Should You Invest in Monsanto Company?

Source: Thinkstock

Source: Thinkstock

I recently wrote an article in which I discuss investment ideas for agriculture bulls. One idea I did not discuss is the largest agriculture company – Monsanto (NYSE:MON). Monsanto produces genetically engineered seeds and pesticides/herbicides that are designed to go with the seeds. The idea is to create an herbicide that kills every plant in the surrounding area. The seed, given the genetic mutation, is immune to this. This approach has become extremely popular among farmers and Monsanto’s business has grown dramatically; in the past 10 years, Monsanto stock is up over 550 percent.

But while Monsanto’s business continues to grow, there are some pressing issues that make investing in this company a risky proposition. Genetically modified food is extremely controversial. On the one hand, it is touted as a way for farmers to increase the efficiencies of their farms, and it is also touted to be equivalent to non-genetically modified food products. However, these claims are often rebuked, and we see two primary concerns that could threaten Monsanto’s business.

First, there are many scientists who believe that genetically modified foods are unhealthy, and as a result, there have been several limitations on Monsanto’s products, particularly outside the United States. Most recently, France banned Monsanto’s genetically modified corn. Such bans mean less sales for Monsanto and this hits the company’s growth and bottom line. While the stock didn’t react to this news, it is fundamentally negative. Furthermore, if we see Monsanto products banned by one country, people in other countries may begin to take notice and wonder why. Once they realize the controversy surrounding the nutritional value and health risks of eating genetically modified organisms (GMOs), they may choose to err on the safe side and petition their elected officials to ban Monsanto’s products as well. They may also decide on their own to avoid eating GMOs when necessary.  This is becoming easier now that there are food producers who see value in having their food tested and then labelled “GMO-free.” Even if the criticisms against Monsanto are untrue, the perception that they are true can seriously hit Monsanto’s business.

Second, Monsanto advertises that farmers will need to use less herbicide when they use “Round-up Ready” crops. Round-up is the company’s name for glyphosate, Monsanto’s powerful herbicide that kills virtually every herb except Round-up Ready crops. This should benefit farmers, but at the same time, we find that as farmers continue to use glyphosate weeds are evolving to become resistant. This forces farmers to use more herbicide and this increases their costs. So while initially Monsanto’s products can be more efficient, in the long run it winds up being less efficient, and this means that we might see farmers stop using them.

These two points can potentially stop Monsanto’s incredible growth, and I think that they pose significant risks to the company’s uptrend.

Still, from an investment standpoint, there is a lot to like about Monsanto’s stock. While it trades at 24-times trailing earnings, the company is expected to grow its earnings significantly year-over-year despite lower prices for agricultural commodities. If we see rising agricultural commodity prices, then we can see more demand for seeds and herbicides, and this could compound Monsanto’s growth. If this is the case, then the company’s shares are relatively inexpensive at $114/share.

Second, Monsanto operates as part of an oligopoly. There are only a handful of companies that produce genetically modified seeds that are designed to be immune to a pesticide designed by the same company. These competitors include Dow Chemical (NYSE:DOW), DuPont (NYSE:DD), Syngenta (NYSE:SYT), and Bayer AG (OTCMKTS:BAYRY). While other companies can enter the industry given the amount of capital required to generate an original GMO (it must be original as it is patented), it is very difficult for new players to compete with these large players.

Ultimately, Monsanto is a mixed bag. There is a lot that I really like about the company given its unique market position and it’s growth. But at the same time, there are some risks that could really hit the company’s bottom line in the long-term. With that in mind, there are simply better ways to benefit from the rise in agricultural commodity prices that don’t come with these risks, and therefore, I would avoid the stock for the time being. If, however, the criticisms against Monsanto are proven to be spurious, the shares are very compelling at the current valuation.

Disclosure: Ben Kramer-Miller has no positions in Monsanto or in any of the other stocks mentioned in this article.

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