Follow This Insider’s $106 Million Bet On A Potential Industry Boom

Few sectors have been hit as hard this year as agriculture. Record-high crop production and a strong dollar are driving grain prices to multi-year lows. Since April, the price of corn and wheat have both fallen by more than 30%.

Shares of companies in the sector performed relatively well over the first half of the year, following the broader market closely, but broke down quickly over the last five months. The Market Vectors Agribusiness ETF (NYSE: MOO) has dropped 6.9% so far this year, with nearly a 10% drop since the July high.

Yes, prices have fallen dramatically over the latter half of the year, but it was only two years ago that both corn and wheat hit all-time highs. In 2012, corn prices surged more than 50% in six weeks as drought destroyed production.

While lower crop prices have producers sweating it out until next year’s growing season, investors may want to take advantage of lower prices now.

That is exactly what one director at an agricultural equipment-maker is doing, increasing her controlling interest to more than a tenth of the company before what could be a boon for equipment manufacturers.

The Beginning Of A New Cycle Of Capital Spending On Machinery?

The U.S. agriculture sector is notorious for boom and bust cycles. Soaring food demand abroad, use of debt and the volatile affect of weather on production have made for a roller coaster ride that would make even the strongest thrill-seeker squeamish.

The graph below shows just how the boom and bust nature of the sector can affect spending on machinery (figures are adjusted by the consumer price index for current dollars). The U.S. Department of Agriculture estimates that farmers will spend $25.1 billion on tractors and other machinery this year, nearly 63% of total capital expenditures, excluding dwellings.

While spending on machinery has increased over the last few years, it was relatively stagnant for nearly two decades to 2005. Current spending is still well below the boom of the ‘80s and just over the annual average of $20 billion across the period.

What strikes me as important is the long gap between machinery spending to 2005 and the percentage of total expenditures on machinery. For the three decades to the mid-‘90s, farmers spent roughly 60% of total expenditures on machinery. This percentage dropped to about half of expenditures for a decade starting in 1997. The steep drop in capital spent on machinery and the long period of weak spending leads me to believe that farmers are now finding they need to invest in new equipment.

Even as record production drives crop prices lower, global population growth is set to put increasing pressure on crop demand. A study by the Institute on the Environment shows that we will need to double global crop production by 2050 to meet food demand.

Cereal demand in India alone is expected to increase 12% to 214.2 billion kilograms by 2025 just on stable demand and population growth. U.S. agricultural exports have doubled since the turn of the century to $120 billion in 2013 from $60 billion in 2000.  

One Insider Sees What The Market Doesn’t
Agricultural equipment maker AGCO Corp. (NYSE: AGCO) has not been immune to fears of weak farm revenue on lower crop prices. Falling commodity prices have sent demand for equipment tumbling. Sales are expected lower by 10% this year to $9.66 billion and to fall another 7.4% next year to $8.95 billion.

One director of the company is taking advantage of the weakness to load up on shares, or perhaps to do something more. Since late September, Mallika Srinivasan bought 2.35 million shares for $106 million at an average price of $45.07 per share.

#-ad_banner-#More interesting is that she has done it over twenty separate purchases at relatively small amounts averaging 117,500 shares per transaction. There are 93 million shares outstanding, with an average daily volume of about 1.5 million shares. Larger purchases might alert the market and send prices much higher.

Ms. Srinivasan is also the CEO of Tractor and Farm Limited, an Indian farm equipment manufacturer that sells through a partnership with AGCO. Through her personal holding, Tractor and Farm and another account, she now holds 12.6 million shares, a controlling interest of 13.5% in AGCO.

Whether Ms. Srinivasan has strategic plans for AGCO or whether she just sees the long-term opportunity in a controlling interest in the company, shares are incredibly cheap. The stock has tumbled 30% from its 52-week high and is down 20% in the past four months.

AGCO trades at an enterprise value of just 0.58 times 2015 expected sales and on par with book value. Shares trade for less than half the value of rival Deere & Co. (NYSE: DE), with an EV-to-sales multiple of 2.1 times  expected 2015sales and a price-to-book of 2.8 times.

The company’s market cap of $4.2 billion, with just $656 million in net debt, makes AGCO a relatively easy target for acquisition or buyout. Even on the shares’ five-year average price-to-book value of 1.4 times, the stock could be worth 40% more — around $63 per share. This is still well below peer multiples for a company that books solid sales growth in an industry with long-term tailwinds. 

Risks To Consider: A strong dollar and weak crop prices may limit share gains of AGCO until we start to see how the 2015 crop season will turn out. Be prepared to ride out sentiment until the rest of the market finds out what TAFE and Ms. Srinivasan know.

Action To Take –> Shares of AGCO trade for multiples well below industry peers despite strong fundamentals and a positive industry outlook. Whether it has strategic plans or is just taking advantage of lower prices, follow TAFE into the trade for strong long-term gains.

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