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Adecoagro S.A. (AGRO) Initial Opinion

Market Intelligence for Superior Returns
Michael Fritz 312-725-0559
Adecoagro S.A. (NYSE:AGRO)
South American Integrated Farming Play
Total Offering:
28,571,000 (26.2%) Comprising 22,428,571 primary common share offering and 7,142,857 common share secondary offering by stockholders whose average acquisition cost is $1-$2.30/share.
Al Gharafa Transaction:
7,440,476 common shares (at an assumed price of $13.44 per share, reflecting the price paid by the underwriters in this offering assuming the mid-point of the share price range.
Offering Price Range:
Implied Deal Size:
$371.4 million to $428.6 million
Over Allotment Option:
4,285,714 common shares to underwriters.
Use of Proceeds:
$283 million to $441million in net proceeds to AGRO based on midpoint of price range. AGRO intends to spend $230M to build out Ivinhema sugarcane processing plant; $145M to acquire farmland and other capital expense to expand farming business; $99M to selling stockholders.
Expected Pricing Date:

Initial Opinion: Avoid IPO/Consider opportunistic purchases after clarity on restrictions against foreign ownership of Brazilian farmland.

Continued uncertainty over restrictions on the purchase or leasing of Brazilian farmland by foreigners could negatively impact AGRO business plan and expansion in Brazil, which represents 63% of company assets and 50% of sales.

Principal Shareholders:
Pampas Humedas LLC, (34%), affiliate of Soros Fund Management; HBK Investments (26%); Netherlands’ pension fund Stichting Pensioenfonds Zorg en Welzijn (13.5%); Ospraie Management (11.7%); Al Gharrafa Investment Co. (6.6%), a unit of Qatar sovereign wealth fund Qatar Holding LLC.

Additional Share Subscription:
If the gross proceeds of the IPO are greater than $400 million, Al Gharrafa will buy another $100 million in stock. If the gross proceeds are less than $400 million, Al Gharrafa will buy stock equal to 25% of the gross proceeds.

Company Description:
AGRO owns 678,692 acres of farmland. (300,778 acres farmable; 196,803 acres of pasture and two cattle feedlots, encumbered by 10-year lease to Buenos Aires beef processor QuickFood SA; 46,724 raw acres being evaluated for development into cropland)
Luxembourg domiciled. South American farming company founded in 2002 and based in Buenos Aires, Argentina. AGRO operates in Argentina, Brazil, and Uruguay; For nine months through 9/30/10, AGRO booked $279 million in sales, posted $119 million pre-tax loss.

Business lines:
Argentina-based integrated rice production and processing operation.
Brazil-based sugar/ethanol/energy
Row-crop farming (soybeans, corn, wheat, sunflower, cotton in Argentina, Brazil and Uruguay)
Brazil-based integrated coffee operation.
Argentina-based 4,500-cow dairy (annual milk production 12.5 million gallons)

Our chief concern centers on last year’s re-enactment of a 1971 law that limits foreign purchases and leases of Brazilian farmland to 25% of the rural land in a municipality. In addition, individuals or corporate entities of the same foreign country cannot own more than 40% of this 25% limit. Purchases or leases of rural land greater than 100 MEI (modulo de exploração indefinida; the size of a MEI varies according to the region of the Brazilian territory.) must be approved in advance by the Brazilian National Congress. In addition, all land transactions by foreigners must be approved by a federal entity—the National Institute for Colonization and Land Reform (INCRA). Acquisitions of rural land in violation of these restrictions are considered null and void. For more background on this law, see article by Roberto R. Soares da Silva

Initially, observers believed talk of re-enactment of the limits on farmland purchases by foreigners was simply electioneering rhetoric in the run-up to the presidential elections. But subsequent developments have created uncertainty for foreign investors.
Land Transformation (clearing; boosting fertility, improving soil tilth for crop production)

Recent Events:

7/13/10 – Brazilian Justice National Council ordered local State Notary and Real Estate Registry Offices to follow the restrictions of the Brazilian law on the acquisitions of rural land by Brazilian companies with foreign equity holders.

8/19/10—Attorney General’s Office published new opinion confirming that Brazilian entities controlled by foreigners are subject to the ownership restrictions.

8/23/10—Attorney General’s Office opinion ratified by President of Brazil and became binding.
AGRO believes acquisitions of farmland by Brazilian companies controlled by foreigners and properly registered before 8/23/10 will not be affected by this binding opinion.

However, future acquisitions and leasing of Brazilian farmland will be subject to these restrictions, and will require several additional layers of review and approvals which could be discretionary, burdensome and time consuming. This could impact AGRO’s stated goal to expand sugarcane planting to 296,520 leased acres by 2016, from 99,791 acres now.

The Brazilian National Congress is considering additional legislation that could further limit and restrict AGRO’s investments in Brazilian farmland and strain its ability to expand its Brazilian operations.

Uncertainty over these restrictions is playing out in the marketplace. Late last year, Brazilian farming company SLC Agricola SA (SLCE3.SA) postponed plans to create an agricultural property company dubbed ―andCo‖and sell a stake to foreign investors. LandCo was patterned after Cosan SA’s 2008 farmland prospecting and development venture Radar Propriedades Agrícolas S.A., 81% owned by New York retirement fund manager TIAA-CREF.

In addition, earlier this month, Brookfield Asset Management, Toronto, announced it had raised $230 million in outside money for its Brazil Agriland Fund, well under its $400 million target. Brookfield reports that the foreign landownership restrictions raised concern by some investors.
SLC Agricola reports that large players in the Brazilian land believe that the Brazilian government still needs to vote an amendment to the constitution to clarify the legal status of the foreign ownership restriction. Until this happens, foreign investors will remain cautious.

SLC Agricola says it aims to proceed with its LandCo deal in mid-2011. Company management recently told us that LandCo itself will not be subject to the land ownership limits, since LandCo will be controlled by Brazilians and SLC Agricola, a national company, will own a majority of the shares.

But SLC Agricola concedes that potential investors are concerned about the end game—who will LandCo sell the land to after it is fully developed, if foreigners are restricted under the land ownership laws?

Operationally, SCL Agricola reports that some local Land Registry Offices are not computerized and many lack the resources to confirm if the acquisition of farmland by a foreign entity is allowed under the ownership laws. As a result, if Registry Office staff has any doubt about the ownership of the fund and/or company (as to whether it is Brazilian or foreign), they simply do not approve the transaction.

SLC Agricola reports that land prices in Brazil have continued to go up (and the liquidity to go down). The fundamentals remain the same: The world will need more land to plant on, regardless of these restrictions.

So what we need to see (and hopefully this will come in the following months), says SLC Agricola, is the formalization of these restrictions, and how exactly the Registry Offices are going to monitor ownership (by mapping how much of the land is in the hands of foreigners).

If that proves to be impossible or too much of a burden, SLC Agricola says legislators will have to revise the issue.
 Significant exposure to politically unstable Argentina in which crop and livestock operations generate 48% of revenues. Argentina is the poster child for risk in emerging market agriculture.
 Execution risk in expansion of integrated sugarcane production, milling and ethanol refinery in Brazil. AGRO plans to double sugarcane crushing capacity.
 Significant 33% initial dilution based on midpoint $14/share IPO price.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.