Each week we strive to find what we believe are currently the best corporate bonds for investors needing or seeking good cash flow and high yields with the least amount of risk possible relative to the projected returns. Occasionally our attention is drawn to a bond that is already included in one or both of our high yield managed income portfolios, Fixed-Income1.com and Fixed-Income2.com, either because the risks of holding it appear to have possibly been reduced, or because the yields currently indicated have entered (or returned to) a level we see as being very attractive. When both reasons appear, as it has now with the over 10.75% yields indicated in these very short 30 month Mriya Agro Holding Yankee (US dollar) bonds, we delight in the opportunity to target them for an overweight position in our fixed income portfolios.
Assessing the Yield Curve
Although we have communicated it many times previously, it bears repeating that wealth preservation by achieving returns that can outpace moderately rising inflation is one of the biggest concerns among our clients and other fixed income investors. Regardless of who or what agency considers inflation to be only 1.5% through the months ending August 2013, not everyone is buying into the story that there is barely any inflation right now. While low inflation numbers and persistently high unemployment may justify the Fed's continuance of its quantitative easing program (as Minneapolis Fed Governor Kocherlakota recently outlined in a speech made to a group in Houghton, Michigan), achieving yields high enough to preserve one's wealth and outpace inflation has become much more complicated than only assimilating as little risk as possible in order to achieve rewards that are marginally higher than the government's own "official" inflation index. In order to better comprehend the many masked instruments of wealth destruction, a more astute and personal assessment must be made of the combined effects of inflation, the debasement and devaluation of the dollar, and sadly enough, a government and its economists fixated on obfuscating a plain or clear view of any of the above.
Perhaps the more complicated, confusing and distressing these matters can seem or become, the more necessary and highly rewarded its perpetrators become. However, we endeavor to simply this concern for wealth preservation by finding the highest yields possible in shorter maturity, high yielding fixed income investments that are able to meet or exceed our strict criteria for evaluating debt issuers, as outlined below.
A look at the issuer
Mriya Agro Holding is one of the largest and most efficient agricultural producers in the Ukraine. The Company was founded in 1992 as a family business with the dream (mriya translates to "dream" in Ukrainian) to create a leading and responsible agricultural business committed to grow and supply the best produce. Mriya has grown dramatically and has expanded its farmland from 50 hectares in 1992 to 298,000 hectares today. Mriya's land is concentrated in Western Ukraine where "black earth" is among the most fertile lands in the world. Mriya cultivates a diverse range of agricultural crops including wheat, rapeseed, corn, sugar beet, potatoes, buckwheat, barley, peas and soybeans, taking full advantage of the fertile land it owns to meet the vital and growing global demand for food. Mriya's produce is sold in over 20 countries around the world, supplying the largest food companies in Europe.
In its 20 years of existence, Mriya has deployed successful farming methods consistently across its farmland based on international expertise and through continuous productivity enhancements. The Company started investments in modern agricultural machinery in 1996, purchasing the first machinery produced by John Deere (DE) and Grimme, and in 1999 formed a strategic partnership with Ukrainska Mova, which was later acquired by Kraft (KRFT), to supply potatoes for potato chip production. The Company currently benefits from a vertically integrated structure which enables it to manage the entire farming value chain efficiently - from seed production, crop planning and cultivation to storage and transportation infrastructure and logistics. The Company owns silos, granaries and seed storage facilities, potato warehouses, seed plants, and operates a large fleet of GPS-equipped transport and agricultural machinery. These significant operating efficiencies, when combined with crop yields substantially above the Ukrainian average and their low labor and farm lease costs, help to explain the strong growth over the last 5 years of Mriya's earnings (EBITA).
Since 2008, 20% of the outstanding shares of Mriya have been listed on the Frankfurt Stock Exchange in the form of GDR's, and 80% of the shares are retained in the ownership of the founding Guta family. The Company is headquartered in the Ternopil region of the Ukraine, and all of the lands under management is located within 150 kilometer radius of its headquarters. Mriya Agro Holding is incorporated in Cyprus, and currently employees over 3360 administrative and full time production staff, and about 2000 seasonal production staff.
Last week, it was reported that the Ukraine had agreed a deal with a Chinese company to lease 5% of its land to feed China's burgeoning population, however it was denied (perhaps for political reasons) by the Ukrainian partner KSG Agro. If true, however, it would be the biggest so called "land grab" agreement, where one country leases or sells land to another, in a trend that has been compared with the 19th century "scramble for Africa", but which is now spreading to eastern Europe. In any event, it appears there may be an increasing value in the now nearly 300 thousand hectacres of Mriya's land lease agreements, 43% of which have a duration of more than 8 years. Mriya plans to expand its land under management to about 650 Kha.
We like companies that are profitable
Agriculture product prices have substantially outpaced worldwide inflation in the last 5 years, resulting in a significant growth in revenues for Mriya. Total revenues grew 32% year over year from 2011 through 2013, and 21% year over year comparing 1H 2012 with 1H 2013. While adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) for 2012 were 41% higher than in 2011, the first six months of 2013 indicate a more modest 7% increase over the first half of 2012 and EBITDA margins remain strong at 44%. Historically the 4th quarter, where much of the previously harvested crops are sold and operational costs decrease, has the strongest earnings.
Mriya's growth in property, plant and equipment supported by organic growth based on investments in infrastructure, logistics, and its fleet of machinery. Its application of modern equipment and best of class food science to rich, low cost soils and inexpensive labor continues to result in strong revenue growth and robust margins, and its total assets have surged by 32% year of year to over $1.65 billion at the end of 1H 2013. Proceeds from the Eurobonds issued at the end of 1H 2013 allowed the company to fulfill its needs for capital expenditures (new machinery units and equipment for the construction of new assets) keeping a strong cash position of $178.5 million.
Interest Coverage Ratios
Mriya's total debt at the end of the first 6 months of 2013 appears to total about $632.3 million at a weighted average interest rate of about 9.1%. Mriya's 6 month operating profit was reported at $148.0 million, putting its earnings at 6.3 times greater than the reported finance expenses of 23.4 million and over 5x higher than the projected expense of its interest bearing debt.
We like companies with lower debt to cash ratio
Mriya's cash and short term deposits at the end of 1H 2013 were $178.5 million, putting its net adjusted debt about $456.9 million. This strong cash position is likely slated for capital investments in new heavy equipment and additional land leases. Mriya is one of the few operators in the rich farmlands of the Ukraine to achieve large economies of scale using GPS and world class equipment, such as the 20 new S680 John Deere rotary combines it purchased this year. Given the current higher trajectory of agricultural product prices, Mriya's continued rapid expansion and high margins model seems likely to continue. However, if it were to throttle back to a more modest growth rate with less capital investment, its strong EBITDA would enable them to pay down debt aggressively if that were to become a primary use of cash flow.
We like companies that have good balance sheets
The total market capitalization of Mriya Agro is estimated at approximately $640 million, which is about 60% higher than the value it appears it may have been in 2008 when it was first listed on the Frankfurt exchange. As a result of heavy institutional ownership, its shares don't appear to be traded with any significant volume. However, with a net debt of about $457 million and a modest debt to enterprise ratio of about 42%, a company sporting such high margins of profitability and strong growth in cash flow should have little difficulty in accessing additional capital through the equity markets if it were deemed necessary or desirable.
We like higher yields
This five year $250 million US dollar denominated debt of Mriya was issued in March of 2011 at the coupon rate of 10.95%, payable semi-annually. While its principal amount is callable at a rather modest premium (or no premium, if a specific favorable tax treaty outside the direct control of Mriya changes), we see this as allowing prudent flexibility should it need to unexpectedly change its current business model and pay down its debt. Acquiring this bond near or slightly over par would result in indicated yield to maturity of 10.76%, and provide added strength to the high cash flow in our client's foreign and world fixed income holdings.
When comparing the yield, maturity, and expenses of both the iShares iBoxx $ High Yield Corp Bond ETF (HYG) and the SPDR Barclays Capital High Yield Bond ETF (JNK) to these Mriya Agro bonds, both ETF's appear to hold bonds with an average credit rating similar to Mriya, but offer a significant lower yield from issues averaging nearly twice the maturity of these Mriya bonds. In an environment of rising interest rates, we think there are notable advantages to owning shorter, maturity certain, bonds. However, we also acknowledge that a widely diversified bond portfolio does mitigates the default risk of any one issue, and we offer the following chart for comparison purposes only.
iShares iBoxx $ High Yield Corp Bond ETF
SPDR Barclays Capital High Yield Bond ETF
Mriya Agro bond due March 2016
Mriya Agro to best ETF in that category.
The Mriya Agro bond provided a 68% higher boost in yielding than the iShares iBoxx $ High Yield Corp Bond ETF .
The Mriya Agro bond may cost 10 basis points more than SPDR Barclays Capital High Yield Bond ETF .
The Mriya Agr bond is 43% shorter than SPDR Barclays Capital High Yield Bond ETF .
The Mriya Agro bond is rated the same as the average rating in both ETF's
*This is a proposed cost only.
The default risk is Mriya Agro's ability to perform. Considering their historical and recent performance, their flexible balance sheet, their sound cash position, and the excellent cash flow that is projected to service their interest bearing debt, as outlined above, it is our opinion that the default risk for this short to medium term bond is minimal relative to its more favorable return potential.
The hardest risk for us to identify is the geopolitical risk. Since we find it hard to understand many of the political changes even in our own country, perhaps the uncertainties of changes on a foreign soil become less formidable. With that said, it is our opinion that diversification into other forms often serves to reduce risk. Our strategy here, as with other Yankee bonds, is to focus on unique or required services that can be seen as a adding key economic value to the society it's associated with. Mriya's food production is a basic need for any society, and it is highly regarded as one of the best operators in its homeland.
Mryia is relatively small compared to farming, processing and storage companies, such as Archer Daniels Midland (AMD), Bunge (BG), and Anderson (ANDE). As such, it may face increasing competition from substantially larger and better financed companies attempting to gain better global positioning for food production.
The cost of crops is directly affected by trends in the international and domestic prices, as well as by the exchange rate of the Ukrainian hryvna. Fluctuations in the price of fertilizer are also is unpredictable, but an expanded diversified crops and Mriya's low cost to produce product should help alleviate some of these uncertainties going forward.
We believe that these Mriya Agro bonds have similar risks and maturities to other Central European Yankees bonds we have previously reviewed, such as 9.6% Yields with Ferrexpo bonds with their main operations also in the Ukraine with a maturity that is only one month longer. The 8.5% Yield in Rubles, Federal Grid Co, matures Mar. 2019 which is a longer and bond but provides the electrical power grid that could affect production and storage in that region, and 8.5% Yields, Avangardco Holdings, Yankee Corporate Bond which is the closest comparable company with Avangardco and Mriya both consider being agriculture based companies in the Ukraine. These reviews can be read on our Bond-Yields.com blog.
Summary and Conclusion
It is our opinion that Mriya Agro has positioned itself well for the future as a leading global provider of food in one of Europe's richest farming districts. It has a good cash position, excellent earnings and interest expense coverage, and a sound balance sheet. As a result, we not only believe these Mriya bonds offer an extremely high yield relative to the financial risks that we can identify, but that they will continue to uphold our unblemished record of avoiding defaults. In light of this and its fundamentally sound metrics, we believe these relatively short 30 month Mryia Agro Yankee bonds offer an extremely high yield relative to the financial risks that we can identify, and have selected these bonds for our managed income portfolio's, Fixed-Income1.com and Fixed-Income2.com
Issuer: Mriya Agro Holding
Yield to Maturity: ~10.76 %
Disclosure: Durig Capital and certain clients may have positions in Mriya Agro 2016 bonds.
Please note that all yield and price indications are shown from the time of our research. Our reports are never an offer to buy or sell any security. We are not a broker/dealer, and reports are intended for distribution to our clients. As a result of our institutional association, we frequently obtain better yield/price executions for our clients than is initially indicated in our reports. We welcome inquiries from other advisors that may also be interested in our work and the possibilities of achieving higher yields for retail clients.