If you have friends who are true believers in organic foods, you may have seen an e-mail or Facebook status update about the evils of Monsanto Co. and genetically modified food. While many of its opponents have fair grounds for criticism, some have descended into paranoia and believe the company has even purchased the private-security company once known as Blackwater, infamous for its work in the Iraq War. (It has not.)
It’s not the relentless drumbeat of Monsanto’s opponents that has driven down the shares by double digits in the past several weeks, though. Instead, some say that falling corn prices have sent Monsanto tumbling to $113.59 (U.S.) from the 52-week high of $128.79 it set June 25.
“The expectations right now are for a very big U.S. crop, so that’s been pressuring agricultural stocks because everyone’s worried about farmer affordability for inputs, equipment and farmland over the next year,” says analyst Joel Jackson of BMO Nesbitt Burns Inc.
This is odd, because Monsanto’s shares have had far less correlation to corn prices in the past four years than in the past – and because the company had just impressed shareholders with a dramatic new stock-buyback plan, as well as positive long-term earnings guidance that incorporates a new division that uses computer technology to assist farmers’ planting.
What it amounts to is a short-term opportunity to buy in to the long-term agricultural thesis by acquiring shares in one of the dominant companies in the field.
Monsanto traces its roots back to 1901 and a long history in chemicals. It began producing agricultural chemicals in 1945 and started an ag division in 1960. It introduced its signature herbicide, Roundup, in 1976, and introduced seeds resistant to Roundup’s primary ingredient, glyphosate, in the 1990s. (A series of spinoffs and mergers means today’s Monsanto is only the original ag division, comprising largely seeds and herbicides, with industrial chemicals and pharmaceuticals now residing at other corporations.)
Today, Roundup is the core of Monsanto’s agricultural productivity segment; it’s also a mature, heavy cash-flow business with little growth, as Roundup went off-patent more than a decade ago, and there are plenty of generic glyphosate competitors. (The segment provides 27 per cent of Monsanto’s sales but just 14 per cent of profits, says Standard & Poor’s Capital IQ.)
Monsanto’s competitive advantage is its seed business, which provides 70 per cent of sales and 79 per cent of profits. It’s believed that somewhere between 80 per cent and 90 per cent of corn and soybeans planted in the U.S. contain Monsanto “traits.” (The company does not disclose Canada-specific data.) Monsanto not only sells seeds, it has also licensed its seed technology to other sellers who have found it easier to piggyback on Monsanto’s long string of scientific successes than try to compete.
“Having created the agricultural biotechnology market where it now competes, Monsanto has a wide economic moat,” writes analyst Jeffrey Stafford of Morningstar, where every stock is evaluated on whether it has enough competitive advantages to have a “moat,” per the theories of Warren Buffett.
Monsanto’s seed strategy “has led to dominant market share, and Monsanto enjoys premium pricing for its patented traits,” he says. And the company’s abundant cash flow means it can put 10 per cent or more of sales back into research and development every year.
It was a couple of forward-looking pronouncements by Monsanto management that sent the shares up by nearly 7 per cent at one point on June 25.
One is that the company plans “to at least double” earnings per share by 2019, an unusually long-term outlook for a company that has generally stuck to annual guidance. Analysts believe international growth in farmed acreage and the company’s Intacta soybeans in Latin America will be big contributors.
The other was that the company added $10-billion to an existing $1.1-billion share-buyback program. (The company’s current market capitalization is $60-billion.) Monsanto said it would double its modest debt load, currently 0.7 times its annual EBITDA, or earnings before interest, taxes, depreciation and amortization, to assist in the repurchases.
Analyst P.J. Juvekar of Citigroup Global Markets Inc., who calls Monsanto his “favourite name in ag” with a $146 target price, writes that the EPS guidance “has investors wondering if the company is being conservative.” The impact of the buyback means earnings growth “could be viewed as modestly slower compared to recent years.” This is appropriate, given the macro-agricultural environment, he says – but the company’s newest division has the potential to surprise.
That would be “Precision Ag,” the division that’s centred on The Climate Corp., a data-driven crop-insurance business founded in 2006 by two former Google engineers. Monsanto paid $930-million for it last year. This crop season, farmers are using the free Climate Basic on 40 million acres, says BMO’s Mr. Jackson. Monsanto is expecting more than a million acres to be covered by the paid service next year, he adds.
BMO’s Mr. Jackson also calls Monsanto his favourite name in ag. He has a $140 target price, recently raised from $130, that represents a price-to-earnings ratio of 23 times his fiscal 2015 projections, slightly above Monsanto’s historical multiples. “We do prefer Monsanto to the fertilizer stocks right now, because Monsanto’s share price tends to be less correlated to corn prices and because we think their earnings profile is much more attractive than the earnings potential of the fertilizer [companies].”
The anti-Monsanto rhetoric will continue to be ugly, though analysts say they see no material impact on the company’s profitability. Its earnings, and investors’ returns, should be much more pleasing.
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The author owns shares of Potash Corp. of Saskatchewan Inc., The Mosaic Co., and Monsanto competitor E.I. du Pont de Nemours & Co., better known as DuPont.