Genetically Altered Profits Monsanto's Rich Harvest

Forget the 'ag' label -- its genetically altered seeds have helped quarterly earnings to nearly triple and share prices are tracking the rise of oil.

Monsanto has been making a killing lately.

Monsanto has been making a killing lately.

Monsanto's profits are growing like kudzu. The St. Louis producer of genetically modified seeds has been a prime beneficiary of the growing demand for food and alternative fuel sources. Farmers around the world, but particularly in the US, Argentina, and Brazil, are planting more of Monsanto's seeds, most of which are genetically engineered to resist herbicides and repel bugs.

The company's first-quarter earnings nearly tripled, from $90 million to $256 million, thanks in part to strong early planting season results from Latin American markets. Sales for the period rose 36 percent, to $2.1 billion. The numbers blew past consensus estimates from an already very bullish set of Wall Street analysts, and Monsanto raised its full-year guidance. The stock jumped more than 8 percent in trading on Jan. 3, closing at $120. And that was after investors had already enjoyed quite a ride: In 2007, Monsanto was one of the best-performing members of the Standard & Poor's 500-stock index, rising 115 percent.

In Tandem with Oil

It's probably no surprise that Monsanto, as a huge player in the seed market, has performed so well as crop prices have skyrocketed. In a conference call with analysts on the morning of Jan. 3, Monsanto Chief Executive Hugh Grant said that "the need for the big row crops (corn, soy, and wheat) is as great as it's ever been." Stockpiles of those crops are hovering near 30-year lows, and demand for grain is growing, especially from countries such as China, Grant said.

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But what's more curious from an investor's perspective is that Monsanto's share gains have been very closely correlated with a runup in a different commodity -- namely, crude oil. Over the past year, Monsanto's share price has a correlation with crude of 0.94 (1 is the highest possible correlation). By comparison, over the same period, shares of energy titan ExxonMobil, which produced about 2.5 million barrels of oil each day in 2007, only register a 0.84 correlation with crude prices. What's more, Monsanto's stock correlation with the price of corn, its most important product, is a scant 0.17.

That explains trading days like last Nov. 12, when Monsanto shares dipped more than 7 percent. The giveback could very well have been a product of profit-taking; shares had been given a bump in the prior session by an upbeat forecast. But oil and other commodity stocks also dipped that day, as OPEC considered a boost in supply.

Statistical Fluke?

What's going on? Clearly, booming demand for ethanol has provided a huge tailwind for agriculture companies and is a major reason why supplies are dwindling for corn and other grains. As more grain gets swallowed up to make biofuels, less of it is left for traditional food production. That tends to lift prices. "For sure, what's gotten the whole (agribusiness) industry raging is corn ethanol," says Charlie Rentschler, an analyst at stock research firm Wall Street Access. "It's the match that lit the bonfire." But his buy rating stems from the company's core markets, and he thinks the link to oil is a "diversion."

Indeed, some analysts are inclined to see the correlation between Monsanto shares and crude prices as a statistical fluke. "It's probably a happy accident," says Mark Gulley, an analyst at Soleil-Gulley & Associates. Many of the same factors have propelled prices of all manner of commodities, Gulley says. On a day-to-day basis as well, Monsanto shares and oil are often out of sync; on Jan. 3, for instance, oil prices fell slightly while Monsanto shares spiked. It's also worth noting that for all the attention paid to ethanol these days, the vast majority of Monsanto corn gets processed into animal feed.

On the other hand, perhaps biofuels have played more of a role in Monsanto's share price than previously thought. Company executives point out with pride that their stock does not move in sympathy with other agricultural commodities. "We don't want to be the cyclical ag play -- we haven't been," Monsanto Executive Vice-President Carl Casale told BusinessWeek in October. He's right. But could Monsanto be a cyclical oil play? With the price of a barrel of crude topping $100, that's not such a bad position to be in.

Hindo is BusinessWeek's Corporate Strategies editor in New York.


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