November 17, 2017

By David Gray,  Senior Advisor to Altima Partners

History offers perspective. Looking back ten years, soybeans were trading over $10.39 per bushel, wheat was nearing $8 and corn was nearing $4. That particular bull run would end about seven months later, with soy having touched $16, wheat reaching $10.35, and corn at over $7.30. Drivers were new investor enthusiasm based on the now-familiar tenets of rising incomes, higher protein consumption, declining arable land and so on. Indeed, sustained higher prices across the agriculture complex and consolidation that would augur in the era of ‘corporate farming’ were expected to be the new paradigm. With rising commodity prices, farmland prices had begun to move up, too. The USDA reported over 10 percent annual increases in the U.S. in 2006, and there was evidence of a decoupling of land value from economic potential: ‘over 2005-2008… farming income was insufficient to service debt on farm real estate purchases. Historically low interest rates are likely a significant contributor to farming’s current ability to support higher land values.’ (1)

Robust crop production over the past three years has shifted the narrative somewhat, and kept major crop prices below their late-2007 levels. Farm incomes have declined in the U.S. over the period, some weakening in agriculture real asset prices has occurred, and interest rates are beginning to rise, particularly in the U.S. Population growth continues, and wealth creation, particularly in emerging markets, accompanied by urbanization and the general shift in eating patterns, is driving increased calorie consumption. A combination of higher yields and increased planted acreage has nonetheless raised aggregate output, which has deflated prices; there remains no question that over time the world will still need to produce substantially more food to satisfy demand. But other factors have become more influential in how investors should be thinking about agriculture.

Agriculture now bridges a number of diverse sectors. We have begun to see the impact of new technology, from improved seed varieties and genetics, precision agriculture, crop biostimulants, chemical and biological, as well as data and analytics that should help farmers make better decisions and improve profitability. Adoption, however, remains slow; liquidity constraints and risk aversion at the grower level are still impeding progress. It is probably also true that with so many new products and services available some confusion is understandable; uncertain ROI’s compound this and feed buyer reluctance, which obviates the risk of buyer remorse. However, we have also seen two recent upstream strategic acquisitions – of Granular, a farm data company, and Blue River, a precision agriculture company – at very lofty prices, and other early stage agtech companies are similarly benefitting from very high valuations. Investors, at least in private markets, apparently have real conviction. Move over ‘corporate farming’, we now talk about the move to the ‘digital farm’.

The ‘2050 thesis’ needs to be updated to reflect the confluence of food, energy and social challenges that must be seen as part and parcel of every agriculture investment, as well as the increased role of new technologies in helping to solve them. If it proves out, and people consume more calories from animal proteins, the world faces a conundrum: how will it grow enough crops and sustain enough animals to meet the needs of the population, especially given the risks presented by climate change, water availability and societal nutrition-related problems (which includes those fueled by substantial losses of food along the supply chain, which increases reliance on processed alternatives)? Environmental risk is increasing: climate change is impacting temperatures and water availability; significant deforestation, particularly impacting global rainforests, has been attributed to livestock and feed crop production – which by some estimates account for over 90 percent of the deforestation in the Amazon rainforest. Ocean dead zones, for which crop run off and agriculture generally are known culprits, have also grown in number. The UN Food and Agriculture Organization has estimated that of the 600 marine fish stocks they monitor, 77 percent are either fully exploited, overexploited, or depleted, with 1 percent of this being related to those ‘recovering from depletion’.  They also estimate that animal agriculture is responsible for 18 percent of greenhouse gas emissions alone. It is not surprising that consensus opinion expects higher levels of yield volatility, with all its attendant ramifications. Problems, of course. But there is also no doubt that opportunity abounds.

This stream of industrial logic treats agriculture as both a financial and a social investment – broadly embracing the quest for food security and the challenges associated with meeting a range of financial and qualitative objectives. These run from the farm and through the supply chain, covering not just production, but processing, packaging, transporting, and waste management. Animal welfare must also be a priority. Introducing #ISH: the enormous value added from Impact, Sustainability and Health as core elements of sector exposure. These imperatives align with the objectives of leading international organizations as well as the increased reporting and monitoring requirements imposed on asset allocators, most notably in the US, and with developed-world consumer preferences for healthier, sustainably-produced foods. The urgency associated with more reliable supply in the world’s poorest countries is also incontrovertible. These countries cannot afford the costs of treating nutrition-related illness which is exploding. According to the Global Nutrition Report, 2016, malnutrition afflicts one in three people globally and represents economic losses of as much as 11 percent of GDP across Africa and Asia.

The trend to invest in sustainable and responsible companies is irrefutable, as these investments represented over $8.7 trillion in the US alone in 2016. In agriculture, this covers every aspect of management practice, from the farm through the entire supply chain, and includes application of ESG criteria and active shareholder engagement. What is most compelling is that these principles align well with increased revenue-generating opportunities for sector participants; from harnessing plant and animal waste at the farm level and managing crop rotations, to producing higher value crops and end-products that can be shown to meet demanding consumer preferences for healthier food, and attract premium prices. Organic/artisanal product producers now small and large attract compelling valuations from both international financial and strategic buyers. Agriculture is leading edge, too. New technologies can help at every level, from helping farmers use resources more efficiently, and use inputs and apply treatments to boost yield that improve operational and financial performance, to giving processors higher levels of certainty of provenance which they now want, and consumers higher confidence about what they are buying.

Agriculture now sits at the epicenter of multiple investment themes, all related to how we as a planet survive and manage a multitude of challenges to improve the human condition and generate attractive, sustainable risk-adjusted returns that investors need. Certainly #ISH is a risk management imperative, although it is almost certainly more. A failure to place these front and center in investment assessment and business plan will reduce value and even impact eventual ability to achieve an exit, no matter what the business or where the company is actually domiciled.

(1) Trends in U.S. Farmland Values and Ownership, USDA Economic Research Service, February 2012.