MARKET WATCH: What’s Happening? Agribusinesses are teaming up, looking to create Big Ag’s new “big three.” Forecasters are worried that the mergers will utterly crush market competition.
Our Take: These pending mergers are not aggressive in intent. They are rather a defensive, consolidating move motivated by self-preservation. Big Ag’s near-term challenge: Farmers moving away from GMO seeds. Their longer-term challenge: The growing appeal (and bigger profit margins) of organic and natural products.
Bayer (FWB: BAYN) recently orchestrated the biggest takeover of 2016 when it agreed to buy rival Monsanto (MON) for $66 billion. Chinese state-owned agriculture heavyweight China National Chemical Corporation (private) plans to acquire Syngenta (SYT) for $42 billion. Dow (DOW.WD) and DuPont (DD) are pursuing their own $130 billion megamerger. (None of the moves have yet been approved; the Justice Department is still pondering the impact of a market dominated by three behemoths.)
The pending mergers have set off alarm bells. A recent Quartz article warns that we will soon see “the biggest farm-business oligopoly in history.” Other forecasters are worried that industry consolidation will hurt independent seed suppliers that license genetic technology from agribusinesses—not to mention the farmers who buy these seeds.
DRIVERS
But given recent trends in the agriculture industry, these mergers are far from a power grab by Big Ag. In fact, they are actually a defensive measure.
Declining commodity prices. The entire agricultural sector has been decimated over the last three years by a plunge in commodity prices. Since their mid-2012 peak, corn futures have dropped by nearly 60%. Soybean futures have fallen by nearly half.
An additional whammy for farmers has been soaring seed prices. Soybean seeds today cost 305% more than they did in 1996, while soybean crop prices per bushel have gained only 31% during that time. USDA projects domestic net farm income to fall to $72 billion this year, down 42% from 2013.
The resulting margin squeeze has also dampened the demand for agricultural equipment from manufacturers like Deere & Company (DE), CNH Industrial (CNHI), and Japan’s Kubota Corporation (TYO: 6326). In fact, in Q3 2016, Deere reported its lowest quarterly “agriculture and turf” category sales since 2008.
The move away from GMO seeds. But these aren’t the only challenges facing agribusiness. To save money, many farmers are avoiding expensive GMO seeds (a major revenue source for these firms) in favor of cheaper natural seeds.
Private regional seed suppliers like Albert Lea Seed and Beck’s Hybrids have reported surging demand for their non-GMO varieties in recent years. Some farmers are even mixing GMO and non-GMO varieties, looking for a combination that both cuts cost and bolsters yield.
In a way, this is a self-inflicted wound for Big Ag. After so many years of GMO use, many common varieties have lost their efficacy. Back in 2013, insecticide sales began surging because a common rootworm-targeting gene in one brand of Monsanto seed no longer worked. Meanwhile, so-called “super weeds” like waterhemp and palmer amaranth have grown resistant to herbicides. As one farmer puts it, “Five years ago the [GMO] traits worked…Now, the worms are adjusting, and the weeds are resistant. Mother Nature adapts.”
Result: The average soybean farmer has only seen 4% growth in crop yield per acre over the past decade—not much of an incentive to keep buying GMO seeds. Due to these intense cost pressures, research firm Sanford C. Bernstein projects that agribusinesses likely will be unable to raise seed prices more than inflation over the next three to five years.
All in all, it doesn’t look like a very favorable situation for Big Ag firms—least of all the ones that depend heavily on seed sales, like Monsanto and Syngenta. Monsanto earns 33 cents out of every dollar that its biotech products save farmers in chemical and labor costs. A large-scale move away from GMO seeds puts this lucrative “technology fee” revenue in jeopardy.
The drive for organic, natural food. The movement away from GMOs goes deeper than cost. Farmers are also responding to heightened consumer demand for natural products.
In their youth, Baby Boomers flocked away from Big Food and toward authentic, organic brands. In the years since, their tastes have gone mainstream. Health-conscious Millennials have made “all-natural” a part of their lifestyle. Attentive Xer and Millennial parents are even springing for higher-priced organic baby food from the likes of Earth’s Best (HAIN) in order to give their kids the very best.
These tailwinds have transformed the U.S. organic food market from a niche into a bona fide industry. The market is worth $43.3 billion as of 2015, up from just $3.6 billion in 1997. The number of domestic certified organic producers has risen nearly 300% since 2002. It’s no wonder: Organic farmers enjoy profit margins up to 35% greater than their non-organic counterparts.
Who are the heavyweights in this corner of the market? Canadian producer SunOpta (STKL) specializes in the sourcing and processing of organic, natural food. California-based Calavo Growers (CVGW) packages and distributes produce worldwide. Other big names in organic production and sales include Fresh Del Monte Produce (FDP) and Whole Foods Market (WFM).
Food brands are taking an interesting tack to get in on the ground floor of this movement. Last year, Nature’s Path splurged on 2,800 acres of Montana farmland to take control of its supply chain. Companies like General Mills (GIS) and Kellogg Company (K) are even paying farmers to enter organic production.
Organic farming is not without its risks, however. Producers must undergo a strict two-year transition process to become credentialed. Plus, the high price tags that organic goods fetch come at the cost of significantly higher labor and production outlays.
But in a climate of declining prices, organic food is resisting the overall trend toward lower prices—and is generating high margins for efficient producers.
ANY OPPORTUNITIES LEFT FOR BIG AG?
Near-term: Chemical-heavy firms will prosper. Many farmers are moving away from GMO seeds—or are shopping around for the best deal, which has led to a race to the bottom among seed-producing agribusinesses. Chemical-heavy agribusinesses, on the other hand, may see increased demand. Why? Fewer GMO crops means that farmers must now use more pesticides and herbicides to achieve the same level of protection that they were getting from their seeds.
What’s more, many chemical-centric firms like Dow and Bayer derive a relatively small share of their revenue (less than one-quarter) from farming, which shields them from the inherent volatility of the cyclical agriculture market.
Long-term: Bet on tech-driven farming. With “prescriptive planting,” farmers receive detailed, actionable information on soil and weather conditions. Over the past four years, Monsanto has spent more than $1 billion in acquisitions to build its tech arm—which company executives expect to generate hundreds of millions in annual revenue by the end of the decade.
It’s not just prescriptive planting that’s generating buzz. CNH Industrial recently unveiled a prototype of an autonomous tractor that operates using cameras, radar, and GPS. For less than $1,000, farmers can buy an agricultural drone from 3D Robotics that captures detailed images of crop fields. Using cutting-edge software, agricultural robots (which will soon be bought up by Big Ag) can now identify and pick everything from apples to lettuce to strawberries. Early adapters hope that these robot pickers will soon be much less costly than human pickers.
All told, Goldman Sachs estimates that advances in agriculture technology could boost yields by 70 percent by 2050.
To be sure, tech-driven farming is a long way from going mainstream. Many farmers today simply do not have the cash to invest. More fundamentally, plenty are skeptical of handing over their proprietary information to a conglomerate. If DuPont suddenly learns that a particular farm cannot function without a certain fertilizer, suddenly it has the leverage to charge that farm more for it.
But in the long run, technology has the potential to be a game-changer for farmers and agribusinesses alike. The most optimistic forecasters see prescriptive planting as an innovation on par with the invention of the mechanized tractor and GMO seeds. Once the crop cycle reverses and farmers have cash on hand, a device that boosts productivity and yield is a smart buy.
