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Over the top

Arobust agricultural economy has been good for the companies that supply seed, fertilizer and equipment. As a result, stock prices of several agricultural-related companies have seen significant increases, even as talk of a general economic slowdown has put pressure on the Dow Jones Industrial Average.

Consider this: If you had bought $1,000 in Monsanto stock on January 4, 2006, you could have sold it for $3,534.41 on June 18, 2008. A $1,000 investment in Mosaic stock on January 4, 2006, was worth $10,393.80 on June 18, and $1,000 of stock in Deere and Company grew to $2,292.85. By comparison, $1,000 of Exxon Mobile stock purchased on January 4, 2006, was worth $1,507.04 on June 18.

“In general, the investment community is looking favorably to the agricultural sector,” says Sam Halpert, senior analyst with Van Eck Global. “The earnings momentum from the ag sector is working well.”

Lynn Henderson, publisher of AgriMarketing magazine, has tracked agricultural sector stocks, and in a portfolio he keeps of 28 company stocks in the agriculture sector — seed, fertilizer, animal health and chemical — the portfolio's return since its inception on January 1, 2006, has been an impressive 113%. “And if you take out the underperforming animal health stocks, the performance would have been even greater,” he says.

Here's a look at the recent earnings of several ag companies:

  • In a report of Monsanto's third quarter results, the company's Chairman, President and CEO Hugh Grant said, “Backed by continued growing demand for our products, the first nine months of our fiscal year has been remarkable and we're now increasing our full-year guidance. This strong growth sets up a solid foundation for our business and to reach our target of more than doubling gross profit in 2012.”

    Seed, fertilizer on top
    Monsanto reported record net sales of $3.6 billion for the third quarter of fiscal year 2008, which were 26% higher than sales in the same period in fiscal year 2007. Net sales in the company's first nine months of fiscal year 2008 resulted in year-to-date sales of $9.5 billion, which were 35% higher than sales in the same period last year.

    Monsanto's net income for the third quarter of fiscal year 2008 was $811 million, or 42% higher than net income in the same period last year. For the first nine months of fiscal year 2008, net income was 83% higher than net income in the same period last year.

  • Syngenta's revenues have increased from $6.3 billion in 2001 to $9.2 billion last year. “Syngenta's ADR [American Depository Receipt] stock growth of more than 600% since the company's creation reflects the growing interest and confidence of its stockholders, who want to see innovation, creativity and responsiveness to the marketplace as well as exceptional financial management,” says Jennifer Gough, head of investor relations for Syngenta. In 2007, crop protection sales were up 11% at $7.3 billion, and seed sales were up 12% to $2 billion. The company's stock has seen an increase of more than 66% over the past 12 months.

  • The Mosaic Company is anticipating “robust fourth quarter results in fiscal 2008 as strong demand and the tight supply situation continues for crop nutrients,” according to Jim Prokopanko, president and CEO of Mosaic.

    Investor attraction
  • Agrium in early June announced that it expects to earn between $2.80 to $3.00 diluted earnings per share in the second quarter of 2008, or $4.03 to $4.23 for the first half of 2008. “Our excellent results are due to strong performance from both our retail and wholesale operations, which is particularly impressive given that the North American spring application season has been hampered by excessively cold and wet weather this year,” says Mike Wilson, Agrium president and CEO. “Continued strong global crop prices have created unprecedented demand for crop inputs and we foresee an extended demand-driven cycle.”

  • Although accounting for only 7% of The Dow Chemical Company's sales, the Dow AgroSciences division is basking in record profits. According to presentations by Jerome Peribere, president and CEO of Dow AgroSciences, the compound annual growth rate in sales was 6% from 2001 to 2007, while earnings before interest and tax saw a compound annual growth rate of 23% during that same period. In the first quarter of 2008, sales in the division grew 27%, an all-time record quarter.

  • With Bayer CropScience sales approximately 20% of Bayer Group sales, it is difficult to separate the effect of the booming ag industry on the company''s share price, according to Friedrich Berschauer, chairman of the board of management for Bayer CropScience AG. “While the main investor focus lies in the HealthCare part of the portfolio, Bayer CropScience results make an important contribution to the overall value of Bayer AG shares,” he says. “During recent months we have recognized an increasing interest on CropScience topics by our investors and analysts, and some upside is seen in the valuation of this part of our business.”

    Caution warranted
  • On the equipment side, earnings per share for Deere and Company were up 28% for the second quarter of 2008, and net sales and revenues were up 18% to a quarterly record. For the first six months of the year, net income was $1.133 billion, compared with $862.3 million last year.

    Deere's agricultural sales increased 34% for the first half of the year, boosting operating profits to $1.114 billion, compared with $624 million for the same period last year. Deere expects that a continued strong global ag market will boost worldwide sales of agricultural equipment by about 35% for all of 2008.

  • At CNH, first quarter net income was $112 million, compared to net income of $95 million in the prior year, which according to CNH President and CEO Harold Boyanovsky, was the ninth consecutive quarter of year-over-year improvement. The company expects the agricultural equipment market to remain above 2007 record levels.

Within the general rosy picture in agriculture, there are the “haves” and “have nots,” according to Halpert, the analyst at Van Eck Global. “The ‘haves’ are definitely the fertilizer and seed sectors,” he says. “More specifically, fertilizer stocks are unbelievable. Prices are very high, and they seem like they are too high, but I only see lower corn prices making them come down, and I don't see that this year.”

That's barring some unforeseen macro economic factors, such as a worldwide economic slowdown or change in the U.S. dollar's value. Or a simple market adjustment might lower prices in that sector.

The seed market is also strong, even though “stocks in that sector are not cheap,” Halpert says. “But that sector is showing that it can deliver higher-yielding products, and I don't think that is going to change.”

The machinery sector, while having shown general strength over the past few years, is also grappling with a surge in input costs, especially for steel, which has doubled in price in six months. “I don't know how equipment manufacturers are going to pass along such a large steel price increase,” Halpert says. “And even though the five-year returns have been good, the sector could struggle to maintain the good returns.”

Michael Boehlje, distinguished professor in the Department of Agricultural Economics at Purdue University, says it's not surprising that agriculture is appealing to the investment market. “You see a lot of interest in agriculture, because it has good income and good profits — all those things that draw investors to a sector,” he says.

In the 1970s, strong commodity and land prices drew investments to agriculture. “But then we ended up with increased production and saw lower prices. A lot of those strong prices eroded, and interest in land waned,” Boehlje says.

Fundamentally, the agriculture sector is cyclical in nature. “That is common with most commodity and natural resource industries,” he adds. “That spills over into the companies that provide support for those commodities.”

Better stock prices translate into additional money for capital investments in agriculture, added incomes for the sector, better profits for input supply companies, and more value across the value chain. “The immediate impact through the production end of the value chain is pretty positive — if you happen to be in the grains market,” Boehlje explains. “The immediate impact if you're in the animal protein production market is exactly the opposite.”

Will the euphoria in certain sectors of the agricultural market be maintained? Perhaps, but one should tread cautiously. One area of concern is profit margins. “We have excess profit margins compared to normal in much of the agriculture sector,” Boehlje says. “I'm not trying to be a pessimist, but I would be cautious about expecting the agriculture sector to have eliminated the fundamental cycles in the commodities industry or have gone to an environment where we can maintain margins that are abnormally high for a long period of time.”

And the implications of narrowing profit margins will have a direct impact on the performance of agricultural stocks. “Investor money is not very patient capital,” Boehlje says. “And it's not loyal to any one sector. It will move. You don't have to look very far back in the history of other industries.” For instance, the market saw tremendous gains, only to be wiped out when those stocks fell out of favor. “And at some point, commodities may not be as attractive,” he says.

Not so long ago, machinery and fertilizer stocks limped along, and quarterly reports saw a lot of red ink. But for now, ag stocks are very attractive. And company reports forecast additional growth. For example, in a report to investors, Monsanto forecasts that its gross profits from seeds and genomics will reach $6.5 billion to $7 billion by 2012, compared to the fiscal year 2008 targets of $3.6 billion to $3.7 billion in the same sector.

“Driven by the growing demand for food, feed, fiber and fuel, the agriculture industry is currently enjoying a favorable market environment,” says Berschauer from Bayer CropScience. “Prices for key crop commodities are expected to remain high, and growers are willing to invest more on inputs, including crop protection products and seed.”

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