Today the market has been up and sideways basically, perhaps a little more defensive this afternoon,...
The Big Three Seed Companies
07/29/2013 2:00 pm EST
Three big seed companies, even though they all have several obstacles they are still addressing, also have a lot of pros, despite those cons, writes MoneyShow's Jim Jubak, also of Jubak's Picks.
I really miss Pioneer Hi-Bred. Prior to du Pont's (DD) 1999 purchase of the company, Pioneer gave investors a pure play on the global seed market. And there really hasn't been quite as attractive a pure play since.
Instead, we have the Big 3 of Seeds—du Pont, Monsanto (MON), and Syngenta (SYT). But each of these seed companies comes with significant baggage. Monsanto is the most concentrated seed play of the three with 73% of sales coming from seeds and genomics. But that still leaves the company's seed business saddled with a crop protection unit (pesticides and herbicides)—27% of sales but only 14% of profits—that is struggling against the loss of patent protection and global competition. Syngenta got just 25% of revenue in the first half of 2013 from seeds; the other 75% is from crop protection products, and that unit faces the same problem as Monsanto's crop protection business does. Finally, du Pont gets 29.6% of revenue from its agricultural segment, but that unit includes both du Pont's seed and crop protection business.
(For a quick primer on why you want to own seed stocks, consider these recent numbers from the United Nations Food and Agriculture Organization. By 2050, the world will have a population of 9 billion (very scary) and the world's farmers will need to double grain production in the face of losses of farmland to urbanization, desertification, drought, and pollution. That means getting more calories from the world's food plants by improving yields, by increasing resistance to disease and pests, and by expanding farm production to land that is now marginal because of climate or rainfall (while at the same time resisting attacks on global food production from changes in climate and an increasing incidence of drought.)
So which of these three mixed bags do I like best? Du Pont—despite the relatively small piece of current revenue the company gets from seeds. (Both du Pont and Monsanto are members of my Jubak Picks 50 Long-Term Portfolio.)
Some of that has to do with the relative price of the three stocks in question. The market recognizes Monsanto's focus on seeds with a high for the group price-to-earnings ratio of 22.43 for the trailing 12 month and 22.27 on projected 2013 earnings. In contrast, Syngenta's price-to-earnings ratio on projected 2013 earnings per share is 16.33. And du Pont's is 15.09.
But the foundation of my preference really has to do with the likely trajectory of the three seed companies.
There's no discounting Monsanto's clout in this sector. The company has the leading market share in important key crops, such as soybeans, corn, cotton, and wheat. How dominant that share is depends on how you count. In 2010, by Monsanto's figures, the company had 36% of the branded corn seed market, 29% of the branded soybean market, and 41% of the cottonseed market. But if you count, not just the seed the company sells under its own brands, but the seed sold by competitors under Monsanto license, the figures, according to a du Pont law suit in 2010, come to 98% of soybean seed and 79% of corn seed. (In recent years, Monsanto has actively pursued a policy of licensing seed traits that it has developed to competitors. You can think of it as a strategy akin to Intel's (INTC) desire that competitor Advanced Micro Devices (AMD) should have significant market share to keep the anti-trust lawyers at bay—as long as the market share wasn't too significant.) The big products rolling down the Monsanto pipeline right now, in my opinion, are drought-tolerant seeds. At the moment, it looks like Monsanto will get to the market ahead of du Pont and Syngenta with drought-tolerant corn seed.
But what makes Monsanto tricky as an investment—and what makes the stock relatively volatile—is the challenge of managing cycles in the glyphosate herbicide business. Since the expiration of patent protection on Monsanto's Roundup, the company has had to cope with increased global competition in the market for glyphosate herbicides. New competitors, and new capacity in that market, finally led Monsanto to a reset of expectations for this business—and a 50% cut to Roundup's price. Even with that reset, though, the relatively small 27% of sales that come from Monsanto's crop protection unit, still produces significant volatility in the stock. When the glyphosate business is in good shape, as it is right now, with competition down and prices stable, Monsanto's margins rise and so does the share price. That's great news if you own the stock, but if you're thinking about buying or adding to positions, it means that you're paying top-of-the-cycle prices for the company's herbicide business, when what I'd bet you want to buy is the company's strength in seeds. The time to buy Monsanto, I'd argue, is when the crop protection business is in the dumps.
Syngenta has Monsanto's crop protection problems without that company's dominant position in seeds. The company's problem in the crop protection market isn't as dire as the fact that 75% of revenue comes from what that unit might suggest, because many of Syngenta's chemicals are specialized, rather than generic products, but I think investors are still looking at a company that is playing catch-up in seeds to Monsanto and du Pont. The strategy at Syngenta—and it's a decent one—is to try to close that gap with acquisitions. That's a track that Monsanto and du Pont continue to pursue themselves, but successful, speedy execution is critical for Syngenta. As an investor, I worry about the possible mistakes that come with pressure and speed.
The last of my three seed companies, du Pont, is in the midst of a transition that involves selling off commodity and cyclical chemical businesses, and re-investing the proceeds in higher margin businesses, such as seeds, food ingredients, and industrial bioscience. The most recent completed steps were the purchase of food ingredients company Danisco (DNSCY) in 2011 ($6 billion) and the sale of du Pont's performance coatings unit (automobile paints) in 2013 ($5 billion.) The next target looks to be the company's performance chemicals unit, which makes titanium dioxide pigment and Teflon coatings, among other products. The unit has an estimate enterprise value of $10 billion and, while other companies, such as Rockwood Holdings (ROC) are planning disposals of their titanium oxide units, du Pont should still be able to find an interested buyer such as Tronox (TROX) or Huntsman (HUN). Revenue from the performance chemicals unit is sufficiently volatile—operating profit in the second quarter was down 56%, for example—that it drags down the valuation for du Pont as a whole. Simply getting rid of the business at a good price would probably push up du Pont's share price. Re-investing the proceeds from that sale in the seed, food ingredient, or industrial bioscience would add even more value.
Full disclosure: I don't own shares of any of the companies mentioned in this post in my personal portfolio. When in 2010 I started the mutual fund I manage, Jubak Global Equity Fund, I liquidated all my individual stock holdings and put the money into the fund. The fund may or may not now own positions in any stock mentioned in this post. The fund did not own shares of any stock mentioned in this post as of the end of March. For a full list of the stocks in the fund as of the end of March, see the fund's portfolio here.
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