Monsanto's CEO Discusses Q2 2011 Results - Earnings Call Transcript

 |  About: Monsanto Company (MON)
by: SA Transcripts


Greetings, and welcome to the Second Quarter 2011 Monsanto Company Earnings Conference Call. [Operator Instructions] It is now my pleasure to introduce your host, Bryan Hurley, Investor Relations Lead for Monsanto. Thank you, Mr. Hurley. You may begin.

Bryan Hurley

Thank you, Diego, and good morning to everyone. Thank you for joining Monsanto's Second Quarter Earnings Conference Call. I'm joined this morning by Hugh Grant, our Chairman and CEO; and by Pierre Courduroux, our Chief Financial Officer. Also joining me are Manny Cruz and Ruben Mella, my colleagues in Investor Relations.

Before we begin, I'd like to remind you that we are webcasting this call. You can access the webcast and the supporting slides at The replay is also available at that address. We're providing you today with EPS measures on both a GAAP basis and on an ongoing business basis. In those cases where we refer to non-GAAP financial measures, we reconcile to the GAAP measure in the slides and in the press release, which are both posted on our website.

This call will include statements concerning future events and financial results. Because these statements are based on assumptions and factors that involve risk and uncertainty, the company's actual performance and results may vary in a material way from those expressed or implied in any forward-looking statements. A description of the factors that may cause such a variance is included in the Safe Harbor language contained in our most recent 10-K and in today's press release.

I'll start today with a brief overview of our second quarter and first half results. Pierre will then cover our financial outlook and guidance for the remainder of the fiscal year 2011. And finally, Hugh will provide a strategic view of how our 2011 product and pricing approach is tracking against our overall operational plans for mid-teens earnings growth.

To start, let's take a look at the financial results on Slide 4. Our second quarter is the first earnings checkpoint for progress in our largest Seeds and Traits market in the U.S. And underpinning our results is good translation of our early order book indicators to a strong quarter as shipments are in full swing, ahead of the spring planting in the U.S. The strong second quarter is in line with our full year outlook for the business and keeps us on track to meet our ongoing EPS target of $2.72 to $2.82. Likewise, the positive overall Ag climate has benefited our cash collections early in the season, which in combination with our focus on working capital puts us ahead of our plans and allows us to increase our free cash flow outlook to $900 million to $1.1 billion for the full year.

Ongoing EPS for the – ongoing earnings per share for the second quarter were $1.87, which is in line with our planning, as this projects to be our largest quarter from an earnings perspective in the fiscal year. That is a year-over-year increase of 10% compared with ongoing earnings of $1.70 for second quarter 2010.

For the quarter, the earnings growth came from the areas where we expected to see growth as overall gross profit increased by 10%, with upticks from both Seeds and Genomics and the Ag Productivity segment. From a percent of sales basis, the uptick in quarterly performance and lower overall cost of goods helped lift gross margins by two percentage points to 56%.

Within the Seeds and Traits business, the gross profit growth comes from global unit volume growth as well as the mix upgrade, particularly in crop platforms in our U.S. business. On a crop basis, our Corn, Soybean and Cotton platforms were all significant contributors to our year-over-year growth. The growth in those crops was somewhat offset by moderate gross profit declines in vegetables and other crops, which primarily reflects sales mix timing that we expect to normalize in the Vegetable business over the remainder of the year.

If we shift over to Ag Productivity, you'll see that we've made a change to our reporting structure, consolidating Ag Productivity operating segments into a single operating segment to reflect the evolution of the Roundup business to steady state. Pierre will provide more detail on that transition and our outlook.

For the quarter, we saw a gross profit contribution from the Ag Productivity segment as the Roundup business returned to a positive gross profit compared with this point last fiscal year, reflecting a more normalized expectation following the re-establishment of that business coming out of 2010.

Year-to-date, the solid first quarter results from our Latin American Seeds and Traits business set the stage for our early U.S. results this quarter. For the first six months of 2011, our ongoing EPS were $1.89, up 13% compared with $1.68 for the first half of fiscal 2010. On the gross profit line, we've seen a double-digit increase, with overall gross profit up a little more than 10% for the first six months. Consistent with that gross profit growth, margins were up one point for the company over this time last year to 52%. As in the quarterly look, that gross profit growth includes contributions from both Seeds and Genomics and the Ag Productivity segment.

Within Seeds and Genomics, our overall gross profit for the first half surpassed $2.8 billion, up from $2.6 billion at this point last year. Operating expenses through the first half of the year also tracked well against our full year guidance of $2.06 billion to $2.16 billion. In the first six months, our SG&A expense was $952 million, a decrease of about 6% compared with the halfway point of fiscal year 2010. R&D was higher than the prior year, as we managed more projects in the latter phases of development, but within our projections to realize our full year R&D spend of $1.25 billion to $1.3 billion.

The tax rate was 29%, which is consistent with last year's second quarter and keeps us on track for our projected tax rate of 30% to 32% for the full fiscal year. From a free cash perspective, we did raise our guidance today to $900 million to $1.1 billion on a full year basis. This increase reflects the strong economic environment across the Ag sector and the continuation of the strong start we recorded in the first quarter as we're able to translate a greater amount of our earnings into cash through better working capital management.

Through the first half of the fiscal year, free cash flow was $917 million compared with the use of cash of $89 million through the first six months of fiscal 2010. Against that roughly $1 billion in positive swing, there's a couple of factors; in part the higher year-over-year net income is one driver. The biggest swing factor comes from our focus on working capital management and the improvements we've been able to make in a number of areas, which were also augmented by some benefit of the strong economic environment in agriculture.

In terms of cash deployment, we continue to make progress against our three-year $1 billion share repurchase authorization. We spent $114 million on share repurchases in the second quarter, bringing our cumulative total purchases through the first half of the fiscal year to $381 million.

With that background on the quarter, let me hand the time over to Pierre, who will walk you through the bridge for our full year guidance.

Pierre Courduroux

Thank you, Bryan, and good morning to everybody on the line. I'm pleased to be able to join the call today, and I look forward to working with you in my new role. Given that we are at the midpoint of the year and that I've had the opportunity to look at the business fresh as CFO, I think it's useful to start by telling you how I see our business and financial performance at this point.

If I could summarize the first six months, I'd do it this way: Our objective was to achieve mid-teens earnings growth by returning to a growth mode in our Seeds and Traits business and establishing the steady-state support from our Chemistry business.

On the Seeds and Traits side, that growth has come across our key crop platforms and from mix and volume more than pure price. And this is right in line with our plan. In Chemistry, we've completed some strategic and financial cleanup that I'll discuss in more detail. But I feel good about both the earnings contribution and the reality that Roundup now helps support our Seeds and Traits growth. Just as importantly, we've driven our overall growth with discipline, which translates both in prudent spending and a focus on working capital that is generating even more operating cash.

If I could forecast the next six months, I'd look at it this way: Between our first half results and the second half earnings outlook, we are on plan. And I see the financial and operational results that reconfirm our confidence in our ability to deliver a full year earnings of $2.72 to $2.82 on an ongoing EPS basis.

With that overview, I'd like to walk you through the key elements of our guidance and financial statements on Slide 5. First, I'll start with the piece that is the most strategic, and that is Seeds and Traits. For fiscal year 2011, we expect that the Seeds and Traits business will cross the $5 billion gross profit mark for the first time, generating $5.1 billion to $5.2 billion in gross profit.

With the bulk of the 2011 Latin American seed season complete and with the U.S. shipments moving daily, we are more than halfway to our full year target and in a good position to achieve sustainable growth across our core crop platforms. I will let Hugh handle the checkpoints in our Seeds and Traits plan, but there are a couple of relevant points I'd like to make as we look at the financial outlook for the remainder of the year.

Through the first half of the year, margins in the Seeds and Genomics segments are basically flat. And in a year where we reduced prices for key traits in Corn and Soybeans, that margin resilience is a reflection of the mix benefit that is so critical to our long-term strategy. We made significant changes in our trade pricing approach, especially in our U.S. Corn and Soybeans. And the fact that those price adjustments are more than offset by upgrading to higher margin products is one of the most important things I care about as we evaluate the financial consolidation of our plan.

In the long term, our opportunity comes because each acre a farmer chooses to upgrade to higher performing products creates incremental margin. And that margin largely drops directly to the bottom line. In the near term, we expect to see that margin leap again this year even with our price reductions. As I look out to the remainder of the year and the continuing contribution from our global Seeds and Traits business, I'd expect this mix upgrade to continue and expect to see a full year improvement in the Seeds and Genomics segment margins.

Additionally, we recognize the intensity of interest and speculation about the ultimate mix of planted acres in the U.S. this year, especially in light of last week's USDA initial acreage outlook. I look at it from a pragmatic financial lens as shown on Slide 6. Our ability to deliver our mid-teens earnings growth and specifically our Seeds and Traits growth is not tied to the ultimate number of acres.

As we’ve said before, because of the balance in our business, there's only a minimal earnings difference as acres move between crops. So given what we've shipped, where the orders stand and our overall product mix, I am comfortable that however the planted acres land, we will have overall unit volume growth across Seeds and Traits.

The second area to cover is more mechanical, but it speaks to an important piece of our strategy. With this earnings report, we've made an adjustment to our reporting structure for the Ag Productivity segment, which we cover on Slide 7. Over the last year, we made fundamental changes to our Crop Protection business and in particular to our Roundup strategy. This change is now reflected in our financial statements as we've consolidated our Roundup, Selective Chemistry and Lawn-and-Garden businesses into one operating segment. This reflects the fact that we now manage crop protection as one business, especially now that our Roundup Ready PLUS program brings Roundup and our selective offerings together. We undertook this reporting change now because we'd essentially completed our restructuring. And while Roundup is still an important part of our strategy going forward, it has shifted to a less prominent role from an earnings perspective.

As we look at our 2011 plans, Roundup represents less than 5% of our total gross profit expectation. This initiates a bit of a transition period as we make this change to our operating segment structure going forward. And for fiscal year 2011, we'll continue to give you updates on our Roundup operations from a volume and price standpoint. We continue to expect to sell $250 million to $300 million total gallons at a branded net selling price of $8 to $10 per gallon.

For the first half of the year, the total Roundup gross profit is $178 million, which tracks in line with the $250 million to $300 million expectation we stated at the beginning of the year. That also lines up with the $550 million to $600 million in gross profit we expect to generate for the full Ag Productivity segment for the full year.

Our first half gross profit included the early benefits from two things: We've got strong fixed cost leverage as we ramped up our initial production to meet the demand for our branded products. And also with a good response to our new strategy, we needed less upfront discounting in dealer programs than have historically been used. Beyond that better cost effect, we are in line with our expectation for the gross profit per gallon for the first half of the year. As we sell the remaining volumes in the next two quarters, the fixed cost benefit isn't as prominent, and we expect to be in line with our $250 million to $300 million total volume in our original gross profit expectations.

The third and final area I'd mention on the P&L is the expense categories, notably SG&A on Slide 8. Included in the financial plan for 2011 is the leverage that we get as we translated double-digit gross profit increase to mid-teens earnings growth. Through the first half of the year, our run rate actually puts us slightly better than the expected full year projection as year-over-year, we'd see a bigger portion of our restructuring savings come through the first and second quarters. However, we expect higher SG&A in the second half of the year versus the first half, putting us within our anticipated full year range of $2.06 billion to $2.16 billion.

The increase in the second half comes from a couple of key drivers. We expect to use more SG&A as we gear up for some new product launches, particularly in Latin America. And we expect some normal seasonal cost within the business, including investment in our people through annual salary adjustments and typical sales commissions. If I bring each of those elements together, let me tell you how I’d write the earnings flow for the next six months, which we show on Slide 9.

The third quarter really concludes our 2011 operational plan. It should show the largest year-over-year growth of all our quarters since last year's Q3 was depressed by our one-time Roundup actions. It also represents the remainder of our earnings, and we'd expect that through Q3, our nine-month EPS would be above our full year projected EPS before expected fourth quarter loss.

The fourth quarter sets up as a larger loss this year than we've seen over the past couple of years, and this is a function of a couple of drivers. The biggest earning driver is the continued growth in Seeds and Traits coming out of Latin America. With a couple of new products moving into adoption phase in Brazil and Argentina, we expect the volume and mix momentum we've experienced in those areas to carry forward into the upcoming planting season. Against that is an expected decrease in Ag Productivity contribution.

Historically, Roundup sales have influenced our fourth quarter earnings profile. Now that Roundup is in a more steady state, the fourth quarter contribution for Ag Productivity is expected to be considerably less than it has been over the past several years. So for the full fourth quarter, we don't expect that Latin American growth to offset the decreased Ag Productivity contribution or the increase in SG&A spend I just mentioned. With normalized SG&A in the quarter, I expect an earnings loss in the fourth quarter that will track the earnings pattern we saw before the Roundup peak began in 2008.

The last piece I will cover before I hand it over to Hugh is the outlook for cash flow statement on Slide 10. As Bryan mentioned, we increased our free cash flow guidance to $900 million to $1.1 billion. The fact that we are able to increase our free cash flow guidance for the full year at this point in the year speaks to the conscious efforts we've put behind working capital management and the good economic climate in agriculture. Just as we've seen on the SG&A line, we've been through a significant amount of retooling through our restructuring, and that's having a cash benefit via working capital. Notably, we focused on improving our receivables, payables and inventories as we've streamlined the Chemistry business and taken a focused approach to our product strategy in Seeds and Traits.

Strong cash generation and a healthy balance sheet are a priority for me, and we are committed to converting earnings into operating cash. That cash is an important tool in continuing to invest prudently for growth in the business and returning value to our share owners. So we will continue to focus on cash deployment in three key categories: First, from an investment standpoint, we will continue to look at using our cash to fund growth for the business, and this includes bolt-on acquisitions to expand our commercial footprint, and also includes continuing to look for technology deals that build our R&D platform like the announcements we've made in the past few weeks with Divergence and Sapphire Energy.

Second, we are – we will also continue to prioritize returning value to share owners through share buybacks. In this area, we have continued to make discretionary buybacks under our current $1 billion authorization, and we are more than a third of the way through our total authorization amount to date.

Third and just as importantly, we believe in the value of consistently paying out a portion of our earnings to our owners as dividends and then allow you to decide how best to invest that cash.

If I step back and summarize my financial view at this point in the year, I'd tell you that I feel good about where we stand on both sides of the business. I also feel good that the operational plan is translating well into financial results. And coming out of the changes we made in 2010, I believe the business is on the right track.

At this point, let me turn the call over to Hugh.

Hugh Grant

Thanks very much, Pierre, and good morning to everybody on the line. From a business standpoint, the second quarter's a unique vantage point for us. It’s the midpoint of the year, and it straddles our all-important U.S. Seeds and Traits season. That's an even more relevant point now because we made significant changes to our product and pricing strategy in the U.S. coming into the season. While the early feedback was good, it was anecdotal. Now, we have data.

If you go to Slide 11, Pierre's take on our financial outlook at this point was we're on track with our mid-teens earnings objective. Our Seeds and Traits growth is playing out as we expected, and we've made the transition to a steady-state operating environment in our Chemistry business.

I'd add one overarching strategic thought to his summary. Coming into the year, we had an operational plan consciously built around creating value for our customers. It was a plan that was designed for growth across crops, across geographies and through a combination of mix and volume growth. Given the tempo of this year, we're right where we should be.

There's been no significant deviations to sidetrack the plan as we've rolled it out. And given the steady march that we wanted to see this year, we believe that we've the right strategy in place, and we feel very good that mid-teens earnings growth in 2011 is on track.

If I look at the key drivers of that plan, it's useful to use this halfway point and walk through how we see the results so far. So let me begin with Soybeans on Slide 12. Our clear priority in 2011 was to give farmers the incentive to see the benefits of Roundup Ready 2 Yield and accelerate the overall adoption.

With good reviews in the countryside underscoring the performance advantage of Roundup Ready 2 Yield, our intention and our pricing strategy was to lower the upfront risk so more farmers could experience the benefits firsthand on more of their acres. That means from an earnings perspective, our expectations for U.S. Soybeans revolve around the mix upgrade this year, and that's been validated in our early results.

The obvious measure is the acceleration of acres as our plan was built on more than doubling the 6 million acres of 2010 to mid-teens millions of acres of Roundup Ready 2 Yield in 2011. I wouldn't declare an absolute outcome until the seed’s in the ground and with the normal returns accounted for, but at this midpoint of the year, we have the orders and shipments in hand to be confident in our range of mid-teens millions of acres of Roundup Ready 2 Yield across our channels. That's an important ramp up that drives our Soybean contribution in 2011, but just as importantly, it sets up the continued opportunity as we look to create value for our business and farmer customers in the Roundup Ready 2 Yield upgrade.

One of the common questions that we often get at this point in the year is whether we've seen any late-season discounting. We haven't seen any as it relates to Roundup Ready 2 Yield, as the good customer responses translated to selling prices in line with our expectations. The only area really in any of the major crops where we've seen some discounting is on first-generation Roundup Ready beans. With more acres moving to Roundup Ready 2 Yield, the number of first-generation Roundup Ready acres has shrunk. Given that dynamic, some competitors are using discounts that attempt to hold on to first-generation acres, making the old Roundup Ready portion of the market even more competitive. Within our channels, we have the luxury of focusing our energy on giving customers the opportunity to upgrade to Roundup Ready 2 Yield.

So that's where we're spending our sales energy this year and where we’ll focus our efforts going forward to firmly establish the new technology platform. The U.S. opportunity will be complemented as we launch Roundup Ready 2 Yield stacked with insect protection in Latin America. We continue to be happy with the progress in Brazil, and we're working on a commercial ramp-up for a fiscal 2013 launch.

The next key strategic driver is obviously Corn on Slide 13. This is the area where we certainly made the biggest change to our product and pricing strategy. Our clear priority was to return to a growth mode, both from the standpoint of trait upgrades and overall volume growth. Core to that was the establishment of the Genuity Reduced-Refuge family, including the three products, SmartStax, VT Triple PRO and VT Double PRO. The strategic leverage in our approach is by giving our customers options, they upgrade to the next level of products, but not on a one-size-fits-all formula.

Like soybeans, the orders and shipments back this original strategy across the three products in the Reduced-Refuge family, we continue to be on track to reach our target range of mid-teens millions of acres across all channels. Maybe more important than the acre checkpoint is the response that we've got from this deployment approach, which we cover in detail on Slide 14, and the rollout of the Reduced-Refuge family appears to be tracking squarely with our early intentions.

If you look at this from a SmartStax perspective, the stronghold of interest and sales is in the 90- to 105-day geography in states like Minnesota and Northern Iowa. Not coincidently, that's where our deployment was focused, and along the ramp-up of SmartStax hybrids, this is the area that we're building out from. So not dissimilar to last year, the bulk of availability and hybrids are in this area where there's normally heavy rootworm infestation because of corn-on-corn and rootworm-variant acres.

Secondly, Triple PRO complements the Northern SmartStax build out nicely. Triple PRO is quickly being established as the first choice for refuge reduction in the south. Likewise, in the mid to long maturity areas like parts of Illinois and Indiana, Triple PRO is providing a compelling upgrade to the traditional triple stack. In these states, we don't have a lot of SmartStax hybrids in 2011. As a result, we expect Triple PRO will be the big volume product within the Reduced-Refuge family in these areas.

And then finally, Double PRO is a new tool for us to reach acres that don't have significant rootworm pressure. These acres are anchored in the West, but consistent with this strategy, we'll increasingly deploy Double PRO across all the areas to participate in the double market that has evolved across the entire Corn Belt.

So from our perspective, 2011 deployment is working as planned. The next step comes as we plan to bring Refuge-In-The-Bag or RIB to SmartStax and to Double PRO in 2012 as shown on Slide 15. So just as a quick update on that front, the EPA has had the official report from its Scientific Advisory Panel for about a month now, which is a good step forward, and it should allow the EPA to move ahead with its consideration and ultimate decision on SmartStax RIB for the 2012 sales season.

And just like in Soybeans, the Latin American opportunity in corn becomes the next strategic opportunity on an even more rapid pace. This is captured in Slide 16. With the approvals that we've received in the last several months, we'll enter a fiscal fourth quarter on the path to ramp up new products in both Argentina and in Brazil.

Just to round out the look at these drivers, I'd like to say a quick word about Cotton. Generally, Cotton has seen a bit of a revival after being displaced from the Ag landscape for the past couple of years. More importantly from our end, I think the business has shown the fruits of our investment. In particular, we promised to increase the penetration of second-generation traits and bolster the breeding of Deltapine. In a year when U.S. cotton growers are feeling pretty good, the performance in our 2011 lineup positions us really well for our planned growth. If you pair that with the strong results expected in our x U.S. geographies, like Australia and in India, we're seeing the cotton growth that we expected this year.

Against that backdrop, we feel good about where we stand relative to what were pretty major changes that we made to our approach in 2011, and that's good. If we translate all that to the practical outlook and given the step up in day to day fluctuations in grain prices that we've all seen in the last six months, the question on everybody's mind probably is, will Monsanto's product pricing follow commodity cycles or will it move independently? And I think that really gets to the heart of our long-term strategy.

It's too early at this point to make any pronouncements on specific pricing decisions, but I can describe for you our thinking. Let me start by saying what we won’t do. We won't price to peaks, and therefore, we won't make big price adjustments down when grain prices inevitably pull back. We're a technology company, and as such, the value for our customers and our business comes through innovation. And so we look at pricing as a pathway to technology adoption and upgrades.

Specifically, here's how I think about 2012, albeit at this early stage. We've momentum building in 2011, and I don't want to sacrifice that with just a year under our belt by being overly aggressive. There's pricing opportunity in 2012, but it will be moderate, not bold. The driver will be innovation, bringing newer, better products into the lineup, and we expect the annual turnover will lift the average prices more than pure inflation, but not by moves of 15% or 20%. Practically speaking, we will calibrate three factors in setting price: momentum and adoption, commodity price levels and the competitive environment.

If I've learned nothing else in the last year, it's the importance of promoting adoption. We've the best performing products, but that's meaningless unless we give farmers the opportunity to experience that performance on their farm. It would be foolish for us to dampen adoption interest by being overly ambitious on price. This consistency in approach is critical for our grower customers.

So for the products that are already on the market, our pricing moves will be largely inflationary. The real driver of value comes as the next wave of genetics and the next set of technology upgrades, like RIB, enter the portfolio and lift our average pricing.

Commodity prices influence the product pricing environment, but they don't set price directly. We expect some correlation between seed pricing to grain pricing, but really only in the longer term. Given that we price once a year, we can't price for daily volatility in grain prices. Seed prices reflect bands of commodity price, and that means our price proposition isn't going to be thrown off when grain prices pull back from today's levels. On the cost of goods side of the equation, the effect in price cuts is more direct as grain prices also establish the baseline for seed production cost. So you should see that reflected in 2012 pricing.

As I mentioned, the final component that we consider is the competitive environment. Because we have better products, we will be the price leader. Our job is to prove our performance advantage to farmers and show them how we can deliver more profit per acre than competitors do to earn the farmers' business. But we won't create such a large pricing gap that we build the runway for lower performing or lower-priced competitors.

The bottom line in all of this is we're a technology company, and our pricing approach is that of a technology company that sees their opportunity and momentum on more than a one-year horizon. And that's the perfect segue to how I see things from this halfway mark in the year.

When we bring all the operational pieces together, it puts us on track to meet our mid-teens earnings growth this year. It's still early with the vagaries of planting, of weather and the growing season ahead still to play out. But I believe that we're getting done what we needed to achieve in 2011. And that puts us in a good position for growth beyond 2011. The demand curves are alive and well in agriculture, with the fundamental need for productivity driving opportunity in this sector well into the next decade. And we're uniquely positioned because of the innovation that we can introduce into that rising demand environment.

So thanks for your time. And with that, let me turn it back to Bryan for the Q&A session.

Bryan Hurley

Thanks, Hugh. And Diego, we'd like to now open the call for questions. As we typically do, I'll ask that everyone hold their questions to one per person so that we can take as many questions from as many people as possible. You're always welcome to rejoin the queue for a follow-up question. Diego?

Question-and-Answer Session


[Operator Instructions] Our first question comes from Vincent Andrews with Morgan Stanley.

Vincent Andrews - Morgan Stanley

I'm just hoping you guys could address two things that I think are interrelated potentially. First is that deferred revenue is up substantially this fiscal quarter, year-over-year. I think it's $919 million versus about $600 million last year. And then also the corn gross profit margin was down year-over-year, which was a little bit of a surprise because you had some charges and hedge last year as well as all the winter production costs. Are those two things related, and what's driving both of them?

Hugh Grant

I'll maybe ask Pierre to make a few comments on both. I think corn gross margin was about flat year-on-year. But Pierre, deferred revenue and year-on-year margin on corn?

Pierre Courduroux

So let's address the deferred revenue first. Actually it's a great, great way to look at our cash flow performance in the first half. Because actually, the increase in deferred revenue is basically the consolidation into the accounting books of our prepays. All the prepay programs we've enjoyed this year which has been a major success and has been one of the key drivers actually for our cash flow performance in the first half. So I think this addresses the deferred revenue question. Regarding the corn gross profit margin, as mentioned in the call, I think -- so first of all, I think if my memory is correct, that the corn gross margin's flat actually. But in a year where we've reduced our trait pricing, I mean we see that as actually a very positive signal that our unique strategy is working, and that we've been able to upgrade our portfolio even while we've been actually reducing price on some of our corn traits.


Our next question comes from Robert Koort with Goldman Sachs.

Robert Koort - Goldman Sachs Group Inc.

I was wondering if you could talk a little bit about the penetration rates of Roundup Ready 2 across the Asgrow and then separately across your licensees? And then, Hugh, you mentioned more like inflationary pricing on, like products and mix shift on newer products. You want to give us any size of how much better that could be than inflation?

Hugh Grant

So first of all, considering the rough start we had on Roundup Ready 2 Yield, I'm very pleased with the feedback from the field and from my discussions with growers. Mid-teens is more than doubling. I mean we're on track. It's not done until it's in the ground, and we take account of returns. So we'll be much smarter in the next quarter than we are now. Asgrow is probably ahead, Bob, because it's the showcase or the pace car for the other channels. So as you would expect, it's ahead on the order book and ahead on penetration versus the rest, but pretty uniform endorsement this year. And when you get into mid teens, you're kind of reaching critical mass to drive velocity, so I'm -- at the halfway mark, I'm pleased. And then on pricing, I just -- it's a funny conversation because we're talking about the price of the crop that we'll plant in the spring of 2012. And we don't have the spring '11 crop in the ground yet. So this was an opportunity to talk about how we're thinking about it, maybe just a little bit more color. We'll be looking at pricing, we'll be using our germplasm. And as we deliver incremental yield through our new germplasm lineups, they will be the flagship on our price increases of where we're delivering new technology. And then an older germplasm -- our germplasm that’s in the market, our technologies that are there today, I really see that for the spring of '12 as an inflationary pricing mechanism. So maybe -- I don't know if that helps you, but I’d make a distinction between what's new and what we're carrying through from the previous year. And our goal, as it's been in '11, as I look into '12, will be continuing to drive adoption and momentum. So some of that's kind of back to the future a little bit.


Our next question comes from David Begleiter with Deutsche Bank.

David Begleiter - Deutsche Bank AG

Hugh, just on longer term beyond 2012, is the value capture model still relevant at these higher corn prices with the ultimate goal to capture perhaps half the value that you do provide farmers?

Hugh Grant

I think as we've learned the hard way, I think half was a stretch. Well let me be more direct, half was a stretch. We are creating value. We do have the best performing germplasm. We do have a front-runner advantage in our traits. But as you think about what we've started in '10, '11 and carry through '12 into '13, we've defined two new platforms in Soybeans and Corn. And as I look out at the next year with RIB coming on top of that new platform, I think there's an opportunity to capture value, the key for -- to get back to those kind of ratios. But the key for us is in demonstrating that value for the grower and really, really driving adoption and avoiding the kind of whipsaw effect of oscillation in commodity prices. We need to play through that. We are not a fertilizer stock. We need to price to the demonstrated value that we deliver on that farm. So that's the rebuild that we've started with a strategy. And I feel, early days, but I feel pretty good with what I've seen in the first half of this year.


Next question comes from Don Carson with Susquehanna International Group.

Donald Carson - Susquehanna Financial Group, LLLP

I do have a question on the inflationary cost pressures. And will you price to keep your gross margin percentage as constant? Or are you really just pricing to get a recovery in absolute dollars? And can you quantify what those pressures are? I see, for example, in the balance sheet, you've got quite a jump in grower production accruals. I assume that’s the deal with the fact you have to pay more to grow corn and soy for you this year than last. So again, how significant are those inflationary cost pressures?

Hugh Grant

I'll maybe be ask Pierre to say a few words on that. I think as I look at it as a challenge that the industry faces, and growers are very conscious of this because they're looking at exactly the same production cost as they put a seed in the ground and produce a crop. So the reality is there’s growers that are doing this for us, so they're very conversant with us. But Pierre, over magnitude or trend line or any comments on this?

Pierre Courduroux

So just a comment. When you look at the correlation in between our cost of goods sold and commodity price, definitely in the long run, there is a correlation. Now when you look at the short term and I'm talking about fiscal year '12, I mean, obviously -- first of all, we are carrying some carryover inventories into the next season. We have our factories as you know. We're hedging, like I think pretty much all the seeds company, we're hedging a lot of our production cost from one year to the other. So there will definitely be an impact on our cost of goods. I mean absolutely. But I mean thanks to the two elements I mentioned, I think we've got the latitude to smoothen some of our increases in cost of goods. So that's kind of the way we're looking at it. And in terms of the grower production accrual, I think it's more related to the sheer volume of production that we have, much more than the cost pressure, actually.

Donald Carson - Susquehanna Financial Group, LLLP

So does this mean your volumes are up significantly overall, not just for the new products?

Pierre Courduroux

So we are talking about production volumes. I mean I'm not relating here to sales volumes.

Donald Carson - Susquehanna Financial Group, LLLP

And again just the answer on the pricing, so would you expect to preserve the same percentage margin as you price to recover these inflationary cost increases?

Hugh Grant

We would -- that would be our goal, yes.


Our next question comes from Jeff Zekauskas with JPMorgan.

Jeffrey Zekauskas - JP Morgan Chase & Co

Was your soy volume in the quarter positive or negative year-over-year? And was your corn price mix positive or negative year-over-year?

Bryan Hurley

Jeff, this is Bryan. We don't break it down quite to that level. What I think you'd see is that in Soybeans, the biggest driver there is the mix benefit. And that largely comes as you get the trade up from the Roundup Ready 1 to the Roundup Ready 2. And that shows up as you see from the mix perspective. In Corn, what you have is both a unit volume and a mix benefit as we're growing both volumes and we're making the trade up in terms of new technologies and new, higher margin traits as a part of the rollout of the strategy.


Our next question comes from P.J. Juvekar with Citigroup.

P.J. Juvekar - Citigroup Inc

You mentioned, Hugh, that Triple PRO is going to be the biggest product in the refuge reduction family. Is that a change from prior thinking? I thought SmartStax would be the bigger product. Are you scaling back on SmartStax?

Hugh Grant

No, P.J., I'm sorry if that's how it sounded. That's not how I wished to portray it. I think Double PRO, with its newness for us, is going to be the smaller of the three. But I think Triple PRO and SmartStax are both going to be big dogs in this thing. So I think given availability of hybrids for us, I think you'll see SmartStax playing out in the north. That's its stronghold, and it's done very well there. In the south, you'll see Triple PRO. And the central market is going to be a fight amongst the three products. If you look at Illinois, I would expect in this coming year, we'll have two or three hybrids in Illinois that will line up on SmartStax. So I don't -- it depends where you are in the country, but I think it's Slide 14 does a nice job on spelling out how we see the market segmenting and where we see the three products playing. And then I guess the last point for us, Double PRO will anchor. It will begin in the west, but I think we'll see Double PRO spreading across all of these markets where rootworm pressure is lower or where farmers are looking for a lower entry point. No, I don't -- if that's how it came across, that was not intentional.

P.J. Juvekar - Citigroup Inc

And just can you update for us how many varieties of SmartStax and Roundup Ready 2 will you have this year?

Hugh Grant

On Roundup Ready 2 Yield soybeans, I would guess north of 200, north of 200 varieties in Roundup Ready 2 Yield. So you know where this started and it's the same in all these things. They always start low and climb. And then on SmartStax this year, we'd be aiming for somewhere in the region of 60 hybrids across the geography, but really starting in that northern environment. So big expansion, it's taken us a couple of years to get here, but a big expansion in both of those platforms, P.J.


Our next question comes from Kevin McCarthy with Bank of America Merrill Lynch.

Kevin McCarthy

Hugh, you grew corn seed sales 7% in the first half of the year. I recognize it's early, but if the USDA prospective plannings forecast of plus 4% to 5% for Corn were to come to fruition, and I take into account some positive mix effects, would it be reasonable to conclude your U.S. corn seed share is tracking stable for this coming year?

Hugh Grant

Kevin, the straight answer is I don't know. We saw the forecast a couple of days ago on 92 million acres. I'd rather wait and see what actually goes into the ground. As you know, when we get to this stage in the year and the difference between 90 and 92 is that an open spring or a wet, cold spring. So I'd rather wait and see what goes in the ground and tell you what we did than speculate on it. I think for me, as I look at it from here, the good news in this is -- I guess two points: one, we are on track to achieve our mid-teens millions of acres in both beans and corn with Roundup Ready 2 Yield and Reduced-Refuge Family, and that's kind of immaterial of 90, 92 or where that trends out. And then the other piece in this and it kind of makes it different from 2008 is I've seen some numbers that says if the U.S. plants 90 million acres, are we going to have any impact on inventory, so closing stocks? The country has to yield about 165 bushels this year. And that's a heck of a jump from the 150s we've done for the last three years. So it kind of indicates that we're going to see a continued pressure on production and commodity. So I'm more focused on what can we do in yields? Did we actually increase our volume growth year-on-year? And then we'll see where the chips land and how big the country ends up planting in the next six weeks, eight weeks, I guess.


Our next question comes from Duffy Fischer with Barclays Bank.

Duffy Fischer - ClearBridge Advisors

Three questions, but all on one theme. Can you talk about where you see Roundup-resistant weeds moving from the south north over the next couple of years? Tie into that the program you started last fall with some of the generic chemistries where you were actually trying to bundle that for the farmer to help steward some of this increase in Roundup-resistant weeds? And then take that one step further to the dual herbicides that are coming online both you and a competitor, kind of talk about how you see the competitive dynamics between the Dicamba stack and the 2,4-D stack? And what happens if they get there a year or two before you guys do?

Hugh Grant

Roundup-resistant weeds, you're right. This started in the south. We really focused in the south and the feedback from cotton growers, in particular, coming into the spring has been really quite phenomenal. So a recognition that we've jumped in and also a lot of interest in the programs. And we've been driving performance and affordability with a handful of products, and that goes to your program. Your program -- your second piece, which was how are the programs going? I mean early days because we're only beginning to spray now. But if I look at sales as an indicator, very buoyant from a standing start. So a lot of interest and a lot of growers in the south committed to using a multiple-product approach. And as you said, we've done a number of deals and agreements with a handful of producers that bring those products underneath the Roundup Ready umbrella that makes it easier for the grower to access them at affordable price points. And then the last one on Dicamba and the race for the tape. Unless something's changed, I feel pretty good about how we're lining up with Dicamba. There's obviously going to be other products there, and that's just fine if they're offering solutions. The key for us in this is making sure that we get the best possible germplasm and the best possible trait on an acre. And if -- I think like today, if we do that, then we stand a better than evens chance of winning the growers' business. The growers I've met, the back end of the year coming into the season, the mood has changed and there's been a real recognition of what we've done with these programs, particularly in the south.


Our next question comes from Mike Ritzenthaler with Piper Jaffray & Company.

Mike Ritzenthaler

My first question, I guess just a little bit of clarification on some of your prepared remarks around pricing and discount. Now we've heard probably some of the same chatter that you have about cuts in certain regions. I just wanted to clarify that, that's Corn and Soybeans, just maybe a little bit more clarification on that?

Hugh Grant

Beyond traditional, the main areas that we've seen deeper discount this year has been within Soybeans. And within Soybeans almost exclusively within our old Roundup Ready 1s and that as we've seen Roundup Ready 2s growing, the 1s market has shrunk. So we've seen a -- that's where we've seen the most intense pressure, but nowhere else.

Mike Ritzenthaler

A little bit more on the Brazil safrinha season. You didn't really talk that much about the soy product in Brazil. How did that season shape up, and what kind of addition did that add to your results this quarter? And how is that tracking with your expectations?

Hugh Grant

Yes, it's just being harvested now, I guess. Yes, we're pretty much in the middle of harvest now. The comment I was making was on the new -- there's a lot of anticipation done there on the new products. So we did an early, the prelaunch discussion Rob Fraley did a couple of months ago, the product's called Impacta. So Impacta, we still feel we're on track for fiscal year '13, and that product will be a stack of Roundup Ready and Bt in soybeans. So that's really where the heightened interest is in Brazil.


Our next question comes from Laurence Alexander with Jefferies & Company.

Laurence Alexander - Jefferies & Company, Inc.

I have just a question about, as you think about ways to offset the inflationary pressure, where does productivity play in your thinking? I mean how much of -- if you think about like a percentage of the inflationary pressure on your cost that you could offset through productivity rather than raising price?

Hugh Grant

Yes, I mean we'll continue to drive that. I think plant utilization is obviously, we got a lot of new steel and concrete. So the more we drive volume, the better we see the kicker on plant utilization. I'm very pleased, and maybe, Pierre, you can say a few words on SG&A? We run through a pretty significant restructuring, and our teams around the world have really risen to that challenge. So we had a lot of cleanup, we've seen a nice lift in SG&A. So maybe a word on that relative to productivity, Pierre?

Pierre Courduroux

Yes, so through the first half of the year, I mean we've seen very positive results regarding the completion of our restructuring plans. So we are essentially complete now with the restructuring plan itself. And what we've seen over the first six months is actually a reduction year-to-year in our SG&A that we feel really good about. Now looking into the second half of the year, obviously, we got to invest for growth. We got to go through some of the sales commissions. We're going to be facing a growth in sales commission. But overall, I think at this stage, we feel really good that we are solely on track with our forecasted increase in SG&A. So within the range of the $2.06 billion to $2.16 billion recorded early in the year, we're on track and we are really happy with what we've seen so far.

Hugh Grant

Just one other add and maybe this gets to your -- so on production, like the grower, like the industry, it's capacity utilization. It's driving yield on an acre. And the other area that we've been looking hard at is winter production or off-season production. And we will be doing our best to optimize or minimize off-season production to change our cost point as well.

Laurence Alexander - Jefferies & Company, Inc.

So would that then translate into, if you're getting pricing up a little bit ahead of inflation, you should have real pricing at around 2% to 4% in 2012, 2013 and it's a philosophical target?

Hugh Grant

Yes, so I never put a number on it. I'd love to get this -- I'd love to get the seed that's in sheds and barns right now, plant it, then come back and talk about that in the summertime or the run in to the fall. But I felt it was important in this call to give you some scope on how we're thinking about price relative to our germplasm. If you think about it, in any given year, we have turning over about 25% of our portfolio. So unlike Roundup, where it's pretty much the same year after year, 25% of our lineup is rotated or turned every year. And it's that 25% turns, we're looking at better performance and continuing to drive that performance on an acre. And that gives you the opportunity to have that price conversation. What's the grower on that 25% of your lineup? And that I think we’ll expand more on as we come through the summer and into fall of this year.


The next question comes from Mark Gulley with Soleil Securities Group.

Mark Gulley - Soleil Securities Group, Inc.

Hugh, I was hoping you could elaborate on the mix effect a little bit. You just talked about the 25% turnover. But given the fact that farmers have absolutely the highest incentives in recent memory to maximize yields, I would have thought they would be buying the absolute most elite hybrids, most highest yielding soy. Can you talk about what you're doing to -- from a production perspective perhaps, to move farmers up into those very elite categories to really seize on the mix if you're unprepared to raise prices on existing numbers?

Hugh Grant

Mark, that's a great question as we come up to the top of the hour here. That is absolutely our focus. And I think the subtlety or the learning versus seasons past this, we will absolutely -- as we're looking at production, we will be driving that as hard as we can. The reality is they’re the first ones you sell out of, so you never have enough of that elite germplasm to satisfy the demand, and that's just a biological function of how much you can make in one year. So you're dead right. We will absolutely focus on that. The flip side of this is we will be doing everything in our power to drive adoption and allow that grower to sample and see that performance on his farm. And that was a resounding message that we picked up last year, and it's proving out in the success that we see in this season and it’s something that we will absolutely focus on as we go into the 2012 spring season. But that's what we’re all about, that's absolutely our focus.

Bryan Hurley

Diego, recognizing that we're nearing the end here of the call, I'd like to save the last minute here for Mr. Grant to do a quick conclusion before we wrap up?

Hugh Grant

Thanks, Bryan. I'll be very brief. I just wanted to thank you for joining us this morning, and maybe close with a final thought about where we stand at this halfway mark in what is a very important year for our business. So coming into this year, we appreciated the importance of delivering on what we said that we were going to do. And given the financial results and a couple of our strategic milestones that we've achieved, I believe strongly that we are on plan. Just as importantly, delivering on our plan in 2011 is the first step to unlocking a couple of key catalysts in the nearer term that help us realize the opportunity created by the growing demand in the Ag sector. In the U.S., the anticipated addition of Refuge-in-a-Bag to our commercial lineup in 2012 helps accelerate the expansion phase for our trait platforms, and we discussed that this morning. In Latin America, we're starting a period of significant growth underpinned initially by the rapid adoption of corn traits, and I think this will be furthered once we bring our stack Roundup Ready 2 Yield products to a soybean market that’s very similar in acreage to the U.S. And then from there, we expect to start seeing the next wave of products coming out of our R&D pipeline, and we covered two of those three topics this morning. So while we still have work to do to conclude fiscal year 2011, I feel good about where we stand today, and I like how we’re positioned as I look beyond this year into the next season. So I look forward to sharing our progress with you, and thanks very much again for your support and for joining us today. Thank you.


Thank you. This concludes today's conference. All parties may now disconnect.

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