I’ve written quite a bit in this space about my opinion that the Consumer Staples sector – and more specifically, stocks in the Food Products and Food and Staples Retail industries – are smart places to find good values in today’s market. That’s because most of the stocks in these industries are benefitting from the extended, eat-at-home trends that are a product of COVID-19 – but they don’t generally get a lot of investor attention because they just aren’t very “sexy.” The dichotomy between fundamental strength and lack of investor demand means that while these industries have collectively performed pretty well throughout the past year, there are still a lot of stocks to work with at very nice prices.
As is always the case, you have to be careful about casting your net too wide when it comes to industry or sector-based generalizations. A good example is the Technology sector, which not too surprisingly has led the market’s rally from March 2020 bear market lows. Many of the biggest names in the sector have led the way, and in particular companies that were positioned on the right side of remote workforce, collaboration, and cloud-based services at the onset of the pandemic have clearly been at the front of the pack. That might make a pure contrarian shy away from buying stocks in the industry – but the truth is that there are still some big, established names in that sector that offer very interesting value propositions.
The same principle holds true, but in reverse fashion for the Food Products industry. While there are a lot of good companies trading at nice enough prices to fit my criteria for a good, long-term, value-based investment, there are others that investors have pushed to aggressive new highs that aren’t supported by their underlying fundamentals. One of those names is Archer-Daniels-Midland Co. (ADM) – one of the biggest U.S. processors of agricultural goods. The company has benefitted throughout the past year by the U.S. consumer push to stock up pantries, including trends towards plant-based proteins, and also has a strong foothold in the “green fuels” business, where products like ethanol and renewable diesel fuels, which are derived from corn and soybeans are highly dependent an ADM’s capacity. Those are more than a few good reasons that the stock increased from a March 2020 low at around $29 to a 52-week high in May above $69. From that point, the stock dropped back to a short-term low at around $57.50, but has been gradually moving higher since then. Concern in the last week about inflation, interest rates and increasing delta variation COVID infections and hospitalizations have the market on edge today, which is giving defensive industries like Food Products a bit of a boost right now. ADM has some useful fundamental improvements to bolster investor interest – but are they strong enough to make the stock a useful value? Let’s dig in and find out.
Fundamental and Value Profile
Archer-Daniels-Midland Company is a processor of oilseeds, corn, wheat, cocoa and other agricultural commodities. The Company manufactures protein meal, vegetable oil, corn sweeteners, flour, biodiesel, ethanol, and other food and feed ingredients. Its segments include Agricultural Services, which utilizes its United States grain elevator, global transportation network and port operations to buy, store, clean and transport agricultural commodities, such as oilseeds, wheat, milo, oats, rice and barley, and resells these commodities primarily as food and feed ingredients and as raw materials for the agricultural processing industry; Corn Processing, which is engaged in corn wet milling and dry milling activities; Oilseeds Processing, which includes global activities related to the origination, merchandising, crushing and further processing of oilseeds; Wild Flavors and Specialty Ingredients products, which include flavors, sweeteners and health ingredients; Other, and Corporate. ADM’s current market cap is about $34.1 billion.
Earnings and Sales Growth: Over the last twelve months, earnings increased almost 56.5%, while sales grew by just a little under 41%. In the last quarter, earnings declined a little more than -4% while sales increased by more than 21%. The company operates with a historically very narrow margin profile that is showing signs of strength. Net Income versus Revenues over the past year is 3.09%, but improved markedly in the last quarter to 8.44%.
Free Cash Flow: ADM’s free cash flow over the last twelve months is $167 million. This is a number that, like Net Income, has been negative since the beginning of 2017, only briefly touching positive territory in the first quarter of 2018. The turn to positive territory, if it can be sustained in the quarters ahead, is a strong sign of fundamental strength.
Debt to Equity: ADM has a debt/equity ratio of .39. This is a conservative number. The company’s balance sheet indicates that operating profits are adequate to service their debt, with almost $7.9 billion in cash and liquid assets (up from $7.1 billion in the quarter prior) versus more than $8.4 billion in long-term debt. Despite pressures dating back four years from Net Income and Free Cash Flow that only now appear to be abating, ADM’s balance sheet has long been one of the strongest points in its fundamental profile.
Dividend: ADM pays an annual dividend of $1.48 per share, which translates to a yield of 2.37%. ADM is a company that has raised its dividend every year for the last 45 years, including a $.01 per quarter increase at the beginning of this year. That strongly indicates that the risk the dividend will be cut or eliminated is low and puts the company in the Dividend Aristocrat category.
Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but I like to work with a combination of Price/Book and Price/Cash Flow analysis. ADM’s historical cash flow pressures actually make the combined analysis impractical; however the company’s Book Value provides a good starting point. At $38.67 per share, the stock’s Price/Book ratio is significantly above its historical levels, which put the stock’s long-term value target at around $45.50 per share. That means that at its current price, ADM is overvalued by more than -25% right now. It also puts the stock’s useful value price at around $36.50.
Technical Profile
Here’s a look at the stock’s latest technical chart.
Current Price Action/Trends and Pivots: The chart above displays the stock’s price activity for the past year. The diagonal red line traces the stock’s upward trend from a low in October of last year at around $44.50 to its peak in June at around $69. It also provides the baseline for the Fibonacci retracement lines shown on the right side of the chart. After falling back to a low around $57 in July, ADM rallied to a short-term peak at around $63 last week, but is falling back towards current support around the 38.2% retracement line in the $60 price area, while immediate resistance is at the last peak around $63. A drop below $60 should find next support at around $57, inline with the 50% retracement line, which a push above $63 should have room to run to next resistance at around $66 based on pivot low activity in May.
Near-term Keys: Even as ADM’s fundamentals are showing interesting, even useful signs of improvement, there is really no way to describe the stock a good value right now. Any kind of long-term decision to buy the stock would have to be based strictly on growth rather than value – but there are a lot of pressures, even on defensively oriented industries right now, like increasing commodity costs and supply chain problems that raise questions about the viability of that viewpoint on even a long-term basis. I think that means that for ADM, the best probabilities lie in short-term trading strategies. Use a push below $60 as a signal to consider shorting the stock or buying put options, with $57 acting as a good initial profit target level. A push above $63 would offer a strong signal to either buy the stock or start working with call options and looking at $66 as a practical profit target for a bullish trade.