Is Corteva Stock a Buy Right Now?

The stock of agriscience company Corteva (CTVA -0.04%) is a battleground. Actually, it's a near-term battle on two fronts. Not only is there debate around the company's ability to meet its earnings targets, but there's also a concerted attempt by activist hedge fund Starboard Value to change the management of the company. That said, the long-term prospects look very good, but are the long-term prospects for this company worth overlooking these short-term fights?  Let's take a closer look.

The investment case for Corteva stock

Corteva is a company created out of the DowDuPont merger. DuPont's agribusiness generated 70% of its revenue from seeds, with crop protection products making up the rest. Meanwhile, the Dow business was 80% crop protection and 20% seeds and traits. Put together, the Corteva business is 55% seeds and traits and 45% crop protection.

The case for the stock is based on the idea that significant structural cost savings (closing manufacturing plants and rationalizing the supply chain) can be generated by the merger, alongside productivity enhancements such as improving IT systems.

Image source: Getty Images.

In the long term, Corteva also has an opportunity to improve margins by increasing the portion of sales coming from products under its own patents, thereby reducing the royalty payments it has to make to other companies.

For example, Starboard points out that Corteva generated $7.6 billion in sales in its seed segment in 2019 with a 20.2% earnings, before interest, taxation, depreciation, and amortization (EBITDA) margin of 20.2% so EBITDA was around $1.54 billion. However, it had to pay around $560 million (7.4% of seed segment sales) in royalty payments. Clearly, there's an opportunity to cut the share of sales going in royalty payments by introducing/ramping sales of its own patented products.

A good example of Corteva's own technology would be its Enlist-branded soybean seeds and crop protection system. These are complementary products because the soybean traits are resistant to the herbicides (crop protection), meaning the latter can be applied to control weeds and improve soybean yield. Corteva management believes Enlist soybean seeds can reach 50% of the market because of their resistance to Enlist herbicides, as well as BASF's Liberty (glufosinate) and Bayer's Roundup (glyphosate).

Meanwhile, the seed's main rival, Bayer's Xtend, is resistant to Roundup and Bayer's Dicamba. However, Dicamba is seen as problematic due to its tendency to drift and damage non-resistant crops in neighboring fields. That's something that could give Enlist a competitive edge provided its yields match up to Xtend's in the field.

Putting it all together, management believes it can improve earnings before interest, taxes, depreciation, and amortization (EBITDA) by 12%-16% a year from 2019. It's a target laid out at the end of 2019, and CEO Jim Collins recently affirmed it during the fourth-quarter earnings call in early February.

There's a problem

Unfortunately, by management's own admission, company performance hasn't been what it could have recently. As such, hitting its earnings targets will not be a walk in the park. For example, on the recent earnings call Collins said "I am not satisfied with our relatively flat earnings over the past three years."

He went on to say, "We recognize that our 2020 performance was not where we need to be in terms of realizing the full operating leverage from organic growth and productivity programs in our earnings."

Indeed, the performance means management needs to increase EBITDA by around $360 million in 2021 and $500 million in 2022 just to make the midpoint of its guidance.

Data source: Corteva presentations, author's analysis. *Based on recent full-year 2021 guidance. **Based on midterm guidance.

This performance hasn't escaped the interest of Starboard Value, which made an initial investment in Corteva in 2019. Indeed, in a letter to Corteva's board in January, Starboard CEO Jeffrey Smith expressed his "increasing dismay as management continues to take credit for achieving ever-increasing synergy milestones without consequent improvement in profitability." Smith went on to describe Collins' tenure as "incredibly disappointing" with a track record "littered with missed expectations and promises."

What's needed now

Clearly, management is under some pressure, and Wall Street analysts have Corteva's EBITDA at around $2.81 billion in 2022 -- a figure just above the bottom of the implied guidance range.

A soybean field. Image source: Getty Images.

Collins argues that the productivity and manufacturing savings will start to kick in for the crop protection operations in 2021, while on the seed and traits side Corteva should see strong demand from an improving market.

Meanwhile, Collins expects a "noticeable improvement in net royalty expense" as Corteva ramps up sales and increases the share "of those sales that are in Corteva germplasm." In particular, the Enlist system is seen as leading a shift toward Corteva's proprietary-based sales. That will be good for profit margin and therefore earnings growth

Is Corteva a buy?

The case for a significant improvement in earnings is compelling, even if it's at a level that won't satisfy Starboard Value. Meanwhile, the recent earnings and market commentary from Deere confirms an improving environment for U.S. crop farmers. As such, Corteva looks set for a strong 2021, and the potential to grow Enlist sales and reduce royalty payments is significant. 

If you are willing to tolerate some potential volatility in the event Corteva has to walk back its midterm guidance and Starboard continues to agitate, the stock remains attractive for long-term investors. Trading on less than 20 times estimated 2022 earnings and with significant potential for long-term growth, with or without Starboard, Corteva looks like a good value.