Sunday, August 17, 2008

Monsanto India

Investors with a two-three year horizon can buy the stock of Monsanto India, a leading producer and marketer of agricultural inputs.

From being a leading player in the agrochemicals business — which is subject to high competition and pricing pressures — Monsanto India has increased its presence in the lucrative hybrid seeds business, targeting crops such as corn, cotton and oilseeds.

The market for hybrid seeds offers potential for strong revenue growth and high margins.

Access to the research efforts and brand portfolio of the parent, which is a global leader in seeds and traits, is a strong competitive advantage in a business where investments in R&D and the gestation period to develop new strains, present the key entry barriers. At the current market price of about Rs 1,594, the stock trades at a price-earnings of about 14 times its estimated earnings for FY09.

This appears justified, considering the high domestic growth potential of the seeds business, the premium valuations enjoyed by life-sciences companies globally and Monsanto's strong balance-sheet. Any decline in stock price to Rs 1,400-1,500 levels linked to broad markets would present an even better opportunity to add the stock to your portfolio.

Given the relatively low trading volumes in the stock, timing your purchases carefully may be necessary to maximise returns.
Restructuring for focus

After managing a consistent year-on-year growth in both sales and profits in the five years to 2004-05, Monsanto India saw its growth rates falter over the next two years, as it dramatically restructured its business. It forged a gradual exit from the more competitive and price-sensitive segments of the herbicide business and re-aligned its portfolio more closely with that of the parent — which is focussed mainly on seeds and traits.

Monsanto divested its Leader herbicide in 2006 and herbicide brands such as Machete, Lasso and Fastmix (Butachlor and Alachlor) in 2008. Profits of Rs 45.8 crore from some of these divestitures in 2007-08 significantly bolstered Monsanto's net profit; this was distributed to shareholders through a special dividend of Rs 180 per share in 2008.
Cashing in

This restructuring has left Monsanto with hybrid seed brands — Agrow and Dekalb — and the Roundup herbicide business, all of which are leading products in the parent's portfolio.

Over the past year, specific focus has been placed on Dekalb corn hybrids where Monsanto's seeds target traits such as higher yield, oil content and longer shelf life. Corn is a very lucrative target crop in the Indian market and allows seed marketers to charge a significant price premium. Rising global prices for corn spurred by bio-fuel related demand and increasing use of corn by the food processing and animal feed industries has led to strong export as well as domestic demand for Indian corn.

High prices, combined with a short cycle, make corn an attractive cash crop for the farmer, paving the way for rapid adoption of hybrids (40 per cent of planted area) in the domestic market. Monsanto already claims a 39 per cent share of the corn hybrid market in India and hopes to further increase its share by targeting new regions (Northern states have lower rates of hybridisation than the southern ones) and traits.

In this respect, access to the parent's product and research library lends a significant edge to Monsanto over other domestic players. Expansion in other target crops such as cotton and soybean also offers growth potential.
Better mix

The changed profile has left Monsanto with a business that is less import-intensive and volume-driven; with significant scope for improvement in profit margins (currently at 24 per cent).

The strong growth in the seeds business has already made up for recent divestitures; with the company recording profits after tax (leaving out exceptional items) of about Rs 64 crore in 2007-08, on sales of Rs 384 crore, re-establishing the earlier growth trajectory.

High margins and strong operating cash flows in recent years have ensured a zero-debt status for Monsanto India, with the company not taking recourse to any infusion of capital — either equity or debt — over the past ten years. This provides further justification for a valuation premium for the stock, in the current scenario of tight credit and rising interest costs.
Risks

The key risks to investors in the Monsanto India stock arise from the regulatory and weather-related risks that characterise the seeds business. In this context, the controversial Bt Cotton business, which Monsanto is usually associated with, is not part of the listed entity and is vested in a separate joint venture. Several MNCs in the agrochemical space have sought to delist their Indian arm. Such a move remains a possibility for Monsanto India as well. The Indian arm could also be impacted by any strategic decisions taken by the parent.

A recent move by the global parent to transfer the rice, sunflower and millet seeds businesses to an acquirer — Devgen — has seen Monsanto India also exit these crops in India. However, the more lucrative corn, cotton and soybean crops remain in the company's fold.

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