4 Stocks Chinese Eaters Can’t Ignore

10/06/2011 10:00 am EST

Focus: GLOBAL

Elliott Gue

Editor and Publisher, Energy and Income Advisor and Capitalist Times

Emerging markets are built from emerging consumers and one of the first things they want is more food and better food, which is becoming a very real challenge, notes Elliott Gue of Personal Finance.

As household incomes increase in emerging markets, consumers are shifting their diets from rice and other basic grains to meat and fresh produce.

This change in appetites translates into rapid demand growth for agricultural commodities over the long term. It takes 7 kilograms (15.4 pounds) of feed grain to produce 1 kg (2.2 lbs.) of beef; 4 kg of grain to produce 1 kg of pork; and 2 kg of grain to produce 1 kg of poultry.

Expanding agricultural output becomes increasingly difficult as the amount of water, workers, and arable land declines. Rising demand and constrained supplies translate into higher prices for foodstuffs, but this growing imbalance becomes even more pronounced when adverse weather or a natural disaster strains production.

An unusually hot, dry summer in the Midwest has spoiled some of this year’s US corn crop, and threatens to constrain supplies in a market that’s already tight.

Demand for foodstuffs tends to hold up better than demand for energy commodities and industrial metals during periods of economic weakness. Even if the malaise afflicting many developed economies persists, this quartet of agricultural names stands a good chance of outperforming.

Deere (DE)
Deere is the world’s leading manufacturer of big-ticket agricultural equipment, from tractors to combines and harvesters. The company’s profits hinge on farms’ cash receipts: Farmers are more likely to upgrade equipment or purchase expensive items when their incomes are on the rise.

The US Dept. of Agriculture estimates that the income farms reap from row crops such as corn, wheat, and cotton will reach a record $206 billion in 2011. This forecast may prove conservative—concerns about the size of the US harvest have sent corn prices higher.

But the company’s growth story isn’t solely made in the USA. Management plans to grow overseas sales so that business outside of North America accounts for more than 50% of the company’s revenue—up from about 40% in 2010.

Deere should be able to reach this goal within eight years. The firm continues to expand aggressively in Brazil and other South American markets, as well as Russia and India.

Deere’s near-term outlook calls for European farm income to remain relatively flat this year, while the firm expects farm operators in Brazil to generate record cash receipts of $20.2 billion in 2011 and $21 billion in 2012.

The strength of the global farm industry has padded results at Deere’s finance division, which continues to benefit from an uptick in loan volumes and enviable credit metrics.

In the fiscal third quarter ended June 30, this segment’s earnings jumped almost 24% from year-ago levels. The firm set aside cash equal to roughly 0.08% of its loan portfolio as a provision against credit losses.

Deere’s third-quarter sales and earnings beat analysts’ consensus estimates and prompted management to raise its guidance for fiscal-year 2011. A strong early order book for key products suggests that demand should remain robust into 2012.

Although the firm’s operating profit margins declined in the most recent quarter because of investments in research and development, these expenditures should moderate as the latest refresh of its products winds down.

The company recently expanded its lineup of tractors available in the Brazilian market and is testing a new Tier-4 tractor model that reduces carbon dioxide emissions and is up to 28% more fuel efficient than its competitors’ offerings.

Buy Deere if you’re a long-term investor seeking growth at a reasonable price.

Potash Corp of Saskatchewan (POT)
Proper fertilization can increase crop yields dramatically. In fact, estimates attribute as much as 40% of the global harvest to fertilizer use.

One of the most important fertilizers is potassium chloride, commonly known as potash. Producers in roughly a dozen countries mine the ore, but three nations—Canada, Russia, and Belarus—account for close to two-thirds of global output.

The scope to increase potash supply is limited. It takes about seven years and more than $6 billion to bring a greenfield potash mine into service. Meanwhile, demand for potash tends to increase as farmers seek to boost crop yields and take advantage of higher prices for agricultural commodities.

Potash Corp of Saskatchewan (POT) is the world’s preeminent potash producer and a leading provider of phosphate- and nitrogen-based fertilizers.

The Canadian outfit controls about 20% of the global potash market, and expects demand for its marquee product to reach between 55 and 60 million metric tons in 2011, up from 53 million metric tons in 2010.

When the prices of many agricultural commodities skyrocketed in summer 2008, Potash of Saskatchewan posted record net income. Management expects the firm’s 2011 performance to be even better.

With the price of many agricultural commodities at elevated levels amid robust demand and constrained supplies, expect farmers to open their wallets for the 2012 planting season.

NEXT: 2 More Stocks Chinese Eaters Can’t Ignore

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Monsanto (MON)
This company has faced a number of headwinds in recent years, including the erosion of its Roundup herbicide business by generic competition.

Nevertheless, the company’s seeds and genomics business—which accounts for about three-quarters of the firm’s annual revenue—should continue to benefit from a robust pipeline of innovative products and rising demand for yield-enhancing crop technologies.

Monsanto’s genetically modified (GM) seeds can resist insects and herbicides—traits that couldn’t be achieved in nature or through traditional breeding methods.

Despite solid demand for GM seeds in 2010, sales of the firm’s highly touted SmartStax corn seeds and Roundup Ready 2 Yield soybeans fell short of management’s forecast. Although the products themselves lived up to farmers’ expectations, an overly aggressive pricing plan prompted some customers to take their business elsewhere.

A new pricing scheme announced before the 2011 planting season has enabled the firm to regain some of its lost share in the US corn, soybeans and cotton markets. Meanwhile, management expects increased adoption of the firm’s high-margin products to boost sales prices by 5% to 10% in 2012.

During a pre-harvest conference call in mid-September, Monsanto downplayed reports in key corn-growing states that rootworms have grown resistant to the protective technology of some of its older GM corn seeds.

Management emphasized that these isolated incidents are nothing new and typically occur in areas at a higher risk for rootworm infestation. The geographic footprint of these problem areas hasn’t expanded from previous years.

With an industry-leading pipeline of GM seeds and rising demand for the firm’s higher-margin products, Monsanto is a buy.

Bunge (BG)
One of the world’s largest agribusiness concerns, Bunge acts as a middleman between farmers and food companies. The firm buys, stores, transports, processes, and sells a number of agricultural commodities, including corn, wheat, sugar, and soybeans.

The company benefits from tight global supplies of key agricultural commodities, because regional shortages and rising prices drive demand for grain and oilseed imports.

Bunge continues to expand its global operations to take advantage of these opportunities, opening a new export facility in Ukraine with an annual capacity of 3 million metric tons and bringing a larger export hub online in Longview, Wash. The firm will also add seven grain storage and distribution facilities to its US asset base over the next six months.

The firm’s oilseed processing business posted a weak second quarter, as overcapacity at its Chinese and US crushing facilities weighed on profit margins. This headwind should abate in the back half of the year, after the US soybean crop is harvested and utilization rates tick up.

As expected, Bunge’s South American fertilizer-distribution and sugar-processing businesses lagged in the first half of the year. Although activity in both segments will pick up during the Southern Hemisphere’s planting and harvest season, management lowered its forecast for sugarcane milling volumes to reflect weather-related damage to Brazil’s sugar crop.

Bunge remains one of the best long-term plays on growing demand for agricultural products and international trade. Buy Bunge.

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