America is an agricultural juggernaut.
The United States has more arable land than any other nation on the planet and some of the highest crop yields per acre. However, only 20% of the country's land area, about 408 million acres, is used for crop production. With this combination of amazing efficiency and the lack of capacity utilization, it's clear that U.S. agriculture is a growth industry.
Seriously, agriculture has been an American growth industry since Squanto taught the pilgrims how to grow corn. But there's real money to be made now.
Outside of raw farmland -- which has actually seen some bubble-style price expansion over the past few years -- the best way to cash in on the American Renaissance in agriculture is by owning the three D's of American agriculture: chemical manufacturers Dow Chemical (NYSE: DOW) and DuPont (NYSE: DD), and equipment king Deere & Co. (NYSE: DE). All three names offer exceptional growth and value.
Dow: Consistent Growth, With More To Come
Since the market bottom of 2009, investors in DOW have been well rewarded. Not including dividends, the stock has produced an average annual return of 160%:
While some observers might think that the stock chart looks tired, Dow's underlying fundamentals remain strong and are becoming stronger. Shares currently trade around $45, have a forward price-to-earnings (P/E) ratio of 15.6 and pay a dividend yield of 3.3%.
The company has been executing well: Fourth-quarter earnings came in at $0.65 a share, beating expectations of $0.42 by over 50%. Dow is also raised its quarterly dividend by 15% and tripled its stock buyback authorization, from $1.5 billion to $4.5 billion. Management is also focusing selling non-core assets, with the proceeds to be used to support the buyback program and pay off debt.
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When combined with dividends and buybacks, debt paydowns form what my colleague Nathan Slaughter calls a "total yield" strategy, which, according to our research, beats the market (and traditional dividend-only investing) hands down.
Two of Dow's main growth drivers are its agricultural sciences and feedstock divisions. Combined, these segments represent nearly $17 billion, roughly 30% of Dow's annual revenue of $57 billion. Sales in the agricultural sciences division grew 12.7% last year, to $7.1 billion, and are expected to grow at an average annual rate of 15%, to over $9 billion by 2016.
In contrast, the feedstock business stumbled in 2013, with sales falling 8% from the previous year. But analysts expect improvement over the next two years, forecasting an average annual growth rate of 11% and sales of nearly $11 billion in 2016. With double-digit growth rates expected from 30% of the company's business mix, investors can expect good things out of Dow's stock.
DuPont: Buybacks And A Possible Spin-Off
DuPont's story is similar to Dow's. The underlying fundamentals within the business are on firm footing, with the agriculture and nutrition division contributing 32% to DuPont's annual sales of $35.7 billion. The division's sales grew an impressive 13% last year, to $11.7 billion, and are expected to climb to $14.4 billion by 2016.
|Courtesy of DuPont|
|Plans are being made to spin off the Dupont's performance chemicals business.|
In DuPont's most recent earnings report, management emphasized its goal to steer the business from lower-growth commodity-based products toward higher-growth areas such as agriculture and nutrition.
DuPont's companywide numbers should be attractive to shareholders. For 2013, DuPont posted earnings per share (EPS) of $3.88, a small increase from $3.77 a share in 2012. The forecast for 2014 is much brighter with EPS estimates of $4.33, a 12% increase.
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Management appears committed to returning value to shareholders. Plans are being made to spin off the company's performance chemicals business. A $5 billion share buyback plan has been approved, with $2 billion worth of stock expected to be repurchased this year.
Currently, the stock trades with a forward P/E ratio of about 14 and pays a dividend yield of 2.9%. Based on the company's strong track record, investors should be well compensated over the long haul.
Deere: Strong Brand, Cheap Stock
The name "John Deere" and the company's trademark green and yellow tractors are synonymous with American agriculture. It's hard to argue how effectively Deere & Co. has made the most of its brand. Beyond its core business of selling heavy agricultural equipment, the company has extended its reach with consumer-targeted products such as smaller tractors for the hobbyist farmer and all-terrain vehicles for the outdoors market -- even licensed apparel such as T-shirts, caps, boots and other pop culture goods.
Deere has had an incredible run over the past five years, but the stock has moved sideways for the past six months mainly due to concerns over soft economic conditions in emerging markets, one of the company's major growth drivers.
Deere beat analysts' fourth-quarter expectations handily, turning in EPS of $2.11 compared with estimates of $1.89. However, the company is cautious about 2014, expecting sales in North and South America and Europe to be off between 5% and 10%. But Deere is optimistic about sales trends in Asia and expects sales in the turf and utility division to grow by 5%.
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Additionally, although Deere is keeping expenses on a tight rein, it is investing in cutting-edge research and development in what is known as precision farming. Recently, Deere teamed with Dow on a pilot program that will allow farmers to configure equipment that will gather and share field data with Dow analysts. This will give Dow the ability to analyze soil, weather, and crop data in order to create a customized "planting prescription" to help farmers increase their yields per acre.
Currently, DE looks very cheap: It's trading near $84, a more than 10% discount to its 52-week high, with an attractive forward P/E ratio of 10 and a dividend yield of 2.4%. The company also bought back 18.2 million shares last year and is planning to buy back more. The temporary weakness in the stock price provides investors a great opportunity to own one of the world's highest-quality manufacturers of agricultural machinery at a very reasonable price.
Risks to Consider: While all three companies have strong operating histories and franchises, their planned shifts away from their traditional, commodity-linked businesses will take time. Expect the stock prices to be susceptible to downward volatility in commodity markets as global markets fight the threat of deflation and emerging markets -- always a driver of commodity prices due to their stretches of rapid growth -- deal with economic slowdowns.
Action to Take --> As a basket, all three stocks have an average forward P/E ratio of 13.2 and a dividend yield of 2.8%. The forward P/E ratio is a compelling 21% discount to the S&P 500's 17, and the basket's collective dividend yield is 40% higher than the 2% average of the index. Based on the high quality and reasonable prices of these stocks, 12- to 24-month returns approaching 30% are possible.