The Street is in one of those stretches where it wants to like Monsanto (MON), so it doesn't look like analysts or investors are being too pointed in how they approach results for the fiscal first quarter. While the results were indeed solid overall, and Monsanto remains a high-quality play in the agriculture space, there were a couple of details that investors shouldn't ignore before paying up for what is by no means a cheap stock anymore.
Blowing Away The Expectations For FQ1
Monsanto certainly did better than expected for this fiscal first quarter. Revenue rose nearly 21%, beating the average estimate by more than 10% (and analysts had been expecting a strong quarter). Seeds and traits were up about 14%, with a very strong result in corn (up 27%) offsetting disappointing performance in soybeans (down 5%) and middling performance in cotton and vegetables. "Productivity sales" (which is basically code for Roundup herbicides) were up 31% and well ahead of most expectations.
On the profit side, gross margin improved nearly three points and the company's gross profit was about 15% better than most analysts expected. Operating income more than doubled for the quarter, with a seven-point improvement in operating margin. While the seed business was no slouch (up 50%), the profitability of the productivity business was startling, as profits tripled many of the estimates I saw.
Good Progress In LatAm And The Lab
Latin America is a key market for Monsanto, and the company continues to do an excellent job of growing this business. Farmers continue to upgrade to newer (more expensive) traits, and about 40% of Monsanto's corn business is now Genuity VT Triple Pro. While there is still an ongoing issue with soybean royalties in Brazil, this is not really harming the business today.
Monsanto is doing great in the field against the likes of DuPont (DD) and Syngenta (SYT), particularly in North and South America, but where Monsanto really wins is years before in the lab. To that end, investors should be pleased to see 18 projects advancing, including dicamba-tolerant corn and cotton (Phase 3 and 4, respectively) and a variety of new traits for the canola, wheat, sugarcane, and vegetable markets (including a new broccoli variety/trait).
Now For The Not-So-Good News
It looks like plantings are going to be higher in North America this year (orders are already tracking ahead of 2012 levels), and Monsanto has been gaining share on both DuPont and Syngenta. What's more, the Productivity business is showing unexpected strength.
So what's the problem?
For starters, I don't like the weak result in soybeans. True, this isn't the big quarter for soybeans (that would be the next one) and I'm sure some farmers are switching from beans to corn, but I don't want to see Monsanto's mix even more heavily weighted to corn. That said, the next major soybean launch (in North America) isn't likely until 2014.
I also don't happen to trust the Productivity results. This business has been exceptionally volatile over the years, and Monsanto has far less of a competitive advantage here over Syngenta, DuPont, Dow (DOW), or FMC (FMC) than it enjoys in seed traits. So while I don't wish away these better profits, I am also not going to rush to push up the numbers in my model on the assumption that they are sustainable.
I suppose I would have also liked to have seen a bigger raise by management in terms of guidance. Then again, this is the consummate "under-promise / over-deliver" team (at least in recent years) and that is more of a quibble. Still, for a company with a low-teens EV/EBITDA multiple I don't think the aforementioned issues are entirely trivial.
The Bottom Line
Plenty of people hate everything about Monsanto, and I accept that (even if opinions may be changing in some quarters). Even with that strong base of opposition, I believe that advanced seed traits are here to stay and will likely see usage expand - particularly if the drought-resistant/tolerant traits from Monsanto and DuPont deliver the goods in terms of yield performance.
While Monsanto's lack of exposure to rice is a small drawback (and this is an area where Syngenta is quite strong), I believe the company's lead in corn and soybeans, combined with emerging programs in wheat, oilseeds, sugarcane, can fuel revenue growth in the mid-to-high single digits across the next decade. Likewise, I believe this company will continue to develop as a highly profitable company that generates substantial free cash flow from its revenue base.
That said, I would be in no great hurry to chase these shares today. The growth guidance I just alluded to supports a DCF-based target in the low $100s, which is enough reason to hold on to shares but perhaps not a compelling argument for new buys. Then again, with other names like Syngenta and American Vanguard (AVD) no great bargains in their own right today, Monsanto may still just be the best-of-breed play in agriculture today.
Disclosure: I am long MON.