Strategy at Work: Crop Protection Companies Jockey for Top Position

15 March 2004 00:01  [Source: ICB Americas]

For crop protection companies, whose strategy relies on traditional agrochemical and the evolving role on ag biotech, 2004 may turn out to be an eventful year. The global crop protection market is finally showing signs of improvement, although 2004 is likely to be a year of relatively low growth. For agrochemicals, growth in 2003 and again in 2004 will mainly arise from a positive currency effect because of the weak dollar. The market will also be helped by increased crop planted areas resulting from improved commodity prices, continued expansion of oilseeds, maize and cereals, and the reduction of set-aside land in the European Union (EU). Also on the positive side is the possibility of the first approvals for new genetically modified organisms (GMOs) in the EU in five years as the EU is poised to end its moratorium on new biotech trait approvals.

For the top crop protection companies, the critical issue is whether 2004 will produce the much anticipated recovery in the market. “While 2004 may well be a better year, we are not yet convinced that the crop protection market, which has been in a decline by about 3 percent per year since 1996, is in a rebound mode,” says one European analyst. Real growth in global agrochemical sales, excluding currency effects, is expected to increase only 0.7 percent in 2004 to $28.0 billion (Figure 1, page 30), according to Cropnosis, an Edinburgh-based agrochemical consultancy. However, some of the top companies point to improving conditions.

“For 2004, early signs of stabilization in the crop protection market point to a more favorable environment and our organizational strength will allow us to take full advantage of all opportunities,” says Michael Pragnell, CEO of Syngenta, the number one crop protection company (Figure 2, below). Low global crop stocks, particularly for corn and cereals, and stable to rising crop prices, reduction in the set-aside land in Europe from 10 to 5 percent and improving economics in South America are some of the contributors to a better outlook this year.

Although these factors bode well for Syngenta, analysts point to other factors that dampen the optimistic outlook. “While Syngenta benefited translationally from a weak dollar in 2003 to the tune of 9 percent at the sales line and 2 percent at EBITDA [earnings before interest, taxes, depreciation and amortization] level, its cost base is European, and this puts it at a disadvantage versus US and also Asian generic producers,” says the European analyst.

Another factor is the weather. Syngenta’s 2003 sales, particularly fungicides, were hurt in part by last year’s drought in Europe. Its crop protection sales fell 2 percent (ex currency) to $5.5 billion, which included a 6 percent decline in fungicides to $1.4 billion. “The main cause of decline in this area was the European drought in the summer 2003, but it also looks like Syngenta has lost some market share to Bayer’s Flint as well as possibly to BASF’s new fungicide F500,” says the analyst. Better weather conditions in Europe this summer are important for Syngenta. “The likelihood of two hot summers like 2003 in a row seems low, but it is important to remember that synchronized ideal global weather conditions are pretty rare. Therefore, even if conditions are better in Europe, they could be worse somewhere else,” says the analyst. Also, destocking may be an issue. “Because of the hot weather in Europe last year, farmers and distributors may well be holding unused stocks of crop protection chemicals.”

Another risk factor to Syngenta is increased penetration of Roundup Ready corn in the US from Monsanto, the number three crop protection company. The market penetration of Roundup Ready Corn is estimated in the mid-teens, with a peak penetration of no more than 40 percent over the next five years, according to analysts’ estimates. However, if that level of penetration increases, it could become problematic for Syngenta. “Given that about $500 million of Syngenta’s sales are to US corn, if the rate or level of penetration increases (because of lifting of the European Union’s moratorium on importing of GM crops, for example), then this could be a negative,” says the European analyst.

Since 1991, 18 GMOs have been authorized for commercial release in the EU, but no additional GMOs have been authorized since October 1998, due to the moratorium against new import approvals imposed by seven member EU states. However, new EU regulations have at least set a groundwork for approving new GMO products that meet scientific review requirements, making importation and commercialization of new GMOs in the EU possible. Also, new EU labeling regulations, which go into effect April 18, also will seemingly facilitate the approval process by setting up a harmonized EU system to trace GMOs, introducing the labeling of GM feed, reinforcing the current labeling rules of GM food and establishing a streamlined authorization procedure for GMOs in food and feed and their deliberate release into the environment.

“They [the regulations] aim to put into place a stringent regulatory framework, close existing legal gaps and address the legitimate concerns of citizens, consumer organizations and economic operators,” says the European Commission, the EU’s executive arm. “A strict safety assessment of GMOs will continue to assure a high level of health and environmental protection. The labeling of all GM food and feed products will allow consumers and farmers to decide if they want to buy food or feed produced from a GMO, or not.”

One of the chief beneficiaries of the new EU GMO approval process could be Monsanto. There are now 22 GMO products pending approval in the EU, of which 11 belong to Monsanto. The most advanced in the approval process is Monsanto NK 603 GM maize (NK 603 Roundup Ready corn grain) for which the European Food Safety Authority issued a favorable opinion last December. Although a positive step in the EU approval process, the measure, which then went for a vote before the EU Regulatory Committee, which consists of the member states in the EU, failed to gain the necessary approval in a vote taken last month.

“We had hoped that this opinion [from the European Food Safety Authority], combined with the fact that new regulations covering GM products are now in place, would have been sufficient to allow a positive decision to be reached,” says Brett Begemann, executive vice president, international at Monsanto. “However, we are encouraged by the fact that the Commission has stated that it will send the proposal to the Council of Ministers, and we are hopeful that this product should be approved when they take it up for consideration in the next phase of the regulatory process.”

The measure for making Roundup Ready corn grain (NK 603) available for importation into the EU now goes before the EU Council of Ministers. Under the new GMO approval process, the EU Council has 90 days to reach a decision, which can include a qualified majority opinion to block the product. If no decision is reached in 90 days, the EU Environmental Commission can place the product on the market.

Monsanto just missed obtaining the necessary approvals from the EU Regulatory Committee, a factor that some analysts say makes it likely that the product will gain approval some time this year. Five countries—Denmark, Greece, Italy, Austria and Luxembourg—voted against the proposal, with Germany abstaining. Analysts say that Germany, which just recently passed a bill that would codify the EU GMO legislation into national law, may now support the measure. Also some say that the EU Environmental Commission is likely to place the product on the market even if the Council of Ministers votes the same way as the Regulatory Committee.

The approval of Roundup Ready corn maize (NK 603) in the EU would be a plus for Monsanto. It could increase peak penetration of the product in the US from 35 to 50 percent as planted acreage from the product increases, according to analyst estimates.

For its part, Syngenta is awaiting the outcome of the review process for its Bt corn. The EU Regulatory Commission failed to reach a decision on the product at its December meeting. The Environmental Commission has sent Syngenta’s product application to the Council of Ministers for a decision. If no decision is reached within a prescribed time, the Environmental Commission can approve commercialization.

A stacked product—Monsanto’s YieldGard insect-protected corn with the NK 603 Roundup Ready Trait is also under review by the European Food Safety Authority. YieldGard was originally approved by the EU for importation in 1998, and the European Food Safety Committee rendered a favorable opinion of NK 603 in December 2003, making it hopeful that the stacked product would receive a favorable opinion by the European Food Safety Authority. A decision on the product may be forthcoming within the next month.

Another Monsanto product is also moving through the EU process. Late last month Monsanto received a favorable opinion for its Roundup Ready canola. The European Food Safety Authority declared Monsanto’s Roundup Ready canola as safe as conventional oilseed. The next step in the EU GMO approval process is for the European Commission to draft a proposal for a vote by the EU Regulatory Committee, a vote that is likely to take place over the next several months.

Ag biotech is the critical success factor for Monsanto as the company faces a maturing Roundup business, its flagship herbicide business line. “As our seeds and traits business increasingly takes the lead in our portfolio, the growth it delivers will propel the growth for all of Monsanto,” said Hugh Grant, chairman, president and CEO of Monsanto Company, speaking at an agricultural forum sponsored by Goldman Sachs last month. “Success in seeds and traits require experience, access and execution, and Monsanto has the base and the strategy to lead this area of growth for the agricultural industry.”

Monsanto has built its seeds and traits strategy on three successive rounds of seed and trait innovation, says Mr. Grant. The first round was characterized by significant advancement in seed breeding and first-generation biotech products, such as insect-protected and herbicide-tolerant crops. The company is s now focusing on second-generation biotech offerings and an increased emphasis of multiple stack traits.

“Monsanto is already moving to its second-generation biotech products that give us a tremendous competitive advantage as other companies bring ‘me-too’ products into the market,” says Mr. Grant. To demonstrate the company’s presence in the market, Mr. Grant cites an “intensity index,” of US biotech traits, which the company says shows significant penetration of multiple traits for key crops on each acre planted with biotech crops. In cotton, for example, Monsanto estimates an intensity index of roughly 1.5 for the 2004 planting season, meaning Monsanto believes that there are roughly 1.5 Monsanto traits being planted on every acre growth biotech cotton. The projected intensity index for corn for 2004 is 1.2, a value that company sees growing in 2005 and 2006, as a result of the introduction of second-generation traits and increased penetration of stacked traits.

The third round in its seed and traits strategy focuses on the company’s product pipeline that offers news traits. “Concepts that were just drawing-board ideas a few years ago are already being tested in the field,” says Mr. Grant. “For instance, last year, Monsanto had good early field success with drought-tolerant corn that could eventually help farmers maintain yields in times of significant water shortage.”

Monsanto, and the other crop protection companies, will also benefit from the Chinese government’s recent approval to allow biotech-based imports. Last month, the Chinese government approved the final safety certificates for the importation of grain from biotech crops. Monsanto received five safety certificates for import of five commercial products in soybeans, corn, and cotton. These include Roundup Ready soybeans, one version of Roundup Ready corn, YieldGard Corn Borer, Bollgard cotton and Roundup Ready cotton. The company hopes to receive a final decision on Roundup Ready canola, a second version of Roundup Ready corn, and YieldGard Rootworm from the Chinese government in the near future.

Another component of Monsanto’s agricultural strategy relies on its so-called “value-capture system” in Brazil for Roundup Ready soybeans for the 2004 season. The “value-capture system,” is a plan by which Monsanto hopes to capture the value for its intellectual property by collecting biotechnology trait fees for the first time in Brazil. “We have been able to check off a few of the first key milestones, including developing a grain-based value-capture concept and signing contracts with the major global grain handlers,” said Mr. Grant late last month. “But, there are still some important steps—including completing enrollment of local elevators and processors—before the system is fully instituted.” Monsanto is said to have inked deals with the four largest exporters of soybean—Cargill, Archers Daniel Midland, Bunge and Louis Dreyfus. Monsanto expects the initial start-up costs associated with this program to offset any potential additional earnings in 2004, even if all of the milestones are successfully completed in Brazil. However, analysts expect the deal to positively contribute to Monsanto’s earnings in fiscal 2005.

The acceptance of Monsanto’s value-capture system in Brazil may also help the company’s position in Argentina. Monsanto announced in January that it planned to discontinue unprofitable soybean sales in Argentina, where the company had difficulty in capturing value from its seed sales because of weakness in intellectual property protection. Argentina is said now to be considering creation of a royalties fund supported by a tax of 0.3 to 1.0 percent on soybean sales, a measure, if approved by the relevant authorities, could raise between $30 million and $35 million for Monsanto.

Change in the crop protection market is also coming in the form of new executive leadership. Friedrich Berschauer, currently a member of the board of management of BayerHealthCare AG and head of its animal health division, will take the helm of BayerCropScience next month. He will become chairman of the board of management for BayerCropScience, succeeding Jochen Wulff in that position, who is retiring. BayerCropScience, which is ranked as the number two crop protection company following its acquisition of Aventis CropScience in 2002, reached an agreement last week with Aventis that refunds €327 million ($400 million) out of Bayer’s original €7.25 billion purchase price for Aventis CropScience. The companies closed on the deal in June 2002, but subsequently determined discrepancies in valuation of certain purchase price components, such as working capital and net debt. Also, new at the helm is Jerome Peribere, who became head of Dow AgroSciences LLC, the number five life sciences company, last month. He takes over from A. Charles Fischer, former president and CEO, who retired February 1.

In addition to leadership changes, the ag market is also adjusting to recent restructuring. BASF, which bought Bayer’s Fipronil business plus some fungicides for €1.19 billion last year, closed on the deal last month. Bayer sold the business as a condition for its acquisition of Aventis CropScience. Also, Sumitomo Chemical Company Ltd. is restructuring its agrochemicals business through two mergers. The company is merging its subsidiaries Sumika-Takeda Agro Manufacturing Company and the Seibu Kasei Company into a new company, the Sumika Agro Manufacturing Company. In Sumitomo’s non-farming agrochemicals business, the company is merging subsidiary Kaiwaryokuka Company with subsidiary Nihon Green and Garden Corp. This new business will retain the name Nihon Green and Garden Corp. Both of the merged companies will begin operating as their new identities in April. Sumitomo is merging all of its agrochemicals units and subsidiaries into the company’s Sumitomo Chemical Takeda Agro Company Ltd. business, a restructuring scheduled to be completed by 2007.

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