Long-term investor Jim Rogers has long been touting the benefits of farmland investment. Unfortunately, for most investors unless you're willing to do the research, or even buy farmland yourself, opportunities to invest directly in farmland are limited. Still, as an indirect play on the industry John Deere (NYSE:DE) is a great pick; the company is well diversified and even has its own financial arm to help customers finance the purchase of equipment. If you want a direct play on the industry you could look to Adecoagro (NYSE:AGRO) and Cresud (NASDAQ:CRESY), although this direct investment comes with significant risk.
Relatively low-risk Brazil
Nevertheless, Adecoagro is more than 20% owned by George Soros' Soros Fund Management, which gives investors some peace of mind. George Soros is known for his well-timed value investments, and his holding in Adecoagro could be indicative of his belief in long-term farming trends.
Adecoagro buys, develops, farms/operates, and occasionally sells farmland. The company farmed 217,000 hectares spread across multiple farms in Argentina, Brazil, and Uruguay, yielding corn, soybeans, rice, wheat, sunflowers, and sugarcane for the nine months ending September. It also raises cattle for meat and dairy.
Much of Adecoagro's farmland is used for the production of sugar cane for ethanol and energy production, and with most of Adecoagro's farmland in Brazil, the company's devotion to ethanol is well founded. Indeed, ethanol powers around 50% of Brazil's vehicles.
Brazil's demand for ethanol is still growing, so Adecoagro is ramping-up its ethanol production, recently opening its third crushing mill in Brazil and adding about 40% to the company's annual crush capacity. Management has stated that it wants to add a further 4.3 million tons to crushing capacity by 2017, up from the current 7.2 million tons. Moreover, as the company farms sugar, Adecoagro is vertically integrated and if the price of sugar becomes attractive, it can just sell the raw commodity instead.
High-risk South American play
Sadly, Cresud's recent results highlight the principle risks of farmland investment; volatile earnings, and unpredictable weather.
Cresud is based in Argentina so it reports in pesos, which have been unstable to say the least during the past few years. What's more, official figures also place Argentina inflation at around 10.5%; it is likely that the unofficial rate is higher than this. So, as well as unpredictable weather patterns and erratic commodity prices, Cresud is also have to operate within an unstable political and economic environment.
With all these pressures weighing down on Cresud the company is struggling. For example, the company recently reported fiscal first quarter results, which showed that droughts pushed up the feeding costs for cattle and have affected the yields from some farmland.
In addition, the company's grains and sugarcane segments saw a fall in the fair value of biological assets due to the prior recognition of higher yields than those actually recorded. In effect, the company harvested less than it thought it would. As a result, the company's fiscal first quarter year-on-year operating income fell 8.4%.
A safer alternative
This kind of earnings volatility is something that Deere has gone some way to mitigating, through both diversification into the construction and timber markets, as well as starting a financial services arm.
Nevertheless, Deere's outlook is still tied to the fortunes of farmers. In particular, if crop prices are high then farmers make money and spend it upgrading equipment. Unfortunately, this year a number of record crops are expected across a number of commodities and this oversupply is weighing on prices. As a result, it is unlikely that Deere will have a good 2014. Indeed, the company has already forecast that worldwide sales of agricultural and turf equipment are forecast to be down about 6% for full-year 2014.
However, Deere also has its financial services division, which helps farmers finance purchases of Deere's equipment and provides crop insurance. For full-year 2013, income from this division is expected to be $560 millio; this will actually be around 10% of Deere's operating income for the period. Margins on this side of the business are much more impressive.
Overall, I feel that there is value to be gained from farmland investment over the long-term. However, you need to be careful where you place your bets and beware that it's not always going to be a smooth ride. If you can stomach the risk and volatility, then Cresud and Adecoagro could be great bets. If not, perhaps Deere is your best choice.
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Fool contributor Rupert Hargreaves has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.