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Why TNH shares could go up from their current price of ~$133

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Dividend yield as valuation

Because Terra Nitrogen Company (TNH) is structured as a master limited partnership, investors often look at the dividend yield. Over the last five years or so, Terra Nitrogen Company’s dividend yield has fluctuated between 4% and 11%, though it has averaged around 7.8% over the past three years as the market became more stable and the perceived risk of investing in the market fell.

TNH Dividend Yield

Getting a share price using dividend yield

Because master limited partnerships are supposed to distribute their earnings to investors, we can assume that over the medium to long term, earnings will match dividend payouts. So, to get an estimated share price, we can divide estimated annual EPS by 7.8%.

TNH Value Sensitivity

Sensitivity chart

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The chart above shows the range of TNH’s estimated price based on ammonia and natural gas prices. Note that this assumes that the dividend yield is 8.0%. During the first three quarters of this year, natural gas prices in the United States have averaged $3.59 per MMBtu (million British thermal units). So when we said investors were too late selling TNH a few weeks ago, we were basing the model on natural gas price of roughly $3.60 per MMbtu on estimated ammonia prices of $500 per metric tonne.

Limited downside?

Given what we saw in urea prices lately, $475 to $500 is reasonable. As we’re writing this (December 19, 2013), TNH sells around $133 a share. This means if ammonia prices average $500 over the next four quarters, the market may be seeing average natural gas prices of $4.60 per MMBtu. To be a little bit more conservative, we could use $475 per metric tonne in ammonia price, which gives us a natural gas price average of $4.00 per MMBtu. We could see some more selling, but there isn’t much downside now if you believe natural gas prices will average below $4.00 per MMbtu at ammonia prices of $475 per metric tonne. If investors expect an ammonia price of $500 per metric tonne or higher and a natural gas price average of $3.80, TNH will likely rise.

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