Investments in megatrends account for the largest theme within the non-indexed portion of my portfolio. Megatrends are the challenges we will face over the next 10 or 20 years -- trends like the revolution in U.S. energy production and the demographic changes from aging baby boomers. These long-term trends are durable and take the impetus away from forecasting quarterly or even annual earnings for companies that can ride the wave to higher profits. The companies benefiting from these trends can be investments you can feel comfortable holding for decades.
Malthus: a great mind but off by nearly 300 years
One of the strongest trends I have been following is the problem of feeding the world's increasing population. In his best known book written in 1798, economist Thomas Malthus wrote, "The power of population is so superior to the power of the earth to produce subsistence for man, that premature death must in some shape or other visit the human race."
A pretty dire prediction, but fortunately we have yet to experience the massive famine scenario Malthus wrote of. But that could be changing.
The United Nations has projected that food production will need to double by 2050 to avoid scarcity and heightened food security problems. Since we really are not increasing the amount of arable land in production each year, crop yields will need to increase at a rate of 2.4% annually over the next four decades.
An annual increase of 2.4% is not intimidating until you consider that yields for staple crops have increased by just 1.2% annually over the nearly 50 years to 2008. Worse yet, researchers at the University of Reading estimate that crop yields could fall by as much as 12% by 2025 on volatile weather patterns and global climate change.
Before you start hoarding canned food, there is one way we can yet avoid a Malthusian catastrophe. The chart below shows the connection between nutrient application and crop yields across five agricultural areas.
The correlation is undeniable, and the only way we are going to avoid a worldwide food shortage is to increase fertilizer usage in agriculture. This is good news for all the companies in the space, but one company stands out on compelling value and a strong dividend.
Value, dividends, and growth all in one company
Agrium Incorporated (NYSE: AGU) is the largest nutrient retailer in North America and has 1,400 facilities in seven countries. Beyond its retailing strength, the company is also a major international wholesaler with sales in North & South America and in Europe. Agrium is the fourth largest producer of nitrogen in the world and the third largest producer of potash in North America. http://www.agrium.com/includes/Investor_Day_2013_-_Consolidated_Presentations_Final.pdf
Management has been focused on diversifying operational earnings over the last decade. In 2005, the nitrogen and potash wholesale segments accounted for a combined 77% of EBITDA. By 2013, the two segments account for just under half (48%) of operational earnings with the retail and crop protection segments accounting for another 43% of EBITDA.
Beyond the longer-term growth story behind nutrient producers, historic droughts in key markets may drive sales in the near term. While drought conditions in the Midwest United States are easing, California is still facing critical conditions. Brazil is experiencing its worst drought in more than four decades, and forecasts for the El Nino weather phenomenon may make problems worse across the region. Prices for coffee have surged 67% on poor growing conditions while sugar and soybean prices are both up 8% since the beginning of the year.
Among six companies in the peer group, Agrium has the lowest enterprise value-to-sales multiple of 1.0 versus the group median of 3.4 and the second lowest price-to-earnings multiple at 14.3 versus a median of 20.2 trailing earnings.
On the median multiple for the group, shares of Agrium are trading at a 40% discount on a price/earnings multiple and a 340% discount on an EV/sales basis.
Not only is the company a long-term secular growth story and a terrific value relative to peers, but management has made the commitment to return cash to shareholders. The company has tripled its dividend over the past two years to $3.00 per share and pays one of the higher yields in the group. Almost $1.4 billion in shares were bought back over the last two years, and management intends to return 25% to 35% of free cash flow to shareholders.
The megatrend to food scarcity puts Agrium on my radar for potential growth while its value relative to peers and strong dividend yield puts it firmly in my portfolio. The shares may be volatile around crop production reports, especially as recent production seems to limit the need for nutrients and higher yields, but longer-term drivers will eventually play out and the stock should provide a strong return.
