Wednesday, 7 January 2015

Monsanto - impressed by and patiently waiting for that bad day

Monsanto is a stock in a theme (agriculture) that I like.  When I last wrote it up in October (link here) I concluded that:

'Of course you are still 'paying up' for this profile. I estimate next year's EV/ebit is in the x13s which is not super cheap...but not horribly expensive either...That's why I can make the sub US$105 work. Now it is just a question of patience'

Well...the stock nearly got there during mid-October:

Of course corn prices have strengthened since then and the whole sector has re-rated (including my current seeds/crop protection holding Syngenta).  To be fair however I should have held Monsanto over the last three months:

There was nothing headline special about the numbers...

...with the company noting that they 'delivered earnings per share for the first quarter of fiscal year 2015 ahead of expectations...outlined at the beginning of the fiscal year, with the company confirming full-year ongoing earnings per share growth and free cash flow guidance'. 

But there are some timing issues next quarter: '...following a stronger than expected first quarter and what now appears to be lower U.S. corn acres, the company now expects second quarter ongoing earnings per share to be down in the range of five to 10 percent versus the prior year. This leaves growth for the year to the third and fourth quarters'

No surprises given (as the company said on its conference call) that 'near-term headwinds...currency and corn acreage...remain'.  However despite these tactical headwinds the structural opportunities remain large. Note in particular the yield requirement focus building: great news for innovative companies such as Monsanto.  CEO Hugh Grant also noted oversupply in the market was being 'whittled away' as demand increases year-on-year and overtly expressed optimism on corn in particular:

Of course the structural growth opportunity remains across both soybean and corn...

...with the end aim of doubling ongoing EPS over a 5 year period:

 The conference call went beyond the pure numbers and also included a R&D update.  This at first listen was highly impressive and underpins their earnings hopes over the next five years. They were shorter-term particularly excited on the soy side which has been a benefit as farmers switched from corn to soy...

...but corn market share positions were good too (even if in Western Europe they are still behind Syngenta). Note the bushel yield advantages noted in the column on the right.  That is a good position to have in a current low acreage environment.

Reflecting these good underlying fundamentals, in corn they noted 'share gains and price mix improvements' whilst on the long-standing Roundup crop protection product they said that even there the generics were holding their prices (Monsanto price slightly above). Given the tough environment that is good news.

Finally does this pay out?  Well I was impressed by the strong free cash flow (even if little releverage ability remains to their net debt/ebitda target):

 The above free cash flow yield is equivalent to around 3.5% - not bad at all.

Whilst earnings downgrades due to market conditions have pulled down earnings capabilities I still have the company trading at x14 EV/ebit at c. US$105.  That is still the level for me to instigate a position.  Was I impressed by the quality of the numbers and associated comments today?  Yes...

As I wrote before on the stock:

'Buy shares when they are on sale due to general market fear or specific investor concerns about the company. Hindsight is a wonderful investment educator. But if the stock market has a wobble... then put Monsanto high up your list of shares to look at when the screens are red and the headlines bearish'.

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