Spurred on in China (August 29, 2008)

Spur Ventures‘ (SVU-T, SPVEF-O) Chinese odyssey began back in 1996 when the company’s mining-focused founders saw potential in some rock phosphate mines in the country.

Twelve years on, under the stewardship of a seasoned veteran from the agricultural complex, the company is striving to forge itself into the key fertilizer supplier in China.

No easy task, especially as the country finds itself grappling with the dilemma of how to feed its surging population in a time of rising inflation.

That concern has lead to such recent drastic measure as proclaiming all phosphate mines in the country state assets that cannot be foreign owned, and slapping a massive export tax on finished fertilizers so that they remain in the country.

Not the type of government edicts that foreign investor likes to hear.

But Rob Rennie, Spurs president and chief executive, says Spur is shielded in many respects from such changes by the fact that its joint venture partner already secured the necessary mining licences, and the company has been assured that they won’t be revoked.

What the company does have to wait on, however, is the transfer of those licences from its partner to Spur which is the majority owner of the joint venture so that mining can begin.

Like most processes in China where the bureaucracy is as thick as the smog on a polluted Beijing morning it is taking some time.

Granted three years ago, the approval process is finishing up at the municipal level it required a resource estimate to be finished which Spur has recently submitted but still must gain provincial and federal approval.

Rennie — who has over 20 years of experience that includes stints with the UN and one of the head’s of Agrium‘s (AGU-T, AGU-N) international divisions explains that the added layer of federal layer of approval came in January of this year, and makes it difficult to estimate how long it will take.

“China, like many countries is protective of its non renewable resources. The central government continues to have problems with city and provincial government in terms of following guidelines,” he says of the government’s reason for adding the extra layer.

The additional bureaucracy combined with the export tax has made it tough on the fertilizer industry in the country.

“Most people that have built fertilizer plants haven’t made money recently — what you need to be successful is control of raw materials, you need economies of scale, a strong brand that reflects quality, and you need to be fully integrated,” Rennie says.

While there were a handful of companies doing well using that approach, they were hit hard by the export tariff implemented for the second half of this year of 135%.

The tariff meant that phosphate which was being sold on the international market for as much as US$1,200 per tonne, now had to be sold domestically for just US$500 per tonne.

The tariff came as part of a push towards self-sufficiency. With and increasing population, less arable land due to over-use and environmental degradation, and a largely uneducated farming base that lacks good technology, the country has been importing food at higher western prices which has in-turn sparked inflation and fuelled growing political unrest.

While addressing such issues are well outside of the scope of western company such as Spur, Rennie hopes that the situation will rectify itself soon.

But if it doesn’t, the company does have a significant advantages by way of arranging a low cost structure.

Spur’s assets in China break down into two major groups: one covers five phosphate deposits called Yichang, while the other is for a fertilizer plant. Both are in the province of Hubei.

The two key deposits at Yichang have a combined total of 60.9 million tonnes of proven and probable ore reserves at 24% phosphate. The three other subsidiary deposits have a combined measured and indicated resource of 396 million tonnes grading 20.8% phosphate.

As for its other key asset, the fertilizer plant, Spur is busy transforming it from a nitrogen, phosphorus and potassium (NPK) plant that produces end product fertilizer to a Mono-ammonium phosphate (MAP) facility that produces the phosphate that is used in NPK facilities.

The switch — which will upgrade the plant to produce 200,000 tonnes of MAP per year will free Spur from the rising costs of potash required in NPK production.

“We’re going from being a supplier to frontline agriculture, to moving back a step to being a supplier to industry that produces that fertilizer,” he says.

Currently in China 90% of MAP production goes to NPK facilities.

He also notes that as an agriculture end product, NPK sales are seasonal it has two seasons which raises inventory costs as production must be stored in off seasons.

“By us taking a step back we minimize inventory and lower our working capital costs and get higher margins due to increased cost of potash,” he says.

Construction is expected to be done the end of December with commissioning coming in the latter part of the first quarter next year.

The MAP facility will need 400,000 tonnes of rock phosphate to turn out the 200,000 tonnes per year rate. If the process starts in 2009, Rennie says Spur will need to source 150,000 tonnes from the Chinese market. The current price in China is just US$60 per tonne a bargain compared to Western prices which are in the range of US$250 per tonne.

And once the mines are up and running he estimates that phosphate ore will be supplied for just US$50 per tonne, further reducing costs.

The longer term plan is to produce over one million tonnes per year of MAP for domestic consumption.

Once finished the expansion, and after the two mining licenses come through, Spur would start construction of a 600,000 million tonne per year plant at the same location as the current plant.

“If we get the mining licences in early 2009 it would take 32 months to build the first fertilizer plant,” Rennie explains.

After that time, the company would make a decision regarding the construction of a second plant that would be part of the same centralized infrastructure.

With the company committed to a long term pipeline, Rennie has to continue to carefully navigate the tricky Chinese political and business scenes.

“My philosophy for doing business in China is the same for any foreign country: you need a strong local partner that understands the politics and how the process works,”he says.

“In China, the number of actual success stories of American companies is very slim. Hundred of companies have been trying to get mining licences, but I can count on one or two hands the ones that have had them issued,” he says “and we’ve got two of them.”

At press time the company’s shares were trading for 51, and have moved between $1.24 and 41 over the last 52 weeks. The company has roughly 60 million shares outstanding.