The red-hot fertilizer sector may be a catalyst for Jana Partners' proposed overhaul of Agrium, but it is the more stable growth of the retail business that is the driving force behind the deal.
Agrium management has invested more than $6-billion in its retail division, which sells agricultural crop input products to individual farms, in an effort to stabilize the company's earnings growth. Previously, Agrium's dependence on wholesale operations caused wild swings in profit levels as fertilizer prices fluctuated.
Statements from Jana indicate that the managers believe Agrium's retail business, which now accounts for over 60 per cent of revenue, is where the company's value lies.
In a recent letter to clients, Jana described an investment using code name "Position A" that is now believed to be Agrium. In their estimation, Agrium "trades at a multiple of its more volatile commodity-based business, failing to realize value in its more stable business".
Jana 's comments imply that breaking up Agrium would force markets to re-value the pieces separately, as agricultural retail and fertilizer companies. The fund manager's expectation is that the larger retail business would receive a much higher price-to-earnings multiple in terms of than is currently reflected in Agrium stock.
Scotia Capital analyst Ben Isaacson estimates there are potential gains for Agrium shareholders in the event of a restructuring .
" The upside for AGU shareholders would be about $10 [per share]", Mr Isaacson writes in a report to clients Tuesday, "However ... one could argue to apply a discount valuation multiple to AGU's wholesale [fertilizer] business, due to the loss of strategic and financial benefits . "
The ongoing drought in North America may also be a factor in Jana 's timing. Fertilizer prices have spiked along with corn prices as the drought threatens crop yields. In spinning off the retail business, Agrium shareholders may also receive premium pricing for the fertilizer unit.
Agrium CEO Michael Wilson immediately pushed back at the break-up plan. Management is likely reluctant to lose control of the retail business after negotiating $6.1-billion in acquisitions including AWB Ltd, Retail Agri-Business and UAP Holding. Retail operations now account for 63 per cent of Agrium 's revenue.
Jana Partners' recent success in getting their way with activist investments in McGraw-Hill and Barnes and Noble suggests that Agrium management will have to fight to prevent a proposed break-up. Mr. Wilson will have to convince shareholders that Jana 's projections of a sharp increase in stock value for the retail business are inaccurate.