Week 354 - Production Agriculture

Situation: Commodity production is quietly starting its next ~20-Yr supercycle. The last one was strong, due to the epic buildout of the Chinese economy. The coming supercycle also will be based in China, which is emerging as a superpower. For a capsule view of what’s happening, look at US soybean exports in 2016. Soybeans mainly become animal feed, and pork is the favorite source of protein for China’s burgeoning middle class. However, raw commodities in general and grains in particular remain underpriced. Why? Because advances in technology and logistics almost guarantee that supplies will outstrip demand: 
     “In business literature, commoditization is defined as the process by which goods that have economic value and are distinguishable in terms of attributes (uniqueness or brand) end up becoming simple commodities in the eyes of the market or consumers. It is the movement of a market from differentiated to undifferentiated price competition and from monopolistic to perfect competition. Hence, the key effect of commoditization is that the pricing power of the manufacturer or brand owner is weakened: when products become more similar from a buyer's point of view, they will tend to buy the cheapest.” 

Farmers worldwide see that their average income tends to fall, as prices paid for their average harvest tends to fall. In most years, they can’t afford to pay as much for inputs to next year’s harvest as the prior year. We’re seeing a wave of consolidation among companies that supply farmers with seeds, insecticides, herbicides, fungicides and fertilizer chemicals. Famous companies like Agrium, duPont, Dow Chemical, Syngenta, Potash Corporation of Saskatchewan, and Smithfield Foods have either merged with a competitor or been acquired. 

Mission: Use our Standard Spreadsheet to analyze the few long-established companies that remain active supporters of farm production.

Execution: see Table.

Bottom Line: Production agriculture has become commoditized. (No surprise there.) But investors can still make money in that financial space from vertically integrated meat producers, i.e., the top 4 companies listed the Table. Why do they stand out? Because China is a big country and has gone far toward eliminating poverty. A long-standing love of pork products in particular will continue to track growth of the middle class. That appetite for animal protein resulted in a 8-26% increase in beef, pork and chicken products from the US in 2017 alone, compared to an increase of only 5-6% for confectionary items, fruit, and nuts.    

Risk Rating: 8 (where 10-Yr US Treasury Notes = 1, S&P 500 Index = 5, and gold bullion = 10)

Full Disclosure: I dollar-average into MON, and own stock in Hormel Foods (HRL) and Union Pacific (UNP).

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