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A stock to consider: AGT, the world’s leader in lentils

In 2001, when Murad Al-Katib was just 28 years old, he quit a cushy job with the Saskatchewan government to launch a business out of his basement. His wife was pregnant with twins, and his big idea—growing, processing and exporting pulse crops such as lentils and peas—was an odd concept for a start-up, even in the ag-rich Prairies. But it turned out to be a very smart move. Regina-based AGT Food and Ingredients Inc. now generates nearly $2 billion a year in revenue and its stock price has more than doubled over the past five years, handily beating the S&P/TSX Composite Index's 24.7% gain.

AGT is one of Canada's most underappreciated success stories, says Ted Whitehead, a senior portfolio manager with Manulife Investments. AGT is still a small-cap, but it's already a dominant player in its field, controlling more than 25% of the global pulse crop market. There's also more growth to come, Whitehead says, in large part because of increasing demand for healthy and inexpensive foods. Pulses are loaded with protein, and are often cheaper to produce than other crops.

Al-Katib is also diversifying into the ingredients business. Four years ago, AGT started turning its crops into flour, starches and proteins for products such as chips, bread and pasta, and for pet foods. Pulses provide healthier and gluten-free alternatives to wheat and other grains. "It's an exciting growth area," Al-Katib says. Health-conscious, environmentally aware millennial consumers are driving demand.

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AGT's ingredients division has already grown substantially. In 2013, it accounted for just $4 million of the company's EBITDA. That total is expected to climb to $51 million in 2017, or about a third of EBITDA, says Greg Colman, an analyst at National Bank Financial. "It's the most interesting part of the business," he says. Ingredients also have large margins; Colman expects AGT to earn an EBITDA margin of 14% on ingredients this year, compared with 7% for its legacy business.

Yet Al-Katib is quick to point out that his original operation—producing and selling pulse crops—is still growing, too. Western Canadian farmers seeded about 11 million acres of pulses in 2016, up from eight million in 2015. That total will keep expanding, he says, because of emerging-market population growth—especially in India. "Indian consumption of pulses is growing by one million tonnes a year," Al-Katib says. Michael Simpson, a senior portfolio manager with Sentry Investments, says that AGT could double in size to a market cap of about $2 billion within five years.

Despite AGT's long-term growth potential, its shares had a rough ride in 2016, and climbed by just 7%. Why? Simpson says that analysts' expectations were too high. The company also bought a short-line railway and grain processing plant in Saskatchewan for $57 million at the end of 2015. That will make it easier and cheaper for AGT to get crops to the factory, but it boosted the company's debt.

The consensus estimate from analysts is that earnings per share will climb by about 29% in 2017, year over year. By many measures, the stock is also attractively priced. Coleman points out that AGT has traded at a multiple of nine times enterprise value-to-EBITDA—similar to grain handlers. But he thinks investors should compare it to food ingredients companies, which trade at a multiple of about 11.5. Colman's 12-month price target for AGT is $46. Simpson says investors should remember risks, too, such as bad weather and a potential slowing of the healthy-eating trend.

But the market has confidence, and so does Al-Katib. Looking back, he says he never dreamed that AGT would become a multibillion-dollar company. Yet somehow he's not surprised by its success. "I took an informed risk," he says. "And the team executed on it."

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