Archer-Daniels-Midland (ADM, Financial) is the largest publicly traded farm products corporation with a market cap of $34 billion. The company is nearly 3 times larger than its closest rival, Bunge Limited (BG, Financial) which has a market cap of $13 billion. When I last analyzed Archer-Daniels-Midland, I was impressed with the management’s ROIC improvements and strong third quarter results.
Archer-Daniels-Midland has a long history of success. The company has increased its dividend payments for 39 consecutive years, making it a Dividend Aristocrat. Archer-Daniels-Midland’s business operations and competitive advantage are analyzed in part 50 of the 54 part Dividend Aristocrats In Focus series.
Business overview
Archer-Daniels-Midland operations are divided into 3 segments: Oilseeds Processing, Corn Processing and Agricultural Services. The percentage of total operating profit each segment has generated for Archer-Daniels-Midland over the first 9 months of fiscal 2014 is shown below to illustrate the comparative size of each segment:
- Oilseeds Processing: 39% of operating income
- Corn Processing: 34% of operating income
- Agricultural Services: 25% of operating income
Careful readers will notice this only sums to 98% of total operating profits. Archer-Daniels-Midland has a small “Other Operating Income” segment that is a catch-all for smaller operations. It was responsible for the remaining 2% of operation income.
Each of Archer-Daniels-Midland's primary segments are home to several smaller divisions. The operations of each segment are examined in the following three sections.
Oilseeds Processing
Archer-Daniels-Midland’s Oilseeds Processing segment has generated the most operating income for the company through the first 9 months of fiscal 2014. The Oilseed processing segment originates, crushes, processes and merchandises oilseeds which include soybeans, conttonseed, sunflower seeds, canola, rapeseed and flaxseed into vegetable oil and protein meal. The Oilseed Processing segment further breaks down into four divisions. Each divisions percentage of total operating income generated for the Oilseeds Processing segment is shown below.
- Crushing & Origination: 51% of segment operating profits
- Refining, Packaging, & Biodiesel: 31% of segment operating profits
- Cocoa & Other: 8% of segment operating profits
- Asia: 10% of segment operating profits
Corn Processing
The Corn Processing segment’s operations are based primarily in the central U.S. The Corn Processing segment converts corn into sweeteners, starches and bioproducts. The segment is Archer-Daniels-Midland’s second-largest based on operating income. The Corn Processing segment’s operations are further separated into two divisions:
- Sweeteners & Starches: 46% of segment operating income
- Bioproducts: 54% of segment operating income
Agricultural Services
Archer-Daniels-Midland’s Agricultural Services segment buys, stores, cleans, and transports agricultural commodities. The segment uses its U.S. grain elevators and global transportation network to provide agricultural products to where they are needed. The Agricultural Services segment operates in three primary divisions:
- Merchandising & Handling: 48.2% of segment operating income
- Milling & Other: 33.4% of segment operating income
- Transporatation: 18.4% of segment operating income
Competitive advantage
Archer-Daniels-Midland is one of the world’s largest processors of oilseeds, corn, wheat, cocoa and other agricultural commodities. In addition, the company is a leading manufacturer of protein meal, vegetable oil, corn sweeteners, flour, biodiesel and ethanol. Archer-Daniels-Midland's large scale and long operating history give it an extensive global transportation network. Archer-Daniels-Midland’s extensive distribution network consists of the following owned property:
- 263 processing plants (149 in the U.S.)
- 419 procurement facilities (286 in the U.S.)
- 200 warehouses and terminals
- 2,000 barges
- 13,400 rail cars
- 300 trucks
- 1,300 trailers
- 8 ocean vessels
In addition, the company controls other assets through leases and joint-ventures which are not included in the above numbers. Archer-Daniels-Midland’s massive processing and distribution network gives it a strong competitive advantage that dissuades new firms from entering the market and protects the company’s profits.
In addition to its processing and distribution network, Archer-Daniels-Midland supports its business operations through strong lobbying and regulatory capture. The Agribusiness industry has spent over $100 million each year on lobbying each year since 2007. Archer-Daniels-Midland regularly spends over $1 million per year on lobbying. In 2013, The company spent $1.79 million on lobbying. The biggest agricultural products spender on lobbying is Monsanto (MON, Financial), who spent nearly $7 million in 2013 alone on lobbying. Large profitable corporations can spend more on lobbying than smaller companies; Archer-Daniels-Midland uses this to enhance its business position and competitive advantage.
Growth prospects
Archer-Daniels-Midland has grown revenue per share at nearly 10% a year over the last decade. EPS have increased at 7.3% per year and dividends have grown at just under 13% per year over the same time period. Increased ethanol demand and population growth have driven Archer-Daniels-Midland’s growth over the last decade.
Archer-Daniels-Midland’s growth strategy is to expand its geographic footprint and to increase the variety and number of value-added products the company produces. Archer-Daniels-Midland’s management has been actively repositioning the company to realize higher margins and focus on value-added services through divestitures and acquisitions. Archer-Daniels-Midland recently acquired WILD Flavors and Specialty Commodities Inc. These companies increase Archer-Daniels-Midland’s presence in value-added and specialty food products. Starting in 2015, Archer-Daniels-Midland will create a new division in 2015 to report its higher margin flavoring and specialty foods businesses.
Archer-Daniels-Midland is selling its global chocolate business to Cargill for $440 million. In addition, the company is selling its fertilizer business in Brazil and Paraguay to the Mosaic Company (MOS, Financial) for $350 million. Archer-Daniels-Midland is divesting these businesses to better align its portfolio with its core strengths. The company is attempting to shed lower-margin business and acquire higher-margin companies to boost return on capital. The strategy should boost the long-term profitability of Archer-Daniels Midland.
Dividend analysis
Archer-Daniels-Midland currently has a dividend yield of 1.8%, in line with the S&P 500. The company has increased its dividend payments at nearly 13% a year over the last decade. Despite rapid dividend growth, Archer-Daniels-Midland has a low payout ratio of just 36% of expected 2014 EPS.
I believe Archer-Daniels-Midland will continue to grow its dividend payments at a double-digit rate over the next several years. The company has strong growth prospects and has reduced its commitment to reducing its share count. Positive growth per share growth prospects combined with a low payout ratio and long history of dividend increases should give shareholders 10%+ dividend growth going forward.
Valuation
Archer-Daniels-Midland is trading at 19.9 times expected full year 2014 EPS. For comparison, the S&P 500 is trading at about 19.25 expected 2014 full year EPS. Archer-Daniels-Midland has historically traded at a discount of about 0.75x the S&P 500’s P/E ratio. I believe the company’s historical discount is unwarranted given the company’s long history of EPS and dividend growth. Going forward, I expect Archer-Daniels-Midland’s P/E ratio to trade in line with the S&P 500’s P/E ratio as the company continues to invest in higher margin businesses. As a result, I believe Archer-Daniels-Midland stock is about fairly valued compared to the overall market at this time. With that said, the overall market is about 33% above its historical average P/E ratio.
Recession performance
Archer-Daniels-Midland performed exceptionally well during the Great Recession of 2007 to 2009. Basic agricultural products still need to be stored, processed, and transported regardless of what is happening in the overall economy. Archer-Danields-Midland’s EPS from 2007 to 2009 are shown below to illustrate its growth over the Great Recession:
- 2007 EPS of $2.38
- 2008 EPS of $2.84 (19.3% increase)
- 2009 EPS of $3.06 (7.7% increase)
Final thoughts
Archer-Daniels-Midland is a high quality business with strong competitive advantages in the agricultural business. The company is ranked in the Top 50 out of 138 businesses with 25 or more years of dividend payments without a reduction using The 8 Rules of Dividend Investing. Archer-Daniels-Midland should appeal to investors looking for solid dividend growth ahead.
