2023-10-03 10:42:29 ET
Summary
- Bunge Limited is a strong player in the agriculture sector, with vertically integrated operations and a recent merger with Viterra.
- Despite a modest dividend yield, Bunge's strong financials, undervaluation, and potential for long-term growth make it an attractive investment.
- Combining Bunge with other stocks like PepsiCo can provide a unique hedge against inflation, making it a valuable addition to a dividend growth portfolio.
Introduction
The agriculture sector is a minefield for investors looking for consistent dividend/capital growth.
That's because agriculture is a highly volatile business at the very top of a number of supply chains, including food (obviously) and energy. After all, a lot of crops are grown for biofuel production, like ethanol, biodiesel, and related.
Hence, the industry tends to come with low margins and a very cyclical nature, which makes it hard to find companies that are able to deliver consistent returns.
For long-term investments, I prefer two industries in this sector:
- Machinery . I love my Deere & Company ( DE ) investment. While this tractor producer is volatile, it has pricing power, a wide moat, and the ability to consistently grow its dividend.
- Trade & processing companies . While these companies are also volatile and often exposed to low-margin risks, they have wide moats. They are needed to move and trade goods, turn them into value-adding products, and connect buyers to sellers. Regardless of how bad recessions get, these companies will be busy.
In the second group, I like two stocks, Archer-Daniels-Midland ( ADM ) and Bunge Limited ( BG ) , the giant that announced a somewhat groundbreaking merger this year.
As I haven't covered BG since May, it's time for another deep dive, as I believe that BG is one of the best dividend stocks in this sector. The company is doing tremendously well in a challenging environment. It is investing in growth, the Viterra merger significantly expands its moat, and its valuation is highly attractive.
So, let's get to the details!
BG Is An Agriculture Powerhouse
Bunge Limited is a large global agribusiness and food company with vertically integrated operations, spanning from farmers to consumers.
The company operates through four main segments: Agribusiness, Refined and Specialty Oils, Milling, and Sugar and Bioenergy.
These segments cover a wide range of activities and are further categorized into Core and Non-core operations that help farmers sell their goods, allow food producers to acquire important input products, and allow for global agriculture trade to move smoothly.
USD in Million | 2021 | Weight | 2022 | Weight |
---|---|---|---|---|
Agribusiness | 43,636 | 73.8 % | 47,700 | 70.9 % |
Refined and Specialty Oils | 13,332 | 22.5 % | 16,850 | 25.1 % |
Milling | 1,909 | 3.2 % | 2,388 | 3.6 % |
Sugar and Bioenergy | 270 | 0.5 % | 259 | 0.4 % |
Now, the company is taking things to the next level.
In June, the company announced the merger with Viterra, the agriculture division of mining giant Glencore ( GLCNF ).
The deal adds new capabilities, allows to capture a bigger part of global agriculture demand, and increases earnings capabilities.
For example, whereas Bunge has a major footprint in processing and downstream operations, Viterra is a giant in merchandising and handling.
Viterra has more than 270 global storage facilities, the ability to market more than 134 million metric tons of grains, 29 port terminals, and both grain and sugar mills.
It also has 15 crushing plants and seven biodiesel plants.
Thanks to this deal, BG also acquired a bigger trade footprint in the U.S., Canada, the EU, and Australia. Prior to the merger, it was mainly focused on grain origination in Brazil.
The headquarters of the merged company will be in St. Louis, Missouri.
BG shareholders will own 70% of the combined company and assume $9.8 billion of Viterra debt, which is associated with $9.0 billion in readily marketable inventories ("RMI").
Also, as we can see below, while Viterra has more in annual revenues, it has a lower net income and EBITDA, suggesting much lower margins (related to a different footprint in the industry).
The combined company will have $17.2 billion in net debt and a net leverage ratio of 1.6x. I believe the combined company will have an investment-grade credit rating, as both Bunge and Viterra are investment-grade companies.
This brings me to the Bunge dividend.
The BG Dividend
BG is no high-yield company. It currently pays a $0.6625 per share per quarter dividend. As investors have to pay $106.70 to buy one share, this translates to a yield of 2.5%.
If we take a closer look at the overview below, we see that this dividend is protected by a sub-20% payout ratio. The company also has very satisfying grades on its Seeking Alpha dividend scorecard, which means it is scoring favorably compared to its consumer staple peers.
Over the past five years, the dividend has been hiked by 6.2% per year - on average.
The company has a track record of two consecutive years of dividend growth. If it weren't for the pandemic, the company would have had an uninterrupted streak of dividend growth since the early 2000s, when it started paying a dividend.
BG is a play on dividend safety, not dividend growth.
I also believe that BG is a great combination with other peers. For example, when combining BG with a stock like PepsiCo ( PEP ) (meaning to own both), we own one company that benefits from inflation (Bunge) and one company that benefits from lower inflation (PepsiCo).
Since 2002, a 50/50 investment of BG and PEP has returned 9.7% per year. The S&P 500 returned 8.2% per year during this period. The market correlation of the 50/50 investment was just 58%. The standard deviation (volatility) was barely higher.
This isn't a call to buy PEP. It's just an example of how a company like BG can be integrated into a dividend growth portfolio to mitigate inflation risks.
Recent Developments & Valuation
Financially speaking, BG continues to do extremely well.
Earnings per share for the second quarter was reported at $4.09, compared to $1.34 in the same period of 2022. Adjusted EPS was $3.72 in the quarter versus $2.97 in the prior year.
Adjusted core segment earnings before interest and taxes (EBIT) for the quarter was $893 million compared to $709 million the previous year.
In processing, higher results were reflected across all value chains, driven in part by strong Brazil soybean origination, which contributed to higher crush results in Brazil and destination crush operations in Europe and Asia. Results were also higher in the U.S. due to a significant portion of capacity being locked in at higher margins at the beginning of the quarter.
In general, earnings are very strong after the post-2020 inflationary period started providing much-needed tailwinds.
Furthermore, the company's balance sheet remains rock solid. I already briefly highlighted this in the merger part of this article. The company has $3.6 billion in net debt and more than $7 billion in RMIs (inventories).
Thanks to its tailwinds, the company increased its full-year adjusted EPS outlook to at least $11.75 per share, showing confidence in its performance for the rest of the year.
During the earnings call , the company highlighted its guidance update.
In Agribusiness, full year results are forecasted to be down from last year, though slightly better than our prior outlook, as higher results in processing are more than offset by low results in merchandising. However, depending on how market conditions evolve over the remainder of the year, there could be upside to our segment outlook.
In Refined Specialty Oils, full year results are expected to be up from our prior outlook and in line with last year’s record performance. In Milling, full year results are expected to be lower than our prior outlook and significantly down from a strong prior year.
Valuation-wise, we're dealing with a very interesting development.
Before the surge in inflation, BG shares used to trade close to 16x earnings.
Now, shares are trading at less than 9x earnings.
The market is either saying that earnings will come down again or that BG is massively undervalued.
Undervaluation makes more sense, as current macroeconomic headwinds keep many stocks from trading at the valuations they deserve.
If we were to apply a 15x multiple, the stock would (technically speaking!) have the potential to return 25% per year through 2025 - despite an expected decline in earnings.
The same is visible when looking at the EBITDA multiple. BG is trading at 6.5x NTM EBITDA, which is well below the longer-term median of 9x EBITDA.
The current consensus price target is $136, which is 27% above the current price.
I do believe that BG is significantly undervalued and in a good spot to generate long-term outperforming returns in an environment of sticky inflation, strong agriculture margins, and the massive potential it has to enhance the margins of the Viterra business in the future.
The problem is that the market is nervous. Economic growth is declining, the Fed has to maintain high rates to fight inflation, and credit markets are showing cracks.
This could keep BG from reaching the valuation it (likely) deserves.
Investors interested in owning BG may be better off buying in intervals. If the stock keeps dropping, investors can average down. If the stock takes off, investors have a foot in the door.
Also, consider how BG might fit into your portfolio before buying. As I said, it makes a great addition for portfolios with consumer defensive exposure that does well when inflation is low.
Takeaway
Bunge stands out as a powerhouse with its vertically integrated operations, and its recent merger with Viterra positions it for global agriculture demand capture.
Despite its modest dividend yield, BG's strong financials, undervaluation, and potential for long-term growth make it an attractive prospect for investors seeking stability in an unpredictable market.
When it comes to dividends, BG may not be a high-yield player, but its sub-20% payout ratio and impressive dividend growth record make it an appealing choice for dividend safety.
Moreover, combining BG with stocks like PepsiCo can provide a unique hedge against inflation.
Given economic risks, I suggest interested investors buy gradually.
For further details see:
Bunge: The Top Pick For Dividend Growth In Agriculture