It's no secret that the market is stressing about economic growth prospects right now. Investors are also worrying about surging inflation and supply chain difficulties making it hard for companies trying to source products/components to execute on their backlog. It's a difficult environment and investors need to prepare for the possibility of a slew of earnings downgrades in the coming earnings season. In this context, it makes sense to look at stock in an agriscience company like Corteva (CTVA -0.11%).
Rising rates choking consumer demand, high inflation eating into costs, supply chain shortages -- this seed and crop protection company is not completely immune from these challenges. In fact, it had $200 million in input and logistics cost headwinds in the second quarter. However, based on its first-quarter earnings, Corteva is better placed than most to deal with these pressures.
Here's why its recent earnings helped confirm it as a good option in the current environment.
1. Pricing power and margin expansion in the face of rising costs
First, strong end market fundamentals mean that Corteva was able to increase pricing by 9% in the quarter. On the recent earnings call, CFO Dave Anderson said, "Pricing and productivity more than offset this expected impact as well as an approximate $160 million currency."
In fact, operating earnings before interest, taxation, depreciation, and amortization (EBITDA) margin expanded to 22.6% from 21.7% in the same quarter last year. Corteva's pricing power comes partly through its ability to ramp up sales of new crop protection products (up 60% in the quarter). In addition, management is undertaking ongoing productivity actions -- $80 million worth in the first quarter.
2. Great end market fundamentals
Second, Corteva has good end market fundamentals. Food is an essential item and not a discretionary item that consumers cut back on when interest rates rise or job security is threatened. Moreover, a simple look at a price chart for key crops shows how strong crop prices are right now.
Data by YCharts
3. Farmers' income is soaring
Third, the high crop prices are leading to strong income expectations for farmers. CEO Chuck Magro noted on the earnings call: "[T]he predictions are that this year would be a record revenue year for U.S. farmers. And I believe the second most profitable in the last decade." That kind of commentary is excellent for Corteva. While higher farm incomes might appear to be a given with where crop prices are, it's worth noting that farmers are also suffering significant cost inflation, so the viewpoint that it will be a highly profitable year is important.
4. Corteva continues to make structural improvements to its business
The company faced criticism from hedge fund Starboard Value for failing to deliver on the substantial cost synergies that investors expected when the company was created -- the result of a merger by Dow's and DuPont's agribusinesses. Magro, who was appointed CEO in November 2021, continues to restructure the business. I've already mentioned the $80 million in cost savings in the quarter, and he reiterated that more improvement could follow. "We are moving from a matrix organization to a global business unit model to drive overall simplicity and speed of business while increasing accountability," he said.
This is a sign that management is implementing changes to improve underlying profitability.
5. Margin expansion is coming
Last, and definitely not least, Corteva is making strong progress in selling more products that use its own patents. Doing so would mean Corteva can save money on royalty payments to other companies in order to use their technology. Agriscience companies like to sell seeds and crop protection (herbicides) as part of a system. The seeds have resistance to the herbicides.
Corteva is making strong progress with one of these products, Enlist, with Magro saying: "[W]e expect 40% of the U.S. acres to be on that platform. And that will set us up nicely next year for meaningful royalty reductions in 2023."
He later told investors, "We're over 80% treated with the Enlist herbicide, so really high utilization." As such, Corteva's long-term margins should be in expansion mode as its new products and own technology products like Enlist expand sales.
All told, there are a lot of reasons to like Corteva, and most of them don't depend on the economy. That's a major plus right now, and the recent fall in the share price has made the stock more attractive for investors.
