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Diversification makes no sense - Vladislav Baumgertner, CEO of Uralkali

Alexandra Terentyeva /
Diversification makes no sense - Vladislav Baumgertner, CEO of Uralkali

Vladislav Baumgertner revealed how Uralkali deals with the decline in demand for potash, and why the company has another 6-8 years without tough competition.

Merger between Uralkali and Silvinit was the biggest deal in the world commodity market in recent years. A new Uralkali shareholder Suleiman Kerimov became the ideologist of the merger. Since 2011 Uralkali – the largest potash producer in the world – has been managed by Vladislav Baumgertner. In an interview with Vedomosti, he said that the company does not see the point of diversification and does not cherish ideas of world domination. Baumgertner wonders why the company value should be ruined by less efficient assets. The potash industry is going through another recession – the demand has decreased, and subsequently the price. Uralkali has had to make concessions to key customers – Chinese companies. But Uralkali is ready to go through this trouble maintaining its leadership. How can the company achieve it? Why is it easy to work when there are many shareholders and none of them controls the enterprise? Baumgertner answered these questions in an interview with Vedomosti.

- It became known recently that Uralkali shareholder Zelimkhan Mutsoev is involved into buying shares of Polyus Gold, co-owned by another Uralkali shareholder Suleiman Kerimov. Does this shareholder's investment activity pose risks to the company? For example, he may have problems with repayment of loans, and Uralkali shares are pledged, and he can push for dividend growth to the detriment of the investment programme.

- Mutsoev is one of many shareholders. The stock he owns is not the largest, and he has no representatives in the board of directors. Accordingly, no matter what personal investment plans and wishes for the company's dividend policy he has, these suggestions can be implemented only if they coincide with the interests of the company and all its shareholders. It is closely monitored by the company's management and independent members of the board of directors. In addition, the company generates a big cash flow, which is quite sufficient to finance the investment programme in full, as well as to implement of the Company's dividend policy and the buyback programme.

- In 2008-2009 the government rescued several large Russian companies including UC Rusal, Evraz. In your opinion, is the Russian economy now better prepared for the challenges?

- Given sustainable budget and a strong trade balance – of course. It is another matter that there have been no positive structural changes in the economy. This is the main risk – and everyone knows it.

- Political risk?

- I think that everything has settled down over the last year. Even investors do not raise this question any more. Probably it is not because they do not see it, but because they do not expect to hear anything new on this topic.

- You have already worked with the government of Dmitry Medvedev. Stylistically, by its efficiency, is it different from the previous one?

- We are not so much dependent on the government. We depend on stability of the tax regime. And it remains stable, which is important. Because the implementation of investment decisions that we make is only possible if the tax regime is predictable. The fact that it will remain stable and unchanged is a huge advantage for the economy. There are a number of issues related to the expansion of rail infrastructure and reasonable prices for natural monopolies, but these issues concern all sectors of the economy.

- What is the situation in the world potash market? Do you expect the emergence of new players in the potash market? When potash prices are rising, there are statements about new projects. But then it all calms down.

- Most of the projects that were announced and put into exploration in 2008, when potash prices on the spot market exceeded USD 1,000 / tonne, are not realised. A number of projects experience problems. Most of them are of economic nature, but they are not related to the fact that companies cannot finance their projects. Companies such as BHP Billiton, Vale have a strong balance sheet to fund potash projects. The fact is that for many projects the potash price in the market should be higher than USD 600 / tonne for the projects to be profitable (now the price is about USD 400 / tonne). Therein lies the problem. On the one hand, no one refuses. On the other hand, when you start looking at all the projects announced in 2007-2008, they have not even reached the stage of the investment decision at the board level. For many projects, we heard promises to launch them in 2011-2012 and even to bring them to full capacity. In reality, the construction has not yet begun. Our opinion is that none of the announced projects - even those that will be implemented – will reach full capacity until 2018. For about five or six years the industry will be in a comfortable, secure environment. What will happen afterwards, it is hard to say. There is a large fork. There is a risk that the situation goes in the wrong direction – the one which is not considered the most favorable. If all the announced projects are implemented simultaneously in 2020-2022, the market will obviously be overloaded, and the consolidation of producers will be at a critically low level. Today traders Canpotex and BPC account for about 70% of world exports. If this value drops to 50%, reasonable economic players will simply not implement the strategy “the price is above the volume”. Why should they allow new players? In this situation, we will look more like traditional industries: the main competitive advantage will be the production costs and the cost of capacity expansion. And Uralkali in this situation would be a leader: we have both the lowest production cost and the lowest capacity expansion cost. Yes, and we have a favourable geographic location. In addition, we now try to implement measures that will allow us to place volumes of products in the market after 2020, when the competitive environment in the industry may change. What happens if the competition increases? Inefficient enterprises will shut down. Greenfield projects of large companies will be subsidised; projects that do not belong to a strong company will go bankrupt. It is impossible to invest USD 6-15 billion in the project with a capacity of 5-8 million tonnes and to remain competitive at today's potash prices.

- So you have 10 comfortable years, don’t you?

- There are at least five or six years to maximise our cash flow, expand production capacity. And to be ready for competition.

- Do you see a significant effect of merger of Uralkali and Silvinit?

- Yes, and not just financial. The company has become united, the team is united, the goals are united. Less than two years have passed since we started the merger, but I personally have no feeling that the companies ever used to work separately. We understood that the synergistic effect can be large. It was clear that the companies were very similar. And a lot of costs can be optimised, because the companies were located in one place, people knew each other. We chose a conservative approach. We evaluated the synergistic effect conservatively – at USD 100 million – at the level of expenses. In reality, it exceeded USD 300 million.

- What was the most difficult in the integration of Silvinit into Uralkali? What problems still remain?

- The main issue in all takeovers is people. Transformation is a painful process. Clearly, most people prefer stability and not everyone likes changes. This is connected with the merger of two teams, when objectively more professional staff is chosen. There was a series of reductions, and they were painful. The labor market in Perm and Berezniki-Solikamsk region is favorable to employees, and not the employer. People had difficulties with retraining, finding a new job, but the company has done everything to make this transition smooth. As for the merger, there are still a lot of problems. They are associated with different corporate cultures of the two companies, the transition to a unified system of values, understanding of how to interact across divisions. This is what is called adaptation. It is, of course, over at the high and intermediate levels, but it continues at the level of workers.

- The situation in the market is not very favourable. Potash companies had to make a 17% price concession to Chinese customers compared to the previous contract. You cut production due to low demand. What is your forecast for the year?

- I would not say that the situation is unfavourable. It is a working environment. This is not the first time when demand is reduced, storage balances are above normal and we have to reduce production in order to stabilise prices. Even such a strong industry as potash production should not be considered outside of the context of macroeconomics. Overall macroeconomic situation in 2012 was nervous and volatile. The current reduction of potash chloride prices, ironically, coincides with very high prices for soft commodities. Potentially, farmers should be motivated to ensure the development of their businesses. But on the other hand, the prices of agricultural products were extremely volatile throughout 2012. Last spring the market expected them to fall, but instead they soared by 20-25%. So all that farmers need today is to make sure that this leap is not temporary. They should make sure current profits will be attained in 2013and 2014 – and then they will expand production. This automatically means an increase in demand for fertilisers. I am sure that we will work at full capacity starting from May. The USA, Asia start a new season and we will have contracts signed with India by that time. In May active deliveries to the Brazilian market begin. In the first quarter, the company adopted a conventional solution – if there is no demand, we reduce the production volume. We cannot store large quantities of products, and we do not want to sell the goods at current prices. Company's financial position is stable. We can safely survive interruptions in production. Yes, the financial results for the first quarter will not be as strong as analysts expected. But this will be offset by the other three quarters.

- How long is Uralkali able to work at reduced capacity utilisation rate?

- Frankly, we have not even performed the calculations. At current potash prices, we can work for five years at a very, very low volumes – much lower than 50% – and only then we may start talking about bankruptcy. From the technological point of view, it is desirable that our manufacturing facilities are used by at least 30% in order to prevent them from stopping and not to bear costs of maintenance and restart operations. Sometimes we suspend production – usually for a maximum of six months, and it never causes any financial (debt load is less than 1 x EBITDA) or technological problems. The only thing it affects is increase in product costs, simply because 60% of the costs are fixed.

- Your managers say that there is a possibility of switchover to spot contracts in business with China. Does it mean that the market in general will change?

- Indeed, there is a reduction of contracting terms. At first we had annual contracts, then semiannual ones. It naturally goes to the fact that China will become the spot market. And not because producers want it. The volume of potash application in China is about 10 million tonnes. In 2008 this figure reached up to 12-13 million tonnes, after which it slightly decreased. In China, there are domestic producers, in contrast to, for example, India, and they are constantly increasing volume of production – now it is about 5-5.5 million tonnes and it is not clear how big their potential is, but they say it is about 2.5 million tonnes more. Supposedly they are able to increase it within a few years. If this happens, the share of imports in the total market will be reduced to 2.5-3 million tonnes. Of this amount Uralkali can supply by rail to China about 2-2.5 million tonnes. Accordingly, the sea contract accounts for less than 1 million tonnes. Then it's not the volume that makes sense to contract on an annual basis. In this situation, we will have to begin supply on the terms of spot contracts. When will it happen? Probably not this year. In 2013 the import volume will be significantly higher. But at some point the situation in China will change. The Indian market, of course, sticks to the annual contract, and we've got a very strong negotiating position, I mean, both we and the industry as a whole. So we will do what we always do.

- You confidently say that you will deliver 2 million tonnes by rail. Is it cheaper than by sea?

- Now with the increase in railway tariffs in Russia it is not cheaper than by sea. It is comparable, but it is a separate niche for Uralkali. By rail we can supply potash to the Central and North-Eastern China where other manufacturers can supply potash only with much higher costs. At some point, when the government was going to call off the reduction factors for railway routes to China, we seriously studied the possibility of transfer of volumes from rail deliveries to the sea. If railroad rates remain more or less sensible, it will provide a strong competitive advantage to Russian manufacturers.

- It was recently reported that the Tariff Service considered the possibility of changing the list of exceptional rates. Is potash in the list of goods, transportation of which may be deprived of the exceptional rates?

- Yes, they considered such a possibility. We are trying to convey to the government the same arguments that I presented you. We need to ensure the competitiveness of companies in a particular market. If our economy of supply equals that of other manufacturers, we will have to share the market with other producers, losing most of the 2.5 million tonnes shipped to China by rail.

- Does Uralkali have any plans to slow down the investment programme?

- Some investment projects have already been completed, such as the expansion of Berezniki-4 mina and plant. There are projects where we have reached the point of the investment decision making and started construction, e.g. Ust-Yaivinsky project and debottlenecking, which will give us extra 2 million tonnes in the next few years. There are a couple of projects on which the investment decision can be taken only in 2015. They need a feasibility study finalised and a better understanding of the prospective potash market development. We talk about expanding the Solikamsk-3 mine and plant and building a new production complex at Polovodovsky block. If we see in 2015 that these projects may have their place on the market, then we will implement them. If not – we will do it later.

- Will there be no diversification?

- It makes no sense – there is no synergistic effect. One of the preconditions for diversification is reducing risks. But potash, nitrogen and phosphate businesses are highly correlated. They may be different in amplitude, but the trend is the same. When nitrogen and phosphate are in crisis, we do not feel very well either. But when they have a boom - we have an even bigger boom. Therefore, diversification does not reduce the risk for investors and for our business. This is reflected in the assessments: there is surely a reason why the potash industry is assessed at higher multiples. We do not see any point in diluting multiples and destroying value for shareholders. Diversification often happens because management has a passion for size: we all want to be very big and important. This probably feels good to manage multi-billion dollar businesses. But our strategy is sound and rational. Size alone does not matter, the value that is created for shareholders is what matters.

- For how many years will the current reserves last?

- On average – for several decades. Different mines have different life cycles. The first mine which will be exhausted is Berezniki-2, it will happen in 2025. In order to replace it, we construct the Ust-Yayvinsky mine. Then we will launch the Polovodovsky mine, and part of Polovodovsky block will be combined with Solikamsk mines.

- At the St. Petersburg forum you said that in autumn you may consider moving Uralkali to the jurisdiction of Jersey or London.

- The idea is that when you move and do a premium listing in London, you are included into other indices and get access to the investors, who do not invest in the company now. We studied the experience of Polyus Gold and Polymetal and came to the unequivocal conclusion that it makes no sense to do so. We analysed our investor base and found: Uralkali has a very large base of investors. We enjoy investments not only from funds that specialise in emerging markets, but also from industry funds which also invest in our competitors: Potash Corp., Mosaic. Premium listing will not create for us an additional value, but can lead to the fact that investors with a focus on emerging markets may lose the opportunity to invest in our business.

- Recently, your shareholders placed bonds that can be converted into Uralkali shares. And the emergence of Chinese investors in the Russian potash company seriously scared the market.

- In general, it depends on the quality of the investor. And this is where details are important. CIC (China Investment Corporation – Vedomosti) has invested in us. This fund is always a financial investor; it enters the company for a long term, for profit and not for any trade preferences. In addition, there has been no sale – it can happen under certain conditions. CIC may receive 12.5% ​​of the shares. This is a shareholders’ deal, the company did not participate in the discussion or signing documents. We did not sign an off-take agreement and we do not intend signing framework agreements which involve potash volumes or prices. We assess the event positively – it has diversified our investor base, the role of the controlling shareholders will decrease, there will be stronger commitments concerning the quality of corporate governance. For a few days investors did have concerns. But when we explained that no commercial obligations were imposed on the company, and other investors would not be discriminated, the issue was over. If CIC wants to introduce its representative into the board, they will do it.

- As for the buyback programme. Many experts suggest that it protects shareholders from margin-calls. Is it true?

- The buyback programme is a way to return money to shareholders. The company generates a large cash flow. This cash flow is directed to ensure sufficient investment in enhancement of efficiency and capacity expansion. When creating value through diversification or merger / takeover is impossible, as in this case, the money should be returned to shareholders. The company pays relatively high dividends – above 50% of the net profit. The other way to return the money is a buyback programme. This programme addresses a number of other tasks too. At a time when the markets are volatile, we can invest in our own shares when they are undervalued. Average buyback price in 2011-2012 amounted to USD 35.6 per GDR. Buyback is in the interests of all shareholders, the shares are purchased in the open market, and the majority shareholders do not participate in the buyback. Above all, as I understand it, after the deal with CIC they do not need it. The deal eliminated liquidity issues, even if there was such a problem.

- Do you have an idea not to cancel the shares, but to sell them when they rise in price?

- This is not a good corporate practice. A good practice is a purchase from the market and then cancellation. This is strictly monitored by our independent directors.

- Is it convenient for you, as a manager, to work with such a large number of shareholders?

- We do not work with shareholders, we work with the board of directors. And it makes managerial work extremely comfortable. It will not be an exaggeration to say that for the last two years we have been working in an environment that is not very similar to the work of many Russian companies. The company has a board of directors, committees, each of which employs independent directors. All decisions are preceded by a large discussion. There are no backroom talks and, in fact, they cannot occur. We have a lot of shareholders. Some of them are quite passive and do not participate in the work of the board of directors. Two of them are active: ICT Group and Nafta Moskva. But you cannot build relationships with each of them individually, since it would be a managerial nightmare. Therefore, we are grateful that we were given the opportunity to work in the context of civilized corporate governance. We feel trust. It is in the interests of the company and management, and the shareholders themselves. Ultimately, it creates value and it is also assessed. Often we have to read in the press about some Russian discounts applicable to the assessment of Russian companies, but we are traded with the premium in relation to all our major competitors, and with a big premium in relation to the potash market (Uralkali is assessed by the highest multiples in the industry. - Vedomosti). Investors see that the risks are minimal, and they are willing to pay for it.

- You said that for the last five years we have been living in a state of crisis. In your opinion, is recovery possible?

- Even the leading macroeconomists answer this question differently. I do not think that the next few years will be easy. The problems in Europe, in the United States did not disappear. All this will continue to create a tense atmosphere. Even the most powerful industries depend on financial markets, investor sentiment. But we look fairly calmly at 2013. And perhaps in 2014 there will be some points of growth in the market, and the potash industry will be among the first in it.


Born in 1972 in Yekaterinburg. In 1994 graduated from the Urals State Technical University, with specialization in power plants

Engineer of long-term development department at Uralenergo

Commercial Director of Uralkali, from 2005 - General Director of Uralkali

General Director of Silvinit

General Director of Uralkali

Companions in potash and gold

Prior to purchasing Uralkali, Kerimov had already had experience in acquiring commodity companies – in 2005 he purchased 100% of Polymetal shares from a pool of investors led by ICT Group owned by Alexander Nesis. And in 2008 he sold 65% of the company, which had become public, to Nesis, Alexander Mamut and Czech PPF for about USD 2.1 billion

The next major commodity asset - Uralkali - was bought by Kerimov together with his partners. Soon, the State Duma deputy Zelimkhan Mutsoev along with Sibuglemet co-owner Anatoly Skurov acquired majority ownership of Silvinit. Subsequently, Silvinit joined Uralkali. Mutsoev is an experienced investor. According to the database Labyrinth, together with his partners he purchased 94% of Pervouralsk New Pipe Plant in 1998, and in 2004 he sold his share to CPRP Group. In the early 2000's Mutsoev with the owner of System Vladimir Yevtushenkov created a development company called Region.

In 2012, Forbes estimated Mutsoev’s fortune at USD 1.5 billion. Now Mutsoev can become a partner in another Kerimov’s asset - Polyus Gold (Kerimov owns 40.2% of the shares). Mutsoev and former co-owner of Wimm-Bill-Dann Gabriel Yushvaev purchase Mikhail Prokhorov’s share (37.78%) in Polyus Gold.

Consolidation stalls

The potash industry is one of the most consolidated in the world. More than 70% of international sales are controlled by traders of the five largest companies, Uralkali, Belaruskali, Canadian Potash Corp., American Mosaic and Agrium. The merger of Uralkali and Silvinit in 2011 was the biggest deal in the industry in recent years. In 2010 BHP Billiton tried to take over Potash Corp. but failed. This year Potash Corp. tried to take over Israeli manufacturer Israel Chemicals Ltd., but so far without success - the Israeli government has not yet approved the deal.


producer of mineral potash fertiliser
owners - Suleiman Kerimov (18.09%), Filaret Galchev (10.85%), Alexander Nesis (9.94%), Zelimkhan Mutsoev (8.37%), Anatoly Skurov (8.01%).
Capitalization - USD 22.5 billion
Revenue (IFRS H1 2012) - USD 1.7 billion
Net profit - USD 842.3 million

In 2012, Uralkali produced 9.12 million tons of potash. The company in its current form includes its former competitor - Silvinit, which joined Uralkali in 2011. In 2010 Dmitry Rybolovlev sold 63.5% of Uralkali shares to the pool of investors, led by Suleiman Kerimov. The same year, two members of Silvinit board of directors sold a controlling interest in the company to Zelimkhan Mutsoev and Anatoly Skurov who were invited by Kerimov. And in a few months the process of merger of the two potash companies began. Now Uralkali trader – Belarusian Potash Company (also sells products of Belaruskali) – operates more than 40% of the world potash sales.

Saying goodbye to the past

Along with Silvinit, its trader, International Potash Company which periodically spoiled game of the major players and forced down prices, left the market. Baumgertner commented on that as follows,

“I do not want to talk bad about the past. But Silvinit did not always share the position of Canpotex and BPC (Belarusian Potash Company, the trader of Uralkali and Belaruskali. – Vedomosti). This had its logic, because Silvinit was not a big player in the market, and for the company it was easier to work at full capacity, watching big players reducing their shares. This allowed it to make full use of the high prices and to place all its volumes. Today the situation has changed. The volumes of the former Silvinit are consolidated in BPC and the industry consolidation has increased. The negotiating position has improved. The demand is not strong because of the crisis and potash producers cannot realize their full potential. But it will change. Business cycles remain true. For five years we have been living in crisis. But sooner or later it will end and we will see a positive trend. Agriculture and fertilizer industry will be among the first to feel it. Our industry is best equipped to fulfill its potential. But it is a matter of time.

We evaluated the synergistic effect [of the merger of Uralkali and Silvinit] at USD 100 million – at the level of expenses. In reality, it exceeded USD 300 million.”

This article is translated from Russian. Please see the original here http://www.uralkali.com/ru/press_center/archive/item4036/

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