In mid-2008 Monsanto CO. (MON) was trading around $140 per share, fast-forward to mid-2010 and its stock is trading for $57. In mid-2008 the stock was trading on the news of a global food crisis but since then the global recession has brought grain prices back down and Monsanto (MON) has lost a couple more patents on its very profitable product, Roundup. Has the bad news been overly priced into the stock? Is Monsanto Co. (MON) now cheap?
I will try to answer this question by creating a rough valuation for Monsanto (MON) based on the sum of its parts: its Seed and Genomics Division; its Agricultural Products Division; and its option on a global food crisis.
Seed and Genomics
The Seed and Genomics division is by far the largest division at Monsanto CO. (MON) based on revenues; it accounts for 62% of Monsanto’s revenue. In fiscal year 2009 the Seed and Genomics division had $7.29 billion in sales. For fiscal year 2009 the Seed and Genomics division had a Gross Margin of 61% and an Operating Margin of 22%. In 2008 Seeds and Genomics had an operating margin of 18%. The increase in margins has been due to the launch of newer- higher margin products. Margins are expected to continue to increase further based on more launches of higher margin products like Genuity VT Triple Pro Corn.
For the discounted cash flow that I will run on this division I will use an operating margin of 20% even though recent margins have been higher and are expected to increase further. I will use current interest expenses and taxes but I will use normalized Statement of Cash Flows line items. For growth rates, I will use the median analyst estimate of 10% and the lowest analyst estimate of 6%. I will use 10% as the discount rate because Monsanto CO. (MON) is a large multi-national company with minimal debt and a leader in its field. Currently, Monsanto Co. (MON) has 545 million shares outstanding and to keep it simple I will not factor in any share buybacks.
Below is the range of values for the Seed and Genomics division.
- 6% Growth = $51.00
- 10% Growth = $59.00
With Monsanto Co. (MON) currently trading around $57.00 we’re pretty much getting fair value for the Seed and Genomics division and everything else free.
Agricultural Products
The Agricultural Products division provides the rest of Monsanto’s Co. (MON) revenue. The bulk of Agricultural Products’ revenue comes from the sale of Roundup, a glyphosate herbicide. This is also the division that helped fuel Monsanto’s Co. recent sell-off. Monsanto lost more patents on Roundup and the market was flooded with generic glyphosate products.
Sales of Roundup and other glyphosate-based herbicides declined in the United States and other world areas except as mentioned above because demand fell due to the increased price of our product and shift to generic competition. 2009 10-K
From fiscal year 2008 to fiscal year 2009 Monsanto’s Co. (MON) Roundup revenue decreased 15% which was slightly offset by an increase in price. The division still produced strong cash flows with an Operating Margin of 26%. However, Operating Margins for Roundup have declined year-over-year from 32% in fiscal year 2008 to 26% in fiscal year 2009 and will probably decline further.
Currently, this division is being treated as if it is going out of business and has been a drag on Monsanto’s stock. This division is not going out of business but has been impaired. What is the Agricultural Products division worth based on a worst-case scenario?
My worst case scenario is Roundup loses 50% of its sales and its Operating Margin declines to 10%. In fiscal year 2009 Roundup provided $3.53 billion in revenue and a 50% decline would leave Roundup revenue at $1.76 billion. With an Operating Margin of 10% this would produce an operating income of $176 million. Using normalized tax rates, normalized Statement of Cash Flow line items, and Monsanto’s current interest expense this produces free cash flow of $0.39 per share using 545 million shares outstanding.
I will value the worst case scenario like a perpetuity using a discount rate of 10%. I’ve chosen to value the worst-case scenario like a perpetuity because Roundup is still the largest selling glyphosate product on the market. Glyphosate is also the largest herbicide in use and has been this way for a long time. Monsanto lost its U.S. Patent in 2000 and still has maintained a high level of Roundup sales. I would expect Monsanto to continue to sell more Roundup than what I’m basing this valuation on.
Below is my value for the worst case scenario.
- $3.90
Adding the values above for the Seed and Genomics division to the worst case scenario value for its Agricultural Products division my new range of values are:
- $54.90
- $62.90
Again, at the current trading levels for Monsanto Co. (MON) we are getting the Seed and Genomics business at fair value and the rest of Monsanto for almost nothing. If Roundup doesn’t meet my worst case scenario then this division is worth a lot more and we get to buy it today for pennies on the dollar. I think my worst case scenario has a low-probability of coming true because Monsanto still sees Roundup as a highly profitable division.
We believe our Roundup herbicide gross profit peaked in 2008, and will decline in 2010 in light of our announced U.S. price reduction and global oversupply of low priced generic material. However, we believe the business will continue to generate a strong source of cash and gross profit. – 2009 10-K
There is a third part to the value of Monsanto Co. (MON), its option on increased global food demand.
Option on Global Food Demand
The fundamentals behind the global food crisis story that propelled Monsanto to triple digits in 2008 are still intact.
Last year the skyrocketing cost of food was a wake-up call for the planet. Between 2005 and the summer of 2008, the price of wheat and corn tripled, and the price of rice climbed fivefold, spurring food riots in nearly two dozen countries and pushing 75 million more people into poverty. But unlike previous shocks driven by short-term food shortages, this price spike came in a year when the world’s farmers reaped a record grain crop. This time, the high prices were a symptom of a larger problem tugging at the strands of our worldwide food web, one that’s not going away anytime soon. Simply put: For most of the past decade, the world has been consuming more food than it has been producing. After years of drawing down stockpiles, in 2007 the world saw global carryover stocks fall to 61 days of global consumption, the second lowest on record.
“Agricultural productivity growth is only one to two percent a year,” warned Joachim von Braun, director general of the International Food Policy Research Institute in Washington, D.C., at the height of the crisis. “This is too low to meet population growth and increased demand.”
Click here to read the full National Geographic article, “The Global Food Crisis: The End of Plenty”
To meet the growing food demands humans will need to find ever higher yielding strains with resistance to drought, disease, and anything else the future might throw at us. With Monsanto CO. (MON) we are investing in one of the largest genetically modified seed producers who has the potential to help us meet our global food needs. In 2008 this option on Monsanto’s future growth was trading at a premium but now we are getting it for free.
This option has also recently become worth a lot more.
The Economist recently published an article “Rust in the Bread basket” describing the return of a fungal infection that can destroy whole wheat fields.
IT IS sometimes called the “polio of agriculture”: a terrifying but almost forgotten disease. Wheat rust is not just back after a 50-year absence, but spreading in new and scary forms. In some ways it is worse than child-crippling polio, still lingering in parts of Nigeria. Wheat rust has spread silently and speedily by 5,000 miles in a decade. It is now camped at the gates of one of the world’s breadbaskets, Punjab. In June scientists announced the discovery of two new strains in South Africa, the most important food producer yet infected.
Monsanto Co. (MON) and BASF Plant science announced on July 7, 2010 “an expansion of their joint efforts to develop higher-yielding and stress-tolerant crops to include a fifth crop, wheat”. [Emphasis added]
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