Factors That Shaped Our Business in 2008

1. Economic Crisis Slowed Strongest Global Growth in 30 Years

In the first half of 2008, tight supplies of agricultural products led to restrictions on food exports and fears of increased world hunger. The overriding concern was how to produce more food. Then the focus shifted abruptly as the global financial crisis boiled over. In the deepening downturn, world economic growth dropped from an average of 4.9 percent in 2004-2007, the strongest four-year period in three decades, to 3.4 percent in 2008. By year-end, several mature economies were in recession; US growth fell from 2 percent in 2007 to 1.1 percent. The strong growth in emerging economies was moderated; China and India slowed from 13 percent and 9 percent, respectively, in 2007 to 9 percent and 7 percent in 2008.

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2. Commodity Prices Were Highly Volatile

Spurred in the first half by robust demand from developing economies, prices for most commodities – from base metals to oil to soft commodities such as grains and oilseeds – were strong. However, as the economic crisis unfolded in the second half, many investors broadly liquidated their commodity holdings. We believe they acted first out of fear of slowing global growth, particularly in Asia, and then out of need to attain and preserve cash as prices fell across the board. Consistent with other commodities, prices for crop futures weakened considerably, although the ongoing balancing of supply and demand provided floor prices substantially above historical averages.

3. Highest Global Grain Demand – and Production – in History

Record grain demand for food and biofuels, plus a historically low stocks-to-use ratio, continued in the first half of 2008, challenging producers and helping to push crop prices to levels that encouraged maximum production. Farmers responded and, with excellent weather in key growing areas, produced the largest harvest in history. However, the increase to ending global grain inventories for crop year 2008/09 was slight. The stocks-to-use ratio is expected to be 19 percent, substantially below historical levels, and inventories still represent only 69 days at normal demand.

4. Farmers Postponed Fall Fertilizer Applications

Cool, wet weather and floods in several states delayed seeding throughout the US Midwest, causing late maturing of crops and late harvests. Little time was left for normal fall fertilizer application. By then, uncertainty caused by the growing world economic crisis and falling nitrogen and phosphate prices had made farmers around the world defer purchases of major inputs, including fertilizer.

5. Record Net Income Contributed to US Farmers’ Strong Balance Sheets

With strong crop prices and high production, US farmers achieved record net cash farm income of $93 billion in 2008, USDA reported. At year-end, they had strong balance sheets, with a debt-to-equity ratio of 10 percent, the lowest level ever reported.

6. Tight Global Potash Market Continued

In the first half of 2008, growth in global potash demand exceeded increases in supply, consuming all available production and leaving major markets short and on allocation. Increased shipments to markets in India, Southeast Asia and Latin America more than offset the reduction in shipments to China that resulted from lengthy contract negotiations with suppliers early in the year. India, with its nutrient-hungry soils and need to boost food production, increased imports by about 2 million tonnes, and record palm oil production supported healthy Southeast Asian demand. Brazil raised its purchases early in the year, but later, during its primary planting season, farmers’ concerns over credit availability and declining crop prices kept annual potash imports in line with the strong 2007 total. In the North American market, fourth-quarter shipments were reduced by a late harvest and economic uncertainty.

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7. Potash Prices Rose Significantly

With tight producer supplies worldwide, offshore and North American potash prices increased significantly in 2008. Delivered prices in the major spot markets of Brazil and Southeast Asia rose by more than $600 per tonne. India paid an additional $355 per tonne and China’s annual contract price was up $400 per tonne. North American prices increased by approximately $600 per tonne. We believe improving prices also reflected market recognition of the need for reinvestment in capacity to meet future demand.

8. Food Security Concerns Led to Chinese Agriculture Programs

Increasing concern over food security led China to tax urea and phosphate fertilizer exports to ensure sufficient domestic supply. This reduced its exports of DAP/MAP from 4 million tonnes in 2007 to 2 million tonnes in 2008, and its urea exports from 6 million to 5 million tonnes. To encourage farmers to boost food production, farm subsidies were doubled from 2007 levels, crop prices were raised for 2009 and a program to allow farmers to use their land leases as equity was begun. These actions could lead to the use of enhanced farming technology and to increased fertilizer consumption over the long term.

9. India Was Major Buyer in Phosphate Markets

The government of India took steps to boost food production and improve food security. Subsidies to fertilizer producers and importers more than doubled DAP imports from 2.6 million tonnes in 2007 to 5.7 million tonnes, tightening the global DAP market and pushing up prices. Due to China’s reduced DAP/MAP sales, India’s high demand was satisfied largely from the US.

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10. Sulfur Market Was Volatile

High demand for phosphates early in 2007 through first-half 2008 drove up demand for sulfur, a byproduct of oil and gas production and a key input in phosphate production. With supplies constrained by unexpected refinery outages and delays in new refining and processing projects, sulfur prices soared. As approximately one tonne of sulfur is required to make a tonne of phosphoric acid, phosphate production costs were pushed up sharply. At their peak, international spot sulfur prices were more than eight times higher than they had been just one year before. Later in 2008, with a sharp decline in global phosphate production and more sulfur available from refineries, sulfur prices fell precipitously. This encouraged phosphate buyers to defer purchases as they waited to see if the lower sulfur costs would be passed along in the form of lower phosphate prices.

11. High Gas Costs Reduced Western Europe, Ukraine Competitiveness in Nitrogen

With natural gas costs averaging $13/MMBtu for 2008 – and reaching $16 late in the year – Western Europe, the high-cost global ammonia producer, was forced to shut down nitrogen capacity. Its demand for ammonia sourced from other regional suppliers increased. Natural gas costs also rose substantially in Ukraine, to $7.50/MMBtu, reducing nitrogen production and raising the global floor price for nitrogen exports.

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12. In Troubled Environment, Potash Prices Held Firm

Tight supplies of phosphate and nitrogen fertilizers and China’s high export tariffs on these products increased prices during the first part of 2008, but they fell sharply when the global economy slowed. The decline in prices was exacerbated by the collapse in raw material costs and rising inventories.

Phosphate and nitrogen producers reacted by substantially lowering prices to move product or acquire cash, but it was evident through the second half of 2008 that the lowered prices did not result in increased demand. By year-end, approximately 50 percent of world phosphate production and significant global nitrogen capacity were curtailed.

The same global economic environment affected the market for potash quite differently. Inventories did not reach excessive levels due to inherently tight supply, a labor strike at three PotashCorp facilities and widespread production curtailments in response to the slowdown in global demand. As a result, potash prices did not fall.