark-to-market losses on natural gas derivatives, the impact of lower selling prices due to greater global nitrogen supply availability, higher realized natural gas costs, including the impact of realized derivatives, and higher depreciation expense.
CF INDUSTRIES HOLDINGS, INC.
Operating Results by Business Segment
Our reportable segment structure reflects how our chief operating decision maker, as defined in the accounting principles generally accepted in the United States (U.S. GAAP), assesses the performance of our reportable segments and makes decisions about resource allocation. These segments are differentiated by products. Our management uses gross margin to evaluate segment performance and allocate resources. Total other operating costs and expenses (consisting of selling, general and administrative expenses and other operating—net) and non-operating expenses (interest and income taxes), are centrally managed and are not included in the measurement of segment profitability reviewed by management.
The following table presents summary operating results by business segment:
| Ammonia(1) | Granular Urea(1)(2) | UAN(1)(2) | AN(2) | Other(2) | Consolidated | ||||||||||||||||||
| (in millions, except percentages) | |||||||||||||||||||||||
| Year ended December 31, 2018 | |||||||||||||||||||||||
| Net sales | $ | 1,028 | $ | 1,322 | $ | 1,234 | $ | 460 | $ | 385 | $ | 4,429 | |||||||||||
| Cost of sales | 867 | 889 | 1,007 | 414 | 335 | 3,512 | |||||||||||||||||
| Gross margin | $ | 161 | $ | 433 | $ | 227 | $ | 46 | $ | 50 | $ | 917 | |||||||||||
| Gross margin percentage | 15.7 | % | 32.8 | % | 18.4 | % | 10.0 | % | 13.0 | % | 20.7 | % | |||||||||||
| Year ended December 31, 2017 | |||||||||||||||||||||||
| Net sales | $ | 1,209 | $ | 971 | $ | 1,134 | $ | 497 | $ | 319 | $ | 4,130 | |||||||||||
| Cost of sales | 1,070 | 855 | 1,053 | 446 | 272 | 3,696 | |||||||||||||||||
| Gross margin | $ | 139 | $ | 116 | $ | 81 | $ | 51 | $ | 47 | $ | 434 | |||||||||||
| Gross margin percentage | 11.5 | % | 11.9 | % | 7.1 | % | 10.3 | % | 14.7 | % | 10.5 | % | |||||||||||
| Year ended December 31, 2016 | |||||||||||||||||||||||
| Net sales | $ | 981 | $ | 831 | $ | 1,196 | $ | 411 | $ | 266 | $ | 3,685 | |||||||||||
| Cost of sales | 714 | 583 | 919 | 409 | 217 | 2,842 | |||||||||||||||||
| Gross margin | $ | 267 | $ | 248 | $ | 277 | $ | 2 | $ | 49 | $ | 843 | |||||||||||
| Gross margin percentage | 27.2 | % | 29.8 | % | 23.2 | % | 0.5 | % | 18.4 | % | 22.9 | % |
| (1) | Cost of sales and gross margin for the ammonia, granular urea and UAN segments for the years ended December 31, 2017 and December 31, 2016 were adjusted to reflect the reclassification of $4 million and $3 million, respectively, of defined benefit plan costs to other operating—net. These adjustments were a result of our adoption of ASU No. 2017-07 on January 1, 2018. See Note 3—New Accounting Standards for additional information. |
| (2) | The cost of ammonia that is upgraded into other products is transferred at cost into the upgraded product results. |
CF INDUSTRIES HOLDINGS, INC.
Ammonia Segment
Our ammonia segment produces anhydrous ammonia (ammonia), which is our most concentrated nitrogen fertilizer as it contains 82% nitrogen. The results of our ammonia segment consist of sales of ammonia to external customers. In addition, ammonia is the “basic” nitrogen product that we upgrade into other nitrogen products such as granular urea, UAN and AN. We produce ammonia at all of our nitrogen manufacturing complexes.
The following table presents summary operating data for our ammonia segment:
| Year ended December 31, | |||||||||||||||||||||||||
| 2018 | 2017 | 2016 | 2018 v. 2017 | 2017 v. 2016 | |||||||||||||||||||||
| (in millions, except as noted) | |||||||||||||||||||||||||
| Net sales | $ | 1,028 | $ | 1,209 | $ | 981 | $ | (181 | ) | (15 | )% | $ | 228 | 23 | % | ||||||||||
| Cost of sales | 867 | 1,070 | 714 | (203 | ) | (19 | )% | 356 | 50 | % | |||||||||||||||
| Gross margin | $ | 161 | $ | 139 | $ | 267 | $ | 22 | 16 | % | $ | (128 | ) | (48 | )% | ||||||||||
| Gross margin percentage | 15.7 | % | 11.5 | % | 27.2 | % | 4.2 | % | (15.7 | )% | |||||||||||||||
| Sales volume by product tons (000s) | 3,135 | 4,105 | 2,874 | (970 | ) | (24 | )% | 1,231 | 43 | % | |||||||||||||||
| Sales volume by nutrient tons (000s)(1) | 2,571 | 3,367 | 2,358 | (796 | ) | (24 | )% | 1,009 | 43 | % | |||||||||||||||
| Average selling price per product ton | $ | 328 | $ | 295 | $ | 341 | $ | 33 | 11 | % | $ | (46 | ) | (13 | )% | ||||||||||
| Average selling price per nutrient ton(1) | $ | 400 | $ | 359 | $ | 416 | $ | 41 | 11 | % | $ | (57 | ) | (14 | )% | ||||||||||
| Gross margin per product ton | $ | 51 | $ | 34 | $ | 93 | $ | 17 | 50 | % | $ | (59 | ) | (63 | )% | ||||||||||
| Gross margin per nutrient ton(1) | $ | 63 | $ | 41 | $ | 113 | $ | 22 | 54 | % | $ | (72 | ) | (64 | )% | ||||||||||
| Depreciation and amortization | $ | 155 | $ | 183 | $ | 96 | $ | (28 | ) | (15 | )% | $ | 87 | 91 | % | ||||||||||
| Unrealized net mark-to-market (gain) loss on natural gas derivatives | $ | (4 | ) | $ | 20 | $ | (85 | ) | $ | (24 | ) | N/M | $ | 105 | N/M |
N/M—Not Meaningful
| (1) | Ammonia represents 82% nitrogen content. Nutrient tons represent the tons of nitrogen within the product tons. |
Year Ended December 31, 2018 Compared to Year Ended December 31, 2017
Net Sales. Net sales in the ammonia segment decreased by $181 million, or 15%, to $1,028 million in 2018 from $1,209 million in 2017 due primarily to a 24% decrease in sales volume partially offset by an 11% increase in average selling prices. Sales volume was lower in 2018 due to unfavorable weather conditions in the fourth quarter and lower production volume in 2018 as a result of plant turnaround and maintenance activity, and other plant outages. Selling prices in 2018 increased as higher energy costs in Asia and Europe, along with continued enforcement of environmental regulations in China, resulted in lower production in these regions, tightening the global nitrogen supply and demand balance.
Cost of Sales. Cost of sales per ton in our ammonia segment averaged $277 per ton in 2018, a 6% increase from $261 per ton in 2017. The increase was due primarily to higher costs associated with plant turnaround and maintenance activity, and other plant outages, offset by lower natural gas costs and the impact of a $4 million unrealized net mark-to-market gain on natural gas derivatives in 2018 compared to a $20 million loss in 2017.
Year Ended December 31, 2017 Compared to Year Ended December 31, 2016
Net Sales. Net sales in the ammonia segment increased by $228 million, or 23%, to $1,209 million in 2017 from $981 million in 2016 due primarily to a 43% increase in sales volume partially offset by a 13% decrease in average selling prices. The increase in sales volume was due to higher production from the completion of our capacity expansion projects in December 2016. Average selling prices declined due to greater global nitrogen supply availability due to global capacity additions. Selling prices strengthened in the fourth quarter of 2017 rising approximately 3% compared to the prior year period.
Cost of Sales. Cost of sales per ton in our ammonia segment averaged $261 per ton in 2017, a 5% increase from $248 per ton in 2016. The increase was due primarily to higher unrealized net mark-to-market losses on natural gas derivatives, higher realized natural gas costs, including the impact of realized derivatives, in addition to higher depreciation as a result of the new ammonia plants at our Donaldsonville and Port Neal facilities, partially offset by the start-up costs for those plants in 2016 and production efficiencies realized in 2017 due to increased volume. Depreciation and amortization in our ammonia segment in 2017 was $45 per ton compared to $33 per ton in 2016.
CF INDUSTRIES HOLDINGS, INC.
Granular Urea Segment
Our granular urea segment produces granular urea, which contains 46% nitrogen. Produced from ammonia and carbon dioxide, it has the highest nitrogen content of any of our solid nitrogen fertilizers. Granular urea is produced at our Courtright, Ontario; Donaldsonville, Louisiana; Medicine Hat, Alberta; and Port Neal, Iowa nitrogen complexes.
The following table presents summary operating data for our granular urea segment:
| Year ended December 31, | |||||||||||||||||||||||||
| 2018 | 2017 | 2016 | 2018 v. 2017 | 2017 v. 2016 | |||||||||||||||||||||
| (in millions, except as noted) | |||||||||||||||||||||||||
| Net sales | $ | 1,322 | $ | 971 | $ | 831 | $ | 351 | 36 | % | $ | 140 | 17 | % | |||||||||||
| Cost of sales | 889 | 855 | 583 | 34 | 4 | % | 272 | 47 | % | ||||||||||||||||
| Gross margin | $ | 433 | $ | 116 | $ | 248 | $ | 317 | N/M | $ | (132 | ) | (53 | )% | |||||||||||
| Gross margin percentage | 32.8 | % | 11.9 | % | 29.8 | % | 20.9 | % | (17.9 | )% | |||||||||||||||
| Sales volume by product tons (000s) | 4,898 | 4,357 | 3,597 | 541 | 12 | % | 760 | 21 | % | ||||||||||||||||
| Sales volume by nutrient tons (000s)(1) | 2,253 | 2,004 | 1,654 | 249 | 12 | % | 350 | 21 | % | ||||||||||||||||
| Average selling price per product ton | $ | 270 | $ | 223 | $ | 231 | $ | 47 | 21 | % | $ | (8 | ) | (3 | )% | ||||||||||
| Average selling price per nutrient ton(1) | $ | 587 | $ | 485 | $ | 502 | $ | 102 | 21 | % | $ | (17 | ) | (3 | )% | ||||||||||
| Gross margin per product ton | $ | 88 | $ | 27 | $ | 69 | $ | 61 | N/M | $ | (42 | ) | (61 | )% | |||||||||||
| Gross margin per nutrient ton(1) | $ | 192 | $ | 58 | $ | 150 | $ | 134 | N/M | $ | (92 | ) | (61 | )% | |||||||||||
| Depreciation and amortization | $ | 276 | $ | 246 | $ | 112 | $ | 30 | 12 | % | $ | 134 | 120 | % | |||||||||||
| Unrealized net mark-to-market (gain) loss on natural gas derivatives | $ | (4 | ) | $ | 16 | $ | (67 | ) | $ | (20 | ) | N/M | $ | 83 | N/M |
N/M—Not Meaningful
| (1) | Granular urea represents 46% nitrogen content. Nutrient tons represent the tons of nitrogen within the product tons. |
Year Ended December 31, 2018 Compared to Year Ended December 31, 2017
Net Sales. Net sales in the granular urea segment increased $351 million, or 36%, to $1,322 million in 2018 compared to $971 million in 2017 due primarily to a 21% increase in average selling prices and a 12% increase in sales volume. Average selling prices increased to $270 per ton in 2018 compared to $223 per ton in 2017 as higher energy costs in Asia and Europe, along with continued enforcement of environmental regulations in China, resulted in lower production in these regions, tightening the global nitrogen supply and demand balance. Sales volume was higher due primarily to higher supply availability from increased production at our Port Neal facility as a result of higher demand, and higher inventories entering the year.
Cost of Sales. Cost of sales per ton in our granular urea segment averaged $182 in 2018, a 7% decrease from the $196 per ton in 2017. The decrease was due primarily to lower realized natural gas costs and an unrealized net mark-to-market gain on natural gas derivatives in 2018 compared to a loss in 2017 and the impact of a 9% increase in production.
Year Ended December 31, 2017 Compared to Year Ended December 31, 2016
Net Sales. Net sales in the granular urea segment increased by $140 million, or 17%, to $971 million in 2017 compared to $831 million in 2016 due primarily to a 21% increase in sales volume partially offset by a 3% decrease in average selling prices. Sales volume was higher due to increased production at our new Port Neal facility, which came on line in the fourth quarter of 2016. Average selling prices decreased to $223 per ton in 2017 compared to $231 per ton in 2016 due primarily to greater global nitrogen supply availability due to global capacity additions. Selling prices strengthened in the fourth quarter of 2017 rising approximately 14% compared to the prior year period.
Cost of Sales. Cost of sales per ton in our granular urea segment averaged $196 in 2017, a 21% increase from the $162 per ton in 2016. The increase was due primarily to higher depreciation as a result of the new granular urea plant at our Port Neal facility, an unrealized net mark-to-market loss on natural gas derivatives in 2017 compared to a gain in the comparable period of 2016 and higher realized natural gas costs, including the impact of realized derivatives. These increases in cost of sales were partially offset by the impact of production efficiencies due to increased volume. Depreciation and amortization in our granular urea segment in 2017 was $56 per ton compared to $31 per ton in 2016.
CF INDUSTRIES HOLDINGS, INC.
UAN Segment
Our UAN segment produces urea ammonium nitrate solution (UAN). UAN, a liquid fertilizer product with a nitrogen content that typically ranges from 28% to 32%, is produced by combining urea and ammonium nitrate. UAN is produced at our nitrogen complexes in Courtright, Ontario; Donaldsonville, Louisiana; Port Neal, Iowa; Verdigris, Oklahoma; Woodward, Oklahoma; and Yazoo City, Mississippi.
The following table presents summary operating data for our UAN segment:
| Year ended December 31, | |||||||||||||||||||||||||
| 2018 | 2017 | 2016 | 2018 v. 2017 | 2017 v. 2016 | |||||||||||||||||||||
| (in millions, except as noted) | |||||||||||||||||||||||||
| Net sales | $ | 1,234 | $ | 1,134 | $ | 1,196 | $ | 100 | 9 | % | $ | (62 | ) | (5 | )% | ||||||||||
| Cost of sales | 1,007 | 1,053 | 919 | (46 | ) | (4 | )% | 134 | 15 | % | |||||||||||||||
| Gross margin | $ | 227 | $ | 81 | $ | 277 | $ | 146 | 180 | % | $ | (196 | ) | (71 | )% | ||||||||||
| Gross margin percentage | 18.4 | % | 7.1 | % | 23.2 | % | 11.3 | % | (16.1 | )% | |||||||||||||||
| Sales volume by product tons (000s) | 7,042 | 7,093 | 6,681 | (51 | ) | (1 | )% | 412 | 6 | % | |||||||||||||||
| Sales volume by nutrient tons (000s)(1) | 2,225 | 2,242 | 2,109 | (17 | ) | (1 | )% | 133 | 6 | % | |||||||||||||||
| Average selling price per product ton | $ | 175 | $ | 160 | $ | 179 | $ | 15 | 9 | % | $ | (19 | ) | (11 | )% | ||||||||||
| Average selling price per nutrient ton(1) | $ | 555 | $ | 506 | $ | 567 | $ | 49 | 10 | % | $ | (61 | ) | (11 | )% | ||||||||||
| Gross margin per product ton | $ | 32 | $ | 11 | $ | 41 | $ | 21 | 191 | % | $ | (30 | ) | (73 | )% | ||||||||||
| Gross margin per nutrient ton(1) | $ | 102 | $ | 36 | $ | 131 | $ | 66 | 183 | % | $ | (95 | ) | (73 | )% | ||||||||||
| Depreciation and amortization | $ | 270 | $ | 265 | $ | 247 | $ | 5 | 2 | % | $ | 18 | 7 | % | |||||||||||
| Unrealized net mark-to-market (gain) loss on natural gas derivatives | $ | (4 | ) | $ | 19 | $ | (81 | ) | $ | (23 | ) | N/M | $ | 100 | N/M |
N/M—Not Meaningful
| (1) | UAN represents between 28% and 32% of nitrogen content, depending on the concentration specified by the customer. Nutrient tons represent the tons of nitrogen within the product tons. |
Year Ended December 31, 2018 Compared to Year Ended December 31, 2017
Net Sales. Net sales in the UAN segment increased $100 million, or 9%, to $1,234 million in 2018 due primarily to a 9% increase in average selling prices partially offset by a 1% decrease in sales volume. Average selling prices increased to $175 per ton in 2018 compared to $160 per ton in 2017, due primarily to the impact of a tighter global nitrogen supply and demand balance.
Cost of Sales. Cost of sales per ton in our UAN segment averaged $143 in 2018, a 4% decrease from $149 per ton in 2017. The decrease was due primarily to lower realized natural gas costs and the impact of a $4 million unrealized net mark-to-market gain on natural gas derivatives in 2018 compared to a $19 million loss in 2017.
Year Ended December 31, 2017 Compared to Year Ended December 31, 2016
Net Sales. Net sales in the UAN segment decreased $62 million, or 5%, to $1,134 million in 2017 due primarily to an 11% decrease in average selling prices partially offset by a 6% increase in sales volume. Average selling prices decreased to $160 per ton in 2017 compared to $179 per ton in 2016. UAN average selling prices were lower due primarily to greater global nitrogen supply availability due to global capacity additions. Selling prices strengthened in the fourth quarter of 2017 rising approximately 1% compared to the prior year period. Our sales volume was higher due primarily to growth in our North American customer base and higher export sales.
Cost of Sales. Cost of sales per ton in our UAN segment averaged $149 in 2017, an 8% increase from the average of $138 per ton in 2016. The increase was due primarily to the impact of an unrealized net mark-to-market loss on natural gas derivatives in 2017 compared to a gain in 2016 and the impact of higher realized natural gas costs in 2017, including the impact of realized derivatives, partially offset by targeted cost reduction initiatives and production efficiencies due to increased volume. Depreciation and amortization in our UAN segment in both 2017 and 2016 was $37 per ton.
CF INDUSTRIES HOLDINGS, INC.
AN Segment
Our AN segment produces ammonium nitrate (AN). AN is a nitrogen-based product with a nitrogen content between 29% and 35%. AN is used as nitrogen fertilizer and is also used by industrial customers for commercial explosives and blasting systems. AN is produced at our nitrogen complexes in Yazoo City, Mississippi and Ince and Billingham, United Kingdom.
The following table presents summary operating data for our AN segment:
| Year ended December 31, | |||||||||||||||||||||||||
| 2018 | 2017 | 2016 | 2018 v. 2017 | 2017 v. 2016 | |||||||||||||||||||||
| (in millions, except as noted) | |||||||||||||||||||||||||
| Net sales | $ | 460 | $ | 497 | $ | 411 | $ | (37 | ) | (7 | )% | $ | 86 | 21 | % | ||||||||||
| Cost of sales | 414 | 446 | 409 | (32 | ) | (7 | )% | 37 | 9 | % | |||||||||||||||
| Gross margin | $ | 46 | $ | 51 | $ | 2 | $ | (5 | ) | (10 | )% | $ | 49 | N/M | |||||||||||
| Gross margin percentage | 10.0 | % | 10.3 | % | 0.5 | % | (0.3 | )% | 9.8 | % | |||||||||||||||
| Sales volume by product tons (000s) | 2,002 | 2,353 | 2,151 | (351 | ) | (15 | )% | 202 | 9 | % | |||||||||||||||
| Sales volume by nutrient tons (000s)(1) | 676 | 793 | 726 | (117 | ) | (15 | )% | 67 | 9 | % | |||||||||||||||
| Average selling price per product ton | $ | 230 | $ | 211 | $ | 191 | $ | 19 | 9 | % | $ | 20 | 10 | % | |||||||||||
| Average selling price per nutrient ton(1) | $ | 680 | $ | 627 | $ | 566 | $ | 53 | 8 | % | $ | 61 | 11 | % | |||||||||||
| Gross margin per product ton | $ | 23 | $ | 22 | $ | 1 | $ | 1 | 5 | % | $ | 21 | N/M | ||||||||||||
| Gross margin per nutrient ton(1) | $ | 68 | $ | 64 | $ | 3 | $ | 4 | 6 | % | $ | 61 | N/M | ||||||||||||
| Depreciation and amortization | $ | 85 | $ | 85 | $ | 93 | $ | — | — | % | $ | (8 | ) | (9 | )% | ||||||||||
| Unrealized net mark-to-market loss (gain) on natural gas derivatives | $ | — | $ | 2 | $ | (10 | ) | $ | (2 | ) | (100 | )% | $ | 12 | N/M |
N/M—Not Meaningful
| (1) | Nutrient tons represent the tons of nitrogen within the product tons. |
Year Ended December 31, 2018 Compared to Year Ended December 31, 2017
Net Sales. Net sales in our AN segment decreased $37 million, or 7%, to $460 million in 2018 from $497 million in 2017 due primarily to a 15% decrease in sales volume, as a result of lower supply availability due to plant turnaround and maintenance activity. This decrease was partially offset by an increase in average selling prices of 9% as higher energy costs in Asia and Europe, along with continued enforcement of environmental regulations in China, resulted in lower production in these regions, tightening the global nitrogen supply and demand balance.
Cost of Sales. Cost of sales in our AN segment averaged $207 per ton in 2018, a 10% increase from $189 per ton in 2017. The increase was due primarily to higher realized natural gas costs in the United Kingdom and costs associated with plant turnaround and maintenance activity.
Year Ended December 31, 2017 Compared to Year Ended December 31, 2016
Net Sales. Total net sales in our AN segment increased $86 million, or 21%, to $497 million in 2017 from $411 million in 2016 due to a 10% increase in average realized selling prices and a 9% increase in sales volume, due to the commencement of a new long-term supply arrangement and a strong summer sales campaign in the United Kingdom. The increase in average realized selling prices was net of the unfavorable impact of foreign exchange rate changes between the U.S. dollar and the British pound, which reduced net sales by $14 million.
Cost of Sales. Total cost of sales per ton in our AN segment averaged $189 in 2017, a 1% decrease from $190 per ton in 2016. The decrease was due primarily to the costs in 2016 related to the completion of the reconfiguration at our Yazoo City complex, the impact of foreign exchange rate changes between the U.S. dollar and the British pound, and plant outages in the prior year. These decreases in cost of sales were partially offset by higher realized natural gas costs and the impact of an unrealized net mark-to-market loss on natural gas derivatives in 2017 compared to a gain in 2016.
CF INDUSTRIES HOLDINGS, INC.
Other Segment
Our Other segment primarily includes the following products:
| • | Diesel exhaust fluid (DEF) is an aqueous urea solution typically made with 32.5% high-purity urea and 67.5% deionized water. |
| • | Urea liquor is a liquid product that we sell in concentrations of 40%, 50% and 70% urea as a chemical intermediate. |
| • | Nitric acid is a nitrogen-based product with a nitrogen content of 22.2%. |
| • | Compound fertilizer products (NPKs) are solid granular fertilizer products for which the nutrient content is a combination of nitrogen, phosphorus and potassium. |
The following table presents summary operating data for our Other segment:
| Year ended December 31, | |||||||||||||||||||||||||
| 2018 | 2017 | 2016 | 2018 v. 2017 | 2017 v. 2016 | |||||||||||||||||||||
| (in millions, except as noted) | |||||||||||||||||||||||||
| Net sales | $ | 385 | $ | 319 | $ | 266 | $ | 66 | 21 | % | $ | 53 | 20 | % | |||||||||||
| Cost of sales | 335 | 272 | 217 | 63 | 23 | % | 55 | 25 | % | ||||||||||||||||
| Gross margin | $ | 50 | $ | 47 | $ | 49 | $ | 3 | 6 | % | $ | (2 | ) | (4 | )% | ||||||||||
| Gross margin percentage | 13.0 | % | 14.7 | % | 18.4 | % | (1.7 | )% | (3.7 | )% | |||||||||||||||
| Sales volume by product tons (000s) | 2,252 | 2,044 | 1,654 | 208 | 10 | % | 390 | 24 | % | ||||||||||||||||
| Sales volume by nutrient tons (000s)(1) | 439 | 397 | 317 | 42 | 11 | % | 80 | 25 | % | ||||||||||||||||
| Average selling price per product ton | $ | 171 | $ | 156 | $ | 161 | $ | 15 | 10 | % | $ | (5 | ) | (3 | )% | ||||||||||
| Average selling price per nutrient ton(1) | $ | 877 | $ | 804 | $ | 839 | $ | 73 | 9 | % | $ | (35 | ) | (4 | )% | ||||||||||
| Gross margin per product ton | $ | 22 | $ | 23 | $ | 30 | $ | (1 | ) | (4 | )% | $ | (7 | ) | (23 | )% | |||||||||
| Gross margin per nutrient ton(1) | $ | 114 | $ | 118 | $ | 155 | $ | (4 | ) | (3 | )% | $ | (37 | ) | (24 | )% | |||||||||
| Depreciation and amortization | $ | 67 | $ | 57 | $ | 46 | $ | 10 | 18 | % | $ | 11 | 24 | % | |||||||||||
| Unrealized net mark-to-market (gain) loss on natural gas derivatives | $ | (1 | ) | $ | 4 | $ | (17 | ) | $ | (5 | ) | N/M | $ | 21 | N/M |
N/M—Not Meaningful
| (1) | Nutrient tons represent the tons of nitrogen within the product tons. |
Year Ended December 31, 2018 Compared to Year Ended December 31, 2017
Net Sales. Net sales in our Other segment increased $66 million, or 21%, to $385 million in 2018 from $319 million in 2017 due to a 10% increase in sales volume and a 10% increase in average selling prices. The increase in sales volume was due primarily to an increase in DEF and nitric acid sales volume due to higher demand. The increase in average selling prices was due to the impact of a tighter global nitrogen supply and demand balance.
Cost of Sales. Cost of sales in our Other segment averaged $149 per ton in 2018, a 12% increase from $133 per ton in 2017, due primarily to higher natural gas costs in the United Kingdom and plant turnaround and maintenance activity, and other plant outages, partially offset by the impact of a $1 million unrealized net mark-to-market gain on natural gas derivatives in 2018 compared to a $4 million loss in 2017.
Year Ended December 31, 2017 Compared to Year Ended December 31, 2016
Net Sales. Total net sales in our Other segment increased $53 million, or 20%, to $319 million in 2017 from $266 million in 2016 due to a 24% increase in sales volume partially offset by a 3% decrease in average selling prices. The increase in our Other segment sales volume was due to an increase in DEF sales volume as demand in North America continued to grow. The decline in average selling prices was due to greater global nitrogen supply availability weighing on global nitrogen selling prices and the impact of foreign exchange rate changes between the U.S. dollar and the British pound, which reduced net sales by $6 million.
Cost of Sales. Cost of sales per ton in our Other segment averaged $133 in 2017, a 2% increase from $131 per ton in 2016, due primarily to the impact of an unrealized net mark-to-market loss on natural gas derivatives in 2017 compared to a
CF INDUSTRIES HOLDINGS, INC.
gain in the comparable period of 2016, partially offset by the impact of foreign exchange rate changes between the U.S. dollar and the British pound and the impact of production efficiencies due to increased volume.
Liquidity and Capital Resources
Our primary uses of cash are generally for operating costs, working capital, capital expenditures, debt service, investments, taxes, share repurchases and dividends. Our working capital requirements are affected by several factors, including demand for our products, selling prices, raw material costs, freight costs and seasonal factors inherent in the business. Generally, our primary source of cash is cash from operations, which includes cash generated by customer advances. We may also from time to time access the capital markets or engage in borrowings under our credit agreement.
On April 2, 2018, we purchased all of the 4,612,562 publicly traded common units of TNCLP (the TNCLP Public Units) for $388 million. See discussion under “Acquisition of the TNCLP Public Units,” below, for further information.
During the third and fourth quarters of 2018, we repurchased 10.9 million shares of our common stock for a total purchase price of $500 million. See discussion under “Share Repurchase Programs,” below, for further information.
At December 31, 2018, we were in compliance with all applicable covenant requirements under the Revolving Credit Agreement, Public Senior Notes and Senior Secured Notes. There were no borrowings outstanding under the Revolving Credit Agreement as of December 31, 2018 or December 31, 2017, or during 2018 or 2017. See discussion under “Debt,” below, for further information.
Our cash and cash equivalents balance was $682 million at December 31, 2018, a decrease of $153 million from $835 million at December 31, 2017.
Cash Equivalents
Cash equivalents include highly liquid investments that are readily convertible to known amounts of cash with original maturities of three months or less. Under our short-term investment policy, we may invest our cash balances, either directly or through mutual funds, in several types of investment-grade securities, including notes and bonds issued by governmental entities or corporations. Securities issued by governmental entities include those issued directly by the U.S. and Canadian federal governments; those issued by state, local or other governmental entities; and those guaranteed by entities affiliated with governmental entities.
Share Repurchase Programs
On August 1, 2018, our board of directors authorized the repurchase of up to $500 million of CF Holdings common stock through June 30, 2020 (the 2018 Share Repurchase Program). In 2018, we completed the 2018 Share Repurchase Program with the repurchase of 10.9 million shares for $500 million, of which $33 million was accrued and unpaid as of December 31, 2018. At December 31, 2018, we held 10,982,408 shares of treasury stock. The following table summarizes the share repurchases under the 2018 Share Repurchase Program:
| Shares | Amounts | |||||
| (in millions) | ||||||
| Third quarter | 1.8 | $ | 91 | |||
| Fourth quarter | 9.1 | 409 | ||||
| Total shares repurchased in 2018 | 10.9 | $ | 500 |
Subsequent to December 31, 2018, on February 13, 2019, the Board authorized the repurchase of up to $1 billion of CF Holdings common stock through December 31, 2021 (the 2019 Share Repurchase Program). Repurchases under the 2019 Share Repurchase Program may be made from time to time in the open market, through privately negotiated transactions, block transactions or otherwise. The manner, timing and amount of repurchases will be determined by our management based on the evaluation of market conditions, stock price, and other factors.
Capital Spending
We make capital expenditures to sustain our asset base, increase our capacity, improve plant efficiency and comply with various environmental, health and safety requirements. Capital expenditures totaled $422 million in 2018 compared to $473 million in 2017.
CF INDUSTRIES HOLDINGS, INC.
Capital expenditures in 2019 are estimated to be in the range of $400 to $450 million. Planned capital expenditures are subject to change due to delays in regulatory approvals or permitting, unanticipated increases in cost, changes in scope and completion time, performance of third parties, delay in the receipt of equipment, adverse weather, defects in materials and workmanship, labor or material shortages, transportation constraints, acceleration or delays in the timing of the work and other unforeseen difficulties.
Acquisition of the TNCLP Public Units
On February 7, 2018, we announced that, in accordance with the terms of TNCLP’s First Amended and Restated
Agreement of Limited Partnership (as amended by Amendment No. 1 to the First Amended and Restated Agreement of Limited
Partnership), TNGP elected to exercise its right to purchase the TNCLP Public Units. TNGP completed its purchase of the TNCLP Public Units on April 2, 2018 (the Purchase), for an aggregate cash purchase price of $388 million. We funded the Purchase with cash on hand. Upon completion of the Purchase, CF Holdings owned, through its subsidiaries, 100 percent of the general and limited partnership interests of TNCLP.
Government Policies
The policies or laws of governments around the world can result in the imposition of taxes, duties, tariffs or other restrictions or regulatory requirements on imports and exports of raw materials, finished goods or services from a particular country or region of the world. The policies and laws of governments can also impact the subsidization of natural gas prices, and subsidies or quotas applied to domestic producers, or farmers. Due to the critical role that fertilizers play in food production, the construction and operation of fertilizer plants often are influenced by economic, political and social objectives. Additionally, the import or export of fertilizer can be subject to local taxes imposed by governments which can have the effect of either encouraging or discouraging import and export activity. The impact of changes in governmental policies or laws or the political or social objectives of a country could have a material impact on fertilizer demand and selling prices and therefore could impact our liquidity.
Ethanol Industry and the Renewable Fuel Standard
Corn used to produce ethanol accounts for approximately 37% of total U.S. corn demand. U.S. government policy, as expressed in the Renewable Fuel Standard (RFS), is a major determinant for the ethanol market. The RFS establishes minimum volumes of various types of renewable fuels, including ethanol, that must be included in the United States’ supply of fuel for transportation. In addition, the U.S. Congress, at various times, has proposed legislation to either modify or eliminate the RFS. While past legislation proposing changes to the RFS has not been enacted into law, there can be no assurance that future legislation will not be enacted into law. Other factors that drive the ethanol market include the prices of ethanol, gasoline and corn. Lower gasoline prices may put pressure on ethanol prices that could result in reduced profitability and lower production for the ethanol industry, which could impact the demand for corn and nitrogen fertilizer and therefore could impact our liquidity.
Repatriation of Foreign Earnings and Income Taxes
We have operations in Canada, the United Kingdom and an interest in a joint venture in the Republic of Trinidad and Tobago. Historically, the estimated additional U.S. and foreign income taxes due upon repatriation of the earnings of these foreign operations to the U.S. were recognized in our consolidated financial statements as the earnings were recognized, unless the earnings were considered to be permanently reinvested based upon our then current plans. However, the cash payment of the income tax liabilities associated with repatriation of earnings from foreign operations occurred at the time of the repatriation. As a result, the recognition of income tax expense related to foreign earnings, as applicable, and the payment of taxes resulting from repatriation of those earnings could occur in different periods.
In light of changes made by the Tax Act, commencing with the 2018 tax year, the United States no longer taxes earnings of foreign subsidiaries even when such earnings are earned or repatriated to the United States, unless such earnings are subject to U.S. rules on passive income or certain anti-abuse provisions. Foreign subsidiary earnings may still be subject to withholding taxes when repatriated to the United States.
Cash balances held by our joint venture are maintained at sufficient levels to fund local operations as accumulated earnings are repatriated from the joint venture on a periodic basis.
As of December 31, 2018, approximately $33 million of our consolidated cash and cash equivalents balance of $682 million was held primarily by our Canadian and United Kingdom subsidiaries. Historically, the cash balance held by the Canadian subsidiaries represented accumulated earnings of our foreign operations that were not considered to be permanently reinvested. As of December 31, 2018, as a result of the amounts accrued in the transition tax liability recorded in 2017 and 2018 as a result of the Tax Act, we would not expect any additional cash tax cost to repatriate the Canadian and United Kingdom
CF INDUSTRIES HOLDINGS, INC.
cash balances if we were to repatriate this cash in the future.
Debt
Revolving Credit Agreement
We have a senior secured revolving credit agreement (the Revolving Credit Agreement) providing for a revolving credit facility of up to $750 million with a maturity of September 18, 2020. The Revolving Credit Agreement includes a letter of credit sub-limit of $125 million. Borrowings under the Revolving Credit Agreement may be used for working capital and general corporate purposes. CF Industries is the borrower under the Revolving Credit Agreement and may also designate as borrowers one or more wholly owned subsidiaries that are organized in the United States or any state thereof, or the District of Columbia.
Borrowings under the Revolving Credit Agreement may be denominated in U.S. dollars, Canadian dollars, euro and British pounds, and bear interest at a per annum rate equal to an applicable eurocurrency rate or base rate plus, in either case, a specified margin, and the borrowers are required to pay an undrawn commitment fee on the undrawn portion of the commitments under the Revolving Credit Agreement and customary letter of credit fees. The specified margin and the amount of the commitment fee depend on CF Holdings’ credit rating at the time.
The borrowers and guarantors under the Revolving Credit Agreement, which are currently comprised of CF Holdings, CF Industries and CF Holdings’ wholly owned subsidiaries CF Industries Enterprises, Inc. (CFE), CF Industries Sales, LLC (CFS), and CF USA Holdings, LLC (CF USA), are referred to together herein as the Loan Parties. Subject to specified exceptions, the Revolving Credit Agreement requires that each direct or indirect domestic subsidiary of CF Holdings that guarantees debt for borrowed money of any Loan Party in excess of $150 million become a guarantor under the Revolving Credit Agreement. Subject to specified exceptions, the Revolving Credit Agreement requires a grant of a first priority security interest in substantially all of the assets of the Loan Parties, including a pledge by CF USA of its equity interests in CF Industries Nitrogen, LLC (CFN) and mortgages over certain material fee-owned domestic real properties, to secure the obligations of the Loan Parties thereunder.
In addition to the obligations under the Revolving Credit Agreement, the Loan Parties also guarantee the obligations under any (i) letter of credit facilities, letter of credit reimbursement agreements, letters of credit, letters of guaranty, surety bonds or similar arrangements in an aggregate amount up to $300 million and (ii) interest rate or other hedging arrangements, in each case between CF Holdings or certain of its subsidiaries, on the one hand, and any person that is a lender or the administrative agent under the Revolving Credit Agreement or an affiliate of such person, on the other hand, that are designated by CF Industries as Secured Bilateral LC Facilities or Secured Swap Agreements (each as defined in the Revolving Credit Agreement), as applicable, pursuant to the terms of the Revolving Credit Agreement (such additional obligations, the Additional Guaranteed Obligations). Obligations under Secured Bilateral LC Facilities in an aggregate amount up to $300 million and obligations under Secured Swap Agreements are secured by the same security interest that secures the obligations under the Revolving Credit Agreement.
The Revolving Credit Agreement contains representations and warranties and affirmative and negative covenants customary for a financing of this type. Prior to the effectiveness of an amendment entered into on October 31, 2016 and effective November 21, 2016 (the November 2016 Credit Agreement Amendment), the Revolving Credit Agreement limited the ability of non-guarantor subsidiaries of CF Holdings to incur indebtedness and limited the ability of CF Holdings and its subsidiaries to grant liens, merge or consolidate with other entities and sell, lease or transfer all or substantially all of the assets of CF Holdings and its subsidiaries to another entity, in each case, subject to specified exceptions. The November 2016 Credit Agreement Amendment modified the negative covenants in the Revolving Credit Agreement to limit further the ability of CF Holdings and its subsidiaries to grant liens and add limitations on the ability of CF Holdings and its subsidiaries to incur debt, pay dividends, voluntarily prepay certain debt, make investments and dispose of assets, in each case, subject to specified exceptions (such further and additional limitations, the Additional Negative Covenants).
The financial covenants applicable to CF Holdings and its subsidiaries in the Revolving Credit Agreement (the New Financial Covenants):
| (i) | restrict the ratio of total secured debt to EBITDA (as defined in the Revolving Credit Agreement) for the period of four consecutive fiscal quarters most recently ended to a maximum of 3.75:1.00, |
| (ii) | require the ratio of EBITDA for the period of four consecutive fiscal quarters most recently ended to consolidated interest expense (as defined in the Revolving Credit Agreement) for the period of four consecutive fiscal quarters most recently ended to be a minimum of 1.20:1.00 for the fiscal quarters ending on or prior to December 31, 2018, and 1.50:1.00 thereafter, and |
CF INDUSTRIES HOLDINGS, INC.
| (iii) | require the ratio of total debt to total capitalization as of the last day of any fiscal quarter to be less than or equal to 0.60:1.00. |
Under the Revolving Credit Agreement, if on any date certain conditions were met, including (i) an absence of an event of default under the Revolving Credit Agreement, (ii) the receipt of an investment grade corporate rating for CF Holdings from two of three selected ratings agencies and (iii) the ratio of CF Holdings’ total net debt to EBITDA for the period of four consecutive fiscal quarters most recently ended being less than 3.75:1.00, CF Industries would be able to, at its option, choose to (w) suspend the Additional Negative Covenants, (x) replace the New Financial Covenants with covenants requiring the ratio of total net debt to EBITDA for the period of four fiscal consecutive quarters most recently ended to be less than or equal to 3.75:1.00 and the ratio of EBITDA for the period of four consecutive fiscal quarters most recently ended to consolidated interest expense for the period of four consecutive fiscal quarters most recently ended to be not less than 2.75:1.00, (y) release the collateral securing the obligations under the Revolving Credit Agreement and (z) release the guarantees supporting, and the collateral securing, the Secured Bilateral LC Facilities and the Secured Swap Agreements. Such a choice by CF Industries would commence a “Covenant Suspension Period” that would expire upon the Company’s no longer having an investment grade corporate rating from two of three selected rating agencies. Upon the expiration of a Covenant Suspension Period, the Additional Negative Covenants and the New Financial Covenants would be reinstated, and the Loan Parties party to the Revolving Credit Agreement would be required to guarantee the Additional Guaranteed Obligations and grant a first priority security interest in substantially all of each Loan Party’s assets, including a pledge by CF USA of its equity interests in CFN and mortgages over certain material fee-owned domestic real properties, subject to certain exceptions, to secure the obligations under the Revolving Credit Agreement, the Secured Bilateral LC Facilities and the Secured Swap Agreements.
The Revolving Credit Agreement contains events of default (with notice requirements and cure periods, as applicable) customary for a financing of this type, including, but not limited to, non-payment of principal, interest or fees; inaccuracy of representations and warranties in any material respect; and failure to comply with specified covenants. Upon the occurrence and during the continuance of an event of default under the Revolving Credit Agreement and after any applicable cure period, subject to specified exceptions, the administrative agent may, and at the request of the requisite lenders is required to, accelerate the loans under the Revolving Credit Agreement or terminate the lenders’ commitments under the Revolving Credit Agreement.
As of December 31, 2018, we had excess borrowing capacity under the Revolving Credit Agreement of $746 million (net of outstanding letters of credit of $4 million). There were no borrowings outstanding under the Revolving Credit Agreement as of December 31, 2018 or December 31, 2017, or during 2018 or 2017. Maximum borrowings outstanding under the Revolving Credit Agreement during the year ended December 31, 2016 were $150 million with a weighted-average annual interest rate of 1.85%.
The Revolving Credit Agreement contains representations and warranties and affirmative and negative covenants, including financial covenants. As of December 31, 2018, we were in compliance with all covenants under the Revolving Credit Agreement.
Letters of Credit
In addition to the letters of credit outstanding under the Revolving Credit Agreement, as described above, we have also entered into a bilateral agreement with capacity to issue letters of credit up to $125 million (reflecting an increase of $50 million in March 2018). As of December 31, 2018, approximately $114 million of letters of credit were outstanding under this agreement.
CF INDUSTRIES HOLDINGS, INC.
Senior Notes
Long-term debt presented on our consolidated balance sheets as of December 31, 2018 and 2017 consisted of the following Public Senior Notes (unsecured) and Senior Secured Notes issued by CF Industries:
| Effective Interest Rate | December 31, 2018 | December 31, 2017 | |||||||||||||||
| Principal Outstanding | Carrying Amount (1) | Principal Outstanding | Carrying Amount (1) | ||||||||||||||
| (in millions) | |||||||||||||||||
| Public Senior Notes: | |||||||||||||||||
| 7.125% due May 2020 | 7.529% | 500 | 497 | 500 | 496 | ||||||||||||
| 3.450% due June 2023 | 3.562% | 750 | 747 | 750 | 746 | ||||||||||||
| 5.150% due March 2034 | 5.279% | 750 | 740 | 750 | 739 | ||||||||||||
| 4.950% due June 2043 | 5.031% | 750 | 741 | 750 | 741 | ||||||||||||
| 5.375% due March 2044 | 5.465% | 750 | 741 | 750 | 741 | ||||||||||||
| Senior Secured Notes: | |||||||||||||||||
| 3.400% due December 2021 | 3.782% | 500 | 495 | 500 | 493 | ||||||||||||
| 4.500% due December 2026 | 4.759% | 750 | 737 | 750 | 736 | ||||||||||||
| Total long-term debt | $ | 4,750 | $ | 4,698 | $ | 4,750 | $ | 4,692 |
| (1) | Carrying amount is net of unamortized debt discount and deferred debt issuance costs. Total unamortized debt discount was $11 million and $12 million as of December 31, 2018 and 2017, respectively, and total deferred debt issuance costs were $41 million and $46 million as of December 31, 2018 and 2017, respectively. |
Public Senior Notes
Under the indentures (including the applicable supplemental indentures) governing our senior notes due 2020, 2023, 2034, 2043 and 2044 (the Public Senior Notes), each series of Public Senior Notes is guaranteed by CF Holdings, and CF Holdings’ wholly owned subsidiaries CFE, CFS and CF USA. CFE, CFS and CF USA became subsidiary guarantors of the Public Senior Notes as a result of their becoming guarantors under the Revolving Credit Agreement. Interest on the Public Senior Notes is payable semiannually, and the Public Senior Notes are redeemable at our option, in whole at any time or in part from time to time, at specified make-whole redemption prices. The indentures governing the Public Senior Notes contain customary events of default (including cross-default triggered by acceleration of, or a principal payment default that is not cured within an applicable grace period under, other debt having a principal amount of $150 million or more) and covenants that limit, among other things, the ability of CF Holdings and its subsidiaries, including CF Industries, to incur liens on certain properties to secure debt.
If a Change of Control occurs together with a Ratings Downgrade (as both terms are defined under the indentures governing the Public Senior Notes), CF Industries would be required to offer to repurchase each series of Public Senior Notes at a price equal to 101% of the principal amount thereof, plus accrued and unpaid interest. In addition, in the event that a subsidiary of CF Holdings, other than CF Industries, becomes a borrower or a guarantor under the Revolving Credit Agreement (or any renewal, replacement or refinancing thereof), such subsidiary would be required to become a guarantor of the Public Senior Notes, provided that such requirement will no longer apply with respect to the Public Senior Notes due 2023, 2034, 2043 and 2044 following the repayment of the Public Senior Notes due 2020 or the subsidiaries of ours, other than CF Industries, otherwise becoming no longer subject to such a requirement to guarantee the Public Senior Notes due 2020.
On December 1, 2017, we redeemed all of the $800 million outstanding principal amount of the 6.875% senior notes due May 2018 (the 2018 Notes) in accordance with the optional redemption provisions provided in the indenture governing the 2018 Notes. The total aggregate redemption price was approximately $817 million. On December 26, 2017, we purchased approximately $300 million aggregate principal amount of the $800 million outstanding principal amount of 7.125% senior notes due 2020 (the 2020 Notes). The aggregate purchase price was approximately $331 million. As a result, we recognized a loss on debt extinguishment of $53 million, primarily consisting of $48 million of premiums paid for the early retirement of debt for the 2018 Notes and 2020 Notes.
Senior Secured Notes
On November 21, 2016, CF Industries issued $500 million aggregate principal amount of 3.400% senior secured notes due 2021 (the 2021 Notes) and $750 million aggregate principal amount of 4.500% senior secured notes due 2026 (the 2026 Notes, and together with the 2021 Notes, the Senior Secured Notes). The net proceeds, after deducting discounts and offering
CF INDUSTRIES HOLDINGS, INC.
expenses, from the issuance and sale of the Senior Secured Notes were approximately $1.23 billion. CF Industries used approximately $1.18 billion of the net proceeds for the prepayment (including payment of a make-whole amount of approximately $170 million and accrued interest) in full of the outstanding $1.0 billion aggregate principal amount of the senior notes due 2022, 2025 and 2027 (Private Senior Notes) issued by CF Industries on September 24, 2015. Interest on the Senior Secured Notes is payable semiannually on December 1 and June 1 beginning on June 1, 2017, and the Senior Secured Notes are redeemable at our option, in whole at any time or in part from time to time, at specified make-whole redemption prices.
Under the terms of the applicable indenture, the Senior Secured Notes of each series are fully and unconditionally guaranteed on a senior secured basis, jointly and severally, by CF Holdings and each current and future domestic subsidiary of CF Holdings (other than CF Industries) that from time to time is a borrower, or guarantees indebtedness, under the Revolving Credit Agreement. The requirement for any subsidiary of CF Holdings to guarantee the Senior Secured Notes of a series will apply only until, and the subsidiary guarantees of the Senior Secured Notes of a series will be automatically released upon, the latest to occur of (a) CF Holdings having an investment grade corporate rating, with a stable or better outlook, from two of three selected ratings agencies and there being no default or event of default under the applicable Indenture and (b) the retirement, discharge or legal or covenant defeasance of, or satisfaction and discharge of the supplemental indenture governing, the Public Senior Notes due 2020 or the subsidiaries of CF Holdings (other than CF Industries) otherwise becoming no longer subject to the requirement, described in the second paragraph under “—Public Senior Notes,” above, to guarantee the Public Senior Notes due 2020. In accordance with the applicable indenture, CFE and CFS, in addition to CF Holdings, guaranteed the Senior Secured Notes of each series upon the initial issuance of the Senior Secured Notes, and CF USA guaranteed the Senior Secured Notes of each series upon its becoming a guarantor under the Revolving Credit Agreement.
Subject to certain exceptions, the obligations under each series of Senior Secured Notes and each guarantor’s related guarantee are secured by a first priority security interest in substantially all of the assets of CF Industries, CF Holdings and the subsidiary guarantors, including a pledge by CF USA of its equity interests in CFN and mortgages over certain material fee-owned domestic real properties (the Collateral). The obligations under the Revolving Credit Agreement, together with certain letter of credit, hedging and similar obligations and future pari passu secured indebtedness, will be secured by the Collateral on a pari passu basis with the Senior Secured Notes. The liens on the Collateral securing the obligations under the Senior Secured Notes of a series and the related guarantees will be automatically released and the covenant under the applicable indenture limiting dispositions of Collateral will no longer apply if, on any date after the initial issuance of the Senior Secured Notes, CF Holdings has an investment grade corporate rating, with a stable or better outlook, from two of three selected ratings agencies and there is no default or event of default under the applicable indenture.
Under each of the indentures governing the Senior Secured Notes, specified changes of control involving CF Holdings or CF Industries, when accompanied by a ratings downgrade, as defined with respect to the applicable series of Senior Secured Notes, constitute change of control repurchase events. Upon the occurrence of a change of control repurchase event with respect to the 2021 Notes or the 2026 Notes, as applicable, unless CF Industries has exercised its option to redeem such Senior Secured Notes, CF Industries will be required to offer to repurchase them at a price equal to 101% of the principal amount thereof, plus accrued and unpaid interest, if any, to, but not including, the date of repurchase.
The indentures governing the Senior Secured Notes contain covenants that limit, among other things, the ability of CF Holdings and its subsidiaries, including CF Industries, to incur liens on certain assets to secure debt, to engage in sale and leaseback transactions, to sell or transfer Collateral, to merge or consolidate with other entities and to sell, lease or transfer all or substantially all of the assets of CF Holdings and its subsidiaries to another entity. Each of the indentures governing the Senior Secured Notes provides for customary events of default, which include (subject in certain cases to customary grace and cure periods), among others, nonpayment of principal or interest on the applicable Senior Secured Notes; failure to comply with other covenants or agreements under the indenture; certain defaults on other indebtedness; the failure of CF Holdings’ or certain subsidiaries’ guarantees of the applicable Senior Secured Notes to be enforceable; lack of validity or perfection of any lien securing the obligations under the Senior Secured Notes and the guarantees with respect to Collateral having an aggregate fair market value equal to or greater than a specified amount; and specified events of bankruptcy or insolvency. Under each indenture governing the Senior Secured Notes, in the case of an event of default arising from one of the specified events of bankruptcy or insolvency, the applicable Senior Secured Notes would become due and payable immediately, and, in the case of any other event of default (other than an event of default related to CF Industries’ and CF Holdings’ reporting obligations), the trustee or the holders of at least 25% in aggregate principal amount of the applicable Senior Secured Notes then outstanding may declare all of such Senior Secured Notes to be due and payable immediately.
Private Senior Notes
The senior notes due 2022, 2025 and 2027 (the Private Senior Notes), issued by CF Industries on September 24, 2015, were governed by the terms of a note purchase agreement (as amended, including by an amendment effective September 7, 2016, the Note Purchase Agreement). The Private Senior Notes were guaranteed by CF Holdings. All obligations under the Note Purchase Agreement were unsecured.
CF INDUSTRIES HOLDINGS, INC.
On November 21, 2016, we prepaid in full the outstanding $1.0 billion aggregate principal amount of our Private Senior Notes. The prepayment of $1.18 billion included the payment of a make-whole amount of approximately $170 million and accrued interest. Loss on debt extinguishment of $167 million on our consolidated statements of operations excludes $3 million of the make-whole payment, which was accounted for as a modification and recognized on our consolidated balance sheet as deferred financing fees, a reduction of long-term debt, and is being amortized using the effective interest rate method over the term of the Senior Secured Notes.
Bridge Credit Agreement
On September 18, 2015, in connection with our proposed combination with certain businesses of OCI, CF Holdings and CF Industries entered into a senior unsecured 364-Day Bridge Credit Agreement (as amended, the Bridge Credit Agreement). Upon the termination of the Combination Agreement on May 22, 2016, the lenders’ commitments under the Bridge Credit Agreement terminated automatically. There were no borrowings under the Bridge Credit Agreement. See Note 13—Interest Expense for additional information.
Forward Sales and Customer Advances
We offer our customers the opportunity to purchase products from us on a forward basis at prices and on delivery dates we propose. Therefore, our reported fertilizer selling prices and margins may differ from market spot prices and margins available at the time of shipment.
Customer advances, which typically represent a portion of the contract’s value, are received shortly after the contract is executed, with any remaining unpaid amount generally being collected by the time control transfers to the customer, thereby reducing or eliminating the accounts receivable related to such sales. Any cash payments received in advance from customers in connection with forward sales contracts are reflected on our consolidated balance sheets as a current liability until control transfers and revenue is recognized. As of December 31, 2018 and 2017, we had $149 million and $89 million, respectively, in customer advances on our consolidated balance sheets.
While customer advances are generally a significant source of liquidity, the level of forward sales contracts is affected by many factors including current market conditions and our customers’ outlook of future market fundamentals. During periods of declining prices, customers tend to delay purchasing fertilizer in anticipation that prices in the future will be lower than the current prices. If the level of sales under our forward sales programs were to decrease in the future, our cash received from customer advances would likely decrease and our accounts receivable balances would likely increase. Additionally, borrowing under the Revolving Credit Agreement could become necessary. Due to the volatility inherent in our business and changing customer expectations, we cannot estimate the amount of future forward sales activity.
Under our forward sales programs, a customer may delay delivery of an order due to weather conditions or other factors. These delays generally subject the customer to potential charges for storage or may be grounds for termination of the contract by us. Such a delay in scheduled shipment or termination of a forward sales contract due to a customer’s inability or unwillingness to perform may negatively impact our reported sales.
Natural Gas Prices
Natural gas is the principal raw material used to produce nitrogen fertilizers. We use natural gas both as a chemical feedstock and as a fuel to produce ammonia, granular urea, UAN, AN and other nitrogen products. Expenditures on natural gas represent a significant portion of our production costs. For example, natural gas costs, including realized gains and losses, comprised approximately 40% of our total production costs in 2018. As a result, natural gas prices have a significant impact on our operating expenses and can thus affect our liquidity.
Because most of our nitrogen fertilizer manufacturing facilities are located in the United States and Canada, the price of natural gas in North America directly impacts a substantial portion of our operating expenses. Due to increases in natural gas production resulting from the rise in production from shale gas formations, natural gas prices in North America have declined since 2008, but are subject to volatility. During 2018, the daily closing price at the Henry Hub, the most heavily-traded natural gas pricing point in North America, reached a low of $2.48 per MMBtu on four consecutive days in February 2018 and a high of $6.88 per MMBtu on January 4, 2018. During the three-year period ended December 31, 2018, the daily closing price at the Henry Hub reached a low of $1.49 per MMBtu on three consecutive days in March 2016 and a high of $6.88 per MMBtu on January 4, 2018.
We also have manufacturing facilities located in the United Kingdom. These facilities are subject to fluctuations associated with the price of natural gas in Europe. The major natural gas trading point for the United Kingdom is the National Balancing Point (NBP). During 2018, the daily closing price at NBP reached a low of $6.60 per MMBtu on two consecutive days in January 2018 and a high of $31.74 per MMBtu on March 2, 2018. During the three-year period ended December 31,
CF INDUSTRIES HOLDINGS, INC.
2018, the daily closing price at NBP reached a low of $2.80 per MMBtu on September 1, September 12 and September 14, 2016, and a high of $31.74 per MMBtu on March 2, 2018.
Natural gas costs in our cost of sales, including the impact of realized natural gas derivatives, decreased 7% per MMBtu in 2018 from 2017.
Derivative Financial Instruments
We may use derivative financial instruments to reduce our exposure to changes in prices for natural gas that will be purchased in the future. Natural gas is the largest and most volatile component of our manufacturing cost for nitrogen-based fertilizers. From time to time, we may also use derivative financial instruments to reduce our exposure to changes in foreign currency exchange rates. Volatility in reported quarterly earnings can result from the unrealized mark-to-market adjustments in the value of the derivatives. In 2018, 2017 and 2016, we recognized unrealized net mark-to-market (gains) losses on natural gas derivatives of $(13) million, $61 million and $(260) million, respectively, which is reflected in cost of sales in our consolidated statements of operations.
Derivatives expose us to counterparties and the risks associated with their ability to meet the terms of the contracts. For derivatives that are in net asset positions, we are exposed to credit loss from nonperformance by the counterparties. We control our credit risk through the use of multiple counterparties that are multinational commercial banks, other major financial institutions or large energy companies, and, in most cases, the use of International Swaps and Derivatives Association (ISDA) master netting arrangements. The ISDA agreements are master netting arrangements commonly used for over-the-counter derivatives that mitigate exposure to counterparty credit risk, in part, by creating contractual rights of netting and setoff, the specifics of which vary from agreement to agreement.
The ISDA agreements for most of our derivative instruments contain credit-risk-related contingent features, such as cross default provisions and credit support thresholds. In the event of certain defaults or a credit ratings downgrade, our counterparty may request early termination and net settlement of certain derivative trades or may require us to collateralize derivatives in a net liability position. The Revolving Credit Agreement, at any time when it is secured, provides a cross collateral feature for those of our derivatives that are with counterparties that are party to, or affiliates of parties to, the Revolving Credit Agreement so that no separate collateral would be required for those counterparties in connection with such derivatives. In the event the Revolving Credit Agreement becomes unsecured, separate collateral could be required in connection with such derivatives.
As of December 31, 2018 and 2017, the aggregate fair value of the derivative instruments with credit-risk-related contingent features in net liability positions was zero and $12 million, respectively, which also approximates the fair value of the maximum amount of additional collateral that would need to be posted or assets needed to settle the obligations if the credit-risk-related contingent features were triggered at the reporting dates. As of December 31, 2018, we had open natural gas derivative contracts for 6.6 million MMBtus of natural gas basis swaps. As of December 31, 2017, we had open natural gas derivative contracts for 35.9 million MMBtus that included natural gas fixed price swaps and basis swaps. At both December 31, 2018 and 2017, we had no cash collateral on deposit with counterparties for derivative contracts. The credit support documents executed in connection with certain of our ISDA agreements generally provide us and our counterparties the right to set off collateral against amounts owing under the ISDA agreements upon the occurrence of a default or a specified termination event.
Embedded Derivative Liability
Under the terms of our strategic venture with CHS, if our credit rating as determined by two of three specified credit rating agencies is below certain levels, we are required to make a non-refundable yearly payment of $5 million to CHS. Since our credit ratings were below certain levels in 2016, 2017 and 2018, we made a payment of $5 million to CHS in each year. These payments will continue on a yearly basis until the earlier of the date that our credit rating is upgraded to or above certain levels by two of three specified credit rating agencies or February 1, 2026.
This obligation is recognized on our consolidated balance sheet as an embedded derivative and its value is included in other liabilities. See Note 9—Fair Value Measurements for additional information.
Defined Benefit Pension Plans
We contributed $39 million to our pension plans in 2018. We expect to contribute approximately $62 million to our pension plans in 2019.
CF INDUSTRIES HOLDINGS, INC.
Distributions on Noncontrolling Interest in CFN
The CFN Board of Managers approved semi-annual distribution payments during the years ended December 31, 2018, 2017 and 2016, in accordance with CFN’s limited liability company agreement, as follows:
| Approved and paid | Distribution Period | Distribution Amount (in millions) | ||||
| First quarter of 2019 | Six months ended December 31, 2018 | $ | 86 | |||
| Third quarter of 2018 | Six months ended June 30, 2018 | 79 | ||||
| First quarter of 2018 | Six months ended December 31, 2017 | 49 | ||||
| Third quarter of 2017 | Six months ended June 30, 2017 | 59 | ||||
| First quarter of 2017 | Six months ended December 31, 2016 | 48 | ||||
| Third quarter of 2016 | February 1, 2016 to June 30, 2016 | 79 |
Cash Flows
Operating Activities
Net cash provided by operating activities in 2018 was $1,497 million as compared to $1,631 million in 2017, a decline of $134 million. The decline was primarily due to our receipt in 2017 of an $815 million income tax refund as a result of the claim to carry back the 2016 federal tax loss to prior income tax years. The remaining change in net cash from operating activities is an increase in cash from operations in 2018 of $681 million as compared to 2017. This increase was due primarily to an increase in operating earnings of the business, lower usage of working capital in 2018 in the areas of accounts receivable and accounts payable and accruals, and lower pension contributions in 2018. In 2018, we contributed $39 million to our pension plans compared to $82 million in 2017.
Net cash provided by operating activities in 2017 was $1,631 million as compared to $617 million in 2016, an increase of $1,014 million. The increase was primarily due to working capital changes including the receipt of our $815 million income tax refund related to the claim to carry back the 2016 federal tax loss to prior income tax years. The increase in net cash provided by operating activities was also a result of entering 2017 with a lower level of customer advances than 2016 due to customer reluctance to enter into prepaid contracts in a declining fertilizer price environment. These increases were partially offset by higher contributions to our pension plans. In 2017, we contributed $82 million to our pension plans compared to $23 million in 2016.
Investing Activities
Net cash used in investing activities was $375 million in 2018 compared to $413 million in 2017. During 2018, capital expenditures totaled $422 million compared to $473 million in 2017. Net cash used in investing activities in 2018 included $10 million related to property insurance proceeds received. Net cash used in investing activities of $2.20 billion in 2016 included $2.21 billion in capital expenditures, primarily related to our capacity expansion projects that were completed as of December 31, 2016.
Financing Activities
Net cash used in financing activities was $1.27 billion in 2018 compared to $1.56 billion in 2017 and compared to net cash provided by financing activities of $2.44 billion in 2016.
Net cash used in financing activities in 2018 included $388 million related to our acquisition of all of the outstanding publicly traded common units of TNCLP. In addition, we repurchased 10.9 million of our common shares for $500 million, of which $33 million was accrued and unpaid as of December 31, 2018. In 2018, 2017 and 2016, we distributed $139 million, $131 million and $119 million, respectively, to the noncontrolling interests in CFN and TNCLP.
In 2017, we paid $1.15 billion in connection with the redemption of $800 million in aggregate principal amount of our 2018 Notes, the purchase of approximately $300 million aggregate principal amount of our 2020 Notes pursuant to a tender offer and premiums paid for the early retirement of long-term debt. In 2016, CHS made a capital contribution of $2.8 billion to CFN, a subsidiary of CF Holdings, in exchange for membership interests in CFN. We also received proceeds of approximately $1.24 billion, net of discounts, from the issuance of the Senior Secured Notes which were used to fund the prepayment of the $1.0 billion of Private Senior Notes and the related make-whole payment of $170 million.
CF INDUSTRIES HOLDINGS, INC.
Contractual Obligations
The following is a summary of our contractual obligations as of December 31, 2018:
| 2019 | 2020 | 2021 | 2022 | 2023 | After 2023 | Total | |||||||||||||||||||||
| (in millions) | |||||||||||||||||||||||||||
| Contractual Obligations | |||||||||||||||||||||||||||
| Debt | |||||||||||||||||||||||||||
| Long-term debt(1) | $ | — | $ | 500 | $ | 500 | $ | — | $ | 750 | $ | 3,000 | $ | 4,750 | |||||||||||||
| Interest payments on long-term debt(1) | 230 | 211 | 191 | 176 | 163 | 2,054 | 3,025 | ||||||||||||||||||||
| Other Obligations | |||||||||||||||||||||||||||
| Operating leases | 93 | 80 | 59 | 41 | 28 | 62 | 363 | ||||||||||||||||||||
| Equipment purchases and plant improvements | 114 | 11 | 1 | — | — | — | 126 | ||||||||||||||||||||
| Transportation(2) | 12 | 6 | 3 | — | — | — | 21 | ||||||||||||||||||||
| Purchase obligations(3)(4) | 789 | 64 | 48 | 36 | 34 | 62 | 1,033 | ||||||||||||||||||||
| Contributions to pension plans(5) | 62 | — | — | — | — | — | 62 | ||||||||||||||||||||
| Total(6)(7)(8) | $ | 1,300 | $ | 872 | $ | 802 | $ | 253 | $ | 975 | $ | 5,178 | $ | 9,380 |
| (1) | Based on debt balances before discounts, offering expenses and interest rates as of December 31, 2018. |
| (2) | Includes anticipated expenditures under certain contracts to transport finished product to and from our facilities. The majority of these arrangements allow for reductions in usage based on our actual operating rates. Amounts set forth in this table are based on projected normal operating rates and contracted or current spot prices, where applicable, as of December 31, 2018 and actual operating rates and prices may differ. |
| (3) | Includes minimum commitments to purchase and transport natural gas based on prevailing market-based forward prices as of December 31, 2018 excluding reductions for plant maintenance and turnaround activities. Purchase obligations do not include any amounts related to our natural gas derivatives. See Note 15—Derivative Financial Instruments for additional information. |
| (4) | Includes a commitment to purchase ammonia from PLNL at market-based prices under an agreement that expires in September 2019. The purchase commitment is $58 million based on market prices as of December 31, 2018. This agreement includes automatic consecutive one-year renewals, unless otherwise terminated by either party in advance. Assuming the agreement is not terminated by either party and based on market prices as of December 31, 2018, the annual commitment would be $77 million. |
| (5) | Represents the contributions we expect to make to our pension plans during 2019. Our pension funding policy is to contribute amounts sufficient to meet minimum legal funding requirements plus discretionary amounts that we may deem to be appropriate. |
| (6) | Excludes $155 million of unrecognized tax benefits, due to the uncertainty in the timing of potential tax payments, and the transition tax liability of $72 million resulting from the enactment of the Tax Act. See Note 10—Income Taxes for additional information. |
| (7) | Excludes $9 million of environmental remediation liabilities due to the uncertainty in the timing of payments. |
| (8) | Excludes $5 million annual payments to CHS related to our embedded derivative due to uncertainty of future credit ratings, as this is only applicable until the earlier of the date that our credit rating is upgraded to or above certain levels by two of three specified credit rating agencies or February 1, 2026. See Note 9—Fair Value Measurements or Note 17—Noncontrolling Interests for additional information. |
CF INDUSTRIES HOLDINGS, INC.
Off-Balance Sheet Arrangements
We have operating leases for certain property and equipment under various noncancelable agreements, the most significant of which are rail car leases and barge tow charters for the transportation of our products. The rail car leases currently have minimum terms ranging from one to eleven years and the barge charter commitments range from two to seven years. We also have terminal and warehouse storage agreements for our distribution system, some of which contain minimum throughput requirements. The storage agreements contain minimum terms generally ranging from one to five years and commonly contain provisions for automatic annual renewal thereafter unless canceled by either party. See Note 24—Leases for additional information.
We do not have any other off-balance sheet arrangements that have or are reasonably likely to have a material current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.
Critical Accounting Policies and Estimates
Our discussion and analysis of our financial condition, results of operations, liquidity and capital resources is based upon our consolidated financial statements, which have been prepared in accordance with U.S. GAAP. U.S. GAAP requires that we select policies and make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates. We base our estimates on historical experience, technological assessment, opinions of appropriate outside experts, and the most recent information available to us. Actual results may differ from these estimates. Changes in estimates that may have a material impact on our results are discussed in the context of the underlying financial statements to which they relate. The following discussion presents information about our most critical accounting policies and estimates.
Income Taxes
We recognize expenses, assets and liabilities for income taxes based on estimates of amounts that ultimately will be determined to be taxable or deductible in tax returns filed in various jurisdictions. U.S. income taxes are provided on that portion of the earnings of foreign subsidiaries that is expected to be remitted to the U.S. and be taxable. The final taxes paid are dependent upon many factors and judgments, including negotiations with taxing authorities in various jurisdictions and resolution of disputes arising from federal, state and international tax audits. The judgments made at any point in time may change from previous conclusions based on the outcome of tax audits, as well as changes to, or further interpretations of, tax laws and regulations. We adjust income tax expense in the period in which these changes occur.
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those differences are projected to be recovered or settled. Realization of deferred tax assets is dependent on our ability to generate sufficient taxable income of an appropriate character in future periods. A valuation allowance is established if it is determined to be more likely than not that a deferred tax asset will not be realized. Significant judgment is applied in evaluating the need for and the magnitude of appropriate valuation allowances against deferred tax assets. Interest and penalties related to unrecognized tax benefits are reported as interest expense and income tax expense, respectively.
Historically, a deferred income tax liability was recorded for income taxes that would result from the repatriation of the portion of the investment in our non-U.S. subsidiaries and joint venture that were considered to not be permanently reinvested. No deferred income tax liability was recorded for the remainder of our investment in non-U.S. subsidiaries and joint venture, which we believed to be permanently reinvested. In light of changes made by the Tax Act, the Company continues to evaluate whether it will continue to treat foreign subsidiary earnings as being permanently reinvested.
As a large commercial enterprise with international operations, our income tax expense and our effective tax rate may change from period to period due to many factors. The most significant of these factors are changes in tax legislation in the countries in which we operate, changes in the geographic mix of earnings, the tax characteristics of our income, the ability to realize certain foreign tax credits and net operating losses, and the portion of the income of our foreign subsidiaries and foreign joint venture that could be subjected to U.S. taxation. It is reasonably likely that these items will impact income tax expense, net income and liquidity in future periods.
We operate in a number of countries and as a result have a significant amount of cross border transactions. The taxability of cross border transactions has received an increasing level of scrutiny among regulators in countries across the globe, including the countries in which we operate. The tax rules and regulations within the various countries in which we operate are complex and in many cases there is not symmetry between the rules of the various countries. As a result, there are instances
CF INDUSTRIES HOLDINGS, INC.
where regulators within the countries involved in a cross border transaction may reach different conclusions regarding the taxability of the transaction in their respective jurisdictions based on the same set of facts and circumstances. We work closely with regulators to reach a common understanding and conclusion regarding the taxability of cross border transactions. However, there are instances where reaching a common understanding is not possible or practical. As of December 31, 2018, we have recorded a reserve for unrecognized tax benefits, including penalties and interest, of $155 million, which is related predominantly to certain potential tax exposures involving cross border transactions. This amount represents our best estimate of the potential amounts due based on our interpretations of the rules and the facts and circumstances of the transactions. Differences in interpretation of the tax laws, including agreements between governments surrounding our cross border transactions, can result in differences in taxes paid which may be higher or lower than our estimates.
Recoverability of Long-Lived Assets, Goodwill and Investments in Unconsolidated Subsidiaries
We review the carrying values of our property, plant and equipment and other long-lived assets, including our finite-lived intangible assets, goodwill and investments in affiliates including joint ventures in accordance with U.S. GAAP in order to assess recoverability. Factors that we must estimate when performing impairment tests include sales volume, selling prices, raw material costs, operating rates, operating expenses, inflation, discount rates, exchange rates, tax rates and capital spending. Significant judgment is involved in estimating each of these factors, which include inherent uncertainties. The factors we use are consistent with those used in our internal planning process. The recoverability of the values associated with our goodwill, long-lived assets and investments in unconsolidated affiliates is dependent upon future operating performance of the specific businesses to which they are attributed. Certain of the operating assumptions are particularly sensitive to the cyclical nature of the fertilizer business. Adverse changes in demand for our products, increases in supply and the availability and costs of key raw materials could significantly affect the results of our review.
The recoverability and impairment tests of long-lived assets are required only when conditions exist that indicate the carrying value may not be recoverable. For goodwill, impairment tests are required at least annually, or more frequently if events or circumstances indicate that it may be impaired. Our investments in unconsolidated affiliates are reviewed for impairment whenever events or circumstances indicate that the carrying value may not be recoverable. When circumstances indicate that the fair value of our investment in any such affiliate is less than its carrying value, and the reduction in value is other than temporary, the reduction in value is recognized immediately in earnings.
PLNL is our joint venture investment in the Republic of Trinidad and Tobago and operates an ammonia plant that relies on natural gas supplied, under the NGC Contract, by NGC. The joint venture is accounted for under the equity method. The joint venture experienced past curtailments in the supply of natural gas from NGC, which reduced the ammonia production at PLNL. The NGC Contract had an initial expiration date of September 2018 and was extended on the same terms until September 2023. Any NGC commitment to supply gas beyond 2023 will be based on new agreements.
As part of our impairment assessment of our equity method investment in PLNL, we determined the carrying value exceeded the fair value and recognized a $134 million impairment charge in 2016 related to our equity method investment in PLNL. The carrying value of our equity method investment in PLNL at December 31, 2018 is $93 million. If NGC does not make sufficient quantities of natural gas available to PLNL at prices that permit profitable operations, PLNL may cease operating its facility and we would write off the remaining investment in PLNL.
The U.K. Government held a referendum on the U.K.’s membership in the European Union in June 2016, which resulted in the electorate voting in favor of the U.K. exit from the European Union (Brexit). A process of negotiation is now taking place to determine the future terms of the United Kingdom’s relationship with the European Union, with the United Kingdom due to exit the European Union on March 29, 2019. We operate two nitrogen manufacturing facilities in the United Kingdom, which utilize foreign-sourced materials and equipment, and which also export products in addition to serving customers in the United Kingdom. Brexit, including its indirect effects, could impact us in the future. For example, the cost and availability of natural gas or other raw materials or equipment that we purchase and the demand or selling prices for the nitrogen products that we sell, could be impacted by changes in tariffs, duties, trade restrictions or other factors. Brexit could lead to changes in trade flows, trading relationships, the movement of production to alternative locations, or the curtailment of certain production at certain sites. Brexit could also impact foreign exchange rates or U.K. interest rates, which could impact our operations or the valuation of our assets and liabilities. Since the U.K. referendum in June 2016, the United Kingdom has experienced increases in the volatility of foreign exchange rates, which impacted our operations. As a result of the uncertainty of Brexit, including its indirect effects, changes in the future profitability, asset utilization, or business valuation of our U.K. operations could negatively impact us and may result in an impairment of our long-lived assets or goodwill. As of December 31, 2018, long-lived assets, including property, plant and equipment and intangible assets, and goodwill related to the United Kingdom were $742 million and $264 million, respectively.
CF INDUSTRIES HOLDINGS, INC.
We evaluate goodwill for impairment in the fourth quarter at the reporting unit level. Our evaluation can begin with a qualitative assessment of the factors that could impact the significant inputs used to estimate fair value. If after performing the qualitative assessment, we determine that it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, including goodwill, then no further analysis is necessary. However, if it is unclear based on the results of the qualitative test, we perform a quantitative test, which involves comparing the fair value of a reporting unit with its carrying amount, including goodwill. We use an income-based valuation method, determining the present value of future cash flows, to estimate the fair value of a reporting unit. If the fair value of a reporting unit exceeds its positive carrying amount, goodwill of the reporting unit is considered not impaired, and no further testing is necessary. If the fair value of the reporting unit is less than its carrying amount, goodwill impairment would be recognized equal to the amount of the carrying value in excess of the reporting unit’s fair value, limited to the total amount of goodwill allocated to the reporting unit. We identified no goodwill impairment in our 2018, 2017 or 2016 reviews. As of December 31, 2018 and 2017, the carrying value of our goodwill was $2.35 billion and $2.37 billion, respectively.
Intangible assets identified in connection with our 2010 acquisition of Terra Industries Inc. consist of customer relationships, which are being amortized over a period of 18 years. The intangible assets identified in connection with our 2015 acquisition of CF Fertilisers UK consist of customer relationships and trade names which are being amortized over a period of approximately 20 years. Our intangible assets are presented in other assets on our consolidated balance sheets. See Note 7—Goodwill and Other Intangible Assets for additional information regarding our goodwill and other intangible assets.
Pension Assets and Liabilities
Pension assets and liabilities are affected by the fair value of plan assets, estimates of the expected return on plan assets, plan design, actuarial estimates and discount rates. Actual changes in the fair value of plan assets and differences between the actual return on plan assets and the expected return on plan assets affect the amount of pension expense ultimately recognized. Key assumptions that affect our projected benefit obligation (PBO) are discount rates and, in addition for our United Kingdom plans, an adjusted retail price index (RPI). Key assumptions affecting pension expense include discount rates, the expected long-term rate of return on assets (EROA) and, in addition for our United Kingdom plans, RPI.
The December 31, 2018 PBO was computed based on a weighted-average discount rate of 4.1% for our North America plans and 2.9% for our United Kingdom plans, which were based on yields for high-quality (AA rated or better) fixed income debt securities that match the timing and amounts of expected benefit payments as of the measurement date of December 31. Declines in comparable bond yields would increase our PBO. The weighted-average discount rate used to calculate pension expense in 2018 was 3.6% for North America plans and 2.5% for United Kingdom plans. Our net benefit obligation, after deduction of plan assets, could increase or decrease depending on the extent to which returns on pension plan assets are lower or higher than the discount rate. The 4.5% weighted-average EROA used to calculate pension expense in 2018 for our North America plans is based on studies of actual rates of return achieved by equity and non-equity investments, both separately and in combination over historical holding periods. The 4.2% weighted-average EROA used to calculate pension expense in 2018 for our United Kingdom plans is based on expected long-term performance of underlying investments. The EROA for both North America and United Kingdom plans are adjusted for expenses and diversification bonuses. The 3.3% RPI used to calculate our United Kingdom plan PBO and the 3.2% RPI used to calculate 2018 pension expense is developed using the Bank of England implied retail price inflation curve, which is based on the difference between yields on fixed interest government bonds and index-linked government bonds.
For North America qualified pension plans, our PBO was $742 million as of December 31, 2018, which was $69 million higher than pension plan assets. For our United Kingdom pension plans, our PBO was $524 million as of December 31, 2018 which was $141 million higher than pension plan assets. The tables below estimate the impact of a 50 basis point increase or decrease in the key assumptions on our December 31, 2018 PBO and 2018 pension expense:
| North America Plans | |||||||||||||||
| Increase/(Decrease) in | Increase/(Decrease) in | ||||||||||||||
| December 31, 2018 PBO | 2018 Pension Expense | ||||||||||||||
| Assumption | +50 bps | -50 bps | +50 bps | -50 bps | |||||||||||
| (in millions) | |||||||||||||||
| Discount Rate | $ | (40 | ) | $ | 44 | $ | (2 | ) | $ | 3 | |||||
| EROA | N/A | N/A | (3 | ) | 3 |
CF INDUSTRIES HOLDINGS, INC.
| United Kingdom Plans | |||||||||||||||
| Increase/(Decrease) in | Increase/(Decrease) in | ||||||||||||||
| December 31, 2018 PBO | 2018 Pension Expense | ||||||||||||||
| Assumption | +50 bps | -50 bps | +50 bps | -50 bps | |||||||||||
| (in millions) | |||||||||||||||
| Discount Rate | $ | (39 | ) | $ | 44 | $ | 1 | $ | — | ||||||
| EROA | N/A | N/A | (2 | ) | 2 | ||||||||||
| RPI | 24 | (24 | ) | 1 | (1 | ) |
See Note 11—Pension and Other Postretirement Benefits for further discussion of our pension plans.
Recent Accounting Pronouncements
See Note 3—New Accounting Standards for a discussion of recent accounting pronouncements.
CF INDUSTRIES HOLDINGS, INC.
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