Trade with Commodities: Agriculture: Farmer's Picks

Green SHOOTS

In a bid to improve farm yield, the investment in agriculture has been on a steady rise globally reviving the fortunes of farm-input companies. ETIG's Ramkrishna Kashelkar and Kiran Kabtta Somvanshi advise the long-term investors to add a few such stocks to their portfolio

"AGRICULTURE is the best, enterprise is acceptable, but being on a fixed wage is a strict no-no," thus goes an old
    Indian proverb.
odern India has turned that adage on its head, and in an economy that's set to overtake China as the world's fastest growing, a high fixed wage is acceptable, enterprise is preferred, and agriculture, well, seems eminently avoidable.
    However, a grain crisis that erupted in the last few years has reinforced how central food security is to an economy, developed or emerging. The reality has dawned on policy makers that high food prices will cripple every other sectors of the economy, as consumers, struggling to put food on the table, tighten their purse strings on every other non-essential product.
    The world is today consuming more than what it makes, and massive farm-to-fuel programmes are limiting the available farmland for foodgrains. This practice is now under review in many countries ranging from the corn belt of the US to the sugar cane farms of Brazil.
    Back home, the government's investment in agriculture has grown steadily over the years and a boom in agri-commodity prices in the last couple of years means that the farmers are in a better position today to make long-term investments.
    For a long-term investor this is a good sign to invest in companies that supply key inputs to the agriculture industry. In view of this, ET Intelligence Group has cherry picked firms that could benefit from the rising demand for farm inputs and agricultural infrastructure.
    While the valuation of these stocks provides scope for appreciation, they could prove defensive bets in times of turmoil due to strong demand from agriculture segment. Food, after all, is a recession-proof business.
GROWING GOVERNMENT INVESTMENT
The direct government expenditure in agriculture has seen a sharp rise over last five years enabling better farm credit and creation of support infrastructure like irrigation (See chart).
    As a result, over last few years India has seen a spurt in the capital formation in the agriculture sector including initiatives such as irrigation projects, rural roads and communication infrastructure, sales and marketing infrastructure, production of fertilizers and pesticides, agricultural education, research and development of agricultural technology. Schemes like National Rural Employment Guarantee Scheme (NREGS) are also instrumental in improving the infrastructure in the rural areas.
THE GLOBAL SCENARIO IS CHANGING
Under the Renewable Energy Directive (RED) passed by the EU Parliament in January 2009, bio-fuel blending of 5.75% is envisaged by 2010 to be scaled up to 10% by 2020. In the US the ethanol consumption is set to quadruple to 36 billion gallons by 2022. In India also, the government has mandated a 5% ethanol blending to be raised to 10% next year.
    All this is necessitating the world to invest more in improving farm yields. This needs optimum usage of pesticides, farm nutrients including fertilizers, creation of infrastructure such as irrigation, warehousing and transportation and usage of automated processes from tilling to harvesting.
    Over the last few years, consumption of food grains has risen faster than the growth in supply. Although the higher foodgrain production in 2009 has assuaged the fears about immediate food scarcity, long-term worries remain. Most of the agrocommodities witnessed a sustained rise in prices in the last couple of years, which are currently at nearly double their 2001 prices.
    These factors reinforce a sustained rise in the demand for the farm inputs in the years to come. In fact, after a sluggish spell of five years, for the first time in FY09 the agrochemicals industry worldwide witnessed a robust double-digit growth.
    Similarly, India's fertilizer industry, which was stagnating till FY04, has picked up growth in the last five years. India's fertilizer consumption, which rose at a CAGR of just 0.6% from FY98 till FY04, jumped to a CAGR of 5.6% subsequently. For FY08, the country consumed over 20.9 million tonne of three major farm nutrients viz. nitrogen, phosphorous and potassium. Five years back, the corresponding figure was 17 million tonnes. The Potential Winners
THESE visible trends are expected to benefit the following companies. Most of those in these industries viz. agrochemicals and fertilizers are trading at price-to-book-value multiple of around 2 and price-to-earnings multiple in a single digit figure.
    United Phosphorous is India's largest pesticides manufacturer with over half its revenues coming from overseas markets. Over the last few years, the company has expanded its geographical footprint through a series of acquisitions, thereby safeguarding itself from the monsoon-led seasonal fluctuations in Indian market.
    Rallis India, which is part of the Tata Group, is another strong contender from the pesticide sector. It is one of the leading players in the domestic market and has seen turned around in the last 5 years and is now on a strong growth footing. The company is making targeted efforts to grow its exports, expand capacities and introduce new products periodically to sustain future growth.
    Tata Chemicals is one of India's leading manufacturers of urea and di-ammonium phosphate (DAP), with nearly half of its revenues coming from fertilisers. The company has recently expanded its urea capacity by 25% through debottlenecking, which is fuelled by natural gas.
    Chambal Fertilisers is India's largest urea producer in the private sector with a capacity of 1.73 million tonnes per annum. The company, which saw its profits wilt between FY05 and FY07, has recovered subsequently.
    Coromandel Fertilisers, which is part of the Murugappa group, is India's leading manufacturer of phosphatic fertilisers.
    RCF, the government-owned fertiliser company, was stagnating between FY99 and FY04, but has picked up steam over last few years. The supply of natural gas is expected to keep it firmly on the growth path in the years to come.
    Although all the fertiliser companies in India today market micronutrients and water soluble fertilisers to the domestic farmers, Aries Agro is the only listed company fully focussed on this niche business. The demand for these essential soil-enriching products is expected to rise at a double-digit rate in India in coming years.
    Companies in the production of seeds, one of the key agri inputs, also have good prospects. Advanta India, which shares its parentage with United Phosphorous is India's leading seeds producer, with global operations in seeds and leadership position in crops like sunflower, sorghum and sweet corn. This company, too, has been on an acquisition spree, acquiring Hyderabad based Unicorn Seeds and US based Garrison and Townsend in 2008 to expand product portfolio and geographical reach.
    One of the largest areas of public expenditure in agriculture is on irrigation projects. Companies like Patel Engineering and IVRCL Infrastructures and Projects have bagged some of the largest irrigation projects in the country.
    Any incremental spending in this area is likely to be positive for such companies. Companies like Jain Irrigation, the manufacturer of pipes, irrigation systems and such other farm equipment; Kirloskar Brothers, the manufacturers of pumps and pumping systems and Mahindra & Mahindra, one of the world's largest tractor manufacturer are the obvious contenders to benefit once a boom sets in in the farm sector.
    DCM Shriram Consolidated with business interests in sugar, fertilizers & chemicals, seeds and rural retailing (through Hariyali kisan retail stores) is also a good bet due to its varied businesses being closely associated with the farm sector.
CONCLUSION
A widening demand-supply gap and consequent high prices are
    helping the agriculture industry the world over to hike its ability to investment in the future.
    In India, the government-lead efforts have provided the necessary impetus to the domestic agriculture industry. These trends are likely to strengthen in the years to come as the food demand continues to grow in line with the global economic growth. The struggle to extract more out of the same piece of land year after year is set to generate more demand for various types of farm inputs, which augurs well for the producing companies. Long-term investors must include these stocks in their portfolios.
    Ramkrishna Kashelkar & Kiran Kabtta Somvanshi With inputs from Pallavi Mulay