Is Corteva Stock a Buy Right Now?

The stock of agriscience company Corteva (CTVA 1.12%) is a battleground. Actually, it's a war on two fronts. Not only is there a bull and bear debate around the company's ability to meet its earnings targets, but there's also a concerted attempt by an activist hedge fund, Starboard Value, to change the management of the company. What's going on and should investors avoid the stock or buy in? Let's take a closer look.

The investment case for Corteva stock

Corteva is a company created out of the DowDuPont merger. DuPont's agribusiness generated 70% of its revenue from seeds, with crop protection products making up the rest. Meanwhile, the DuPont business was 80% crop protection and 20% seeds and traits. Put together, the Corteva business is 55% seeds and traits and 45% crop protection.

The case for the stock is based on the idea that significant structural cost savings (closing manufacturing plants and rationalizing the supply chain) can be generated by the merger, alongside productivity enhancements such as improving IT systems.

Image source: Getty Images.

In the long term, Corteva also has an opportunity to improve margins by increasing the portion of sales coming from products under its own patents, thereby reducing royalty payments to other companies.

A good example of this would be its Enlist soybean seeds and its Enlist crop protection system. They are complementary products because the soybean traits are resistant to the herbicides (crop protection), meaning the latter can be applied to control weeds and improve soybean yield. Corteva management believes Enlist soybean seeds can reach 50% of the market because of their resistance to Enlist herbicides, as well as BASF's Liberty (glufosinate) and Bayer's Roundup (glyphosate).

Meanwhile, the seed's main rival, Bayer's Xtend, is resistant to Roundup and Bayer's Dicamba. However, Dicamba is seen as problematic due to its tendency to drift and damage crops in neighboring fields which are not resistant to it. That's something that could give Enlist a competitive edge provided its yields match up to Xtend's in the field.

Putting it all together, management believes it can improve earnings before interest taxation, depreciation, and amortization (EBITDA) by 12%-16% a year from 2019. It's a target laid out at the end of 2019, and CEO Jim Collins recently affirmed it during the fourth-quarter earnings call in early February.

There's a problem

Unfortunately, by the management's own admission, company performance hasn't been what it could have recently. As such, hitting its earnings targets will not be a walk in the park. For example, on the recent earnings call Collins said "I am not satisfied with our relatively flat earnings over the past three years."

He went on to say, "We recognize that our 2020 performance was not where we need to be in terms of realizing the full operating leverage from organic growth and productivity programs in our earnings."

Indeed, it's a performance that means management needs to increase EBITDA by around $360 million in 2021 and $500 million in 2022 just to make the midpoint of its guidance.

Data source: Corteva presentations and author's analysis. *Based on recent full-year 2021 guidance. **Based on midterm guidance.

It's something that hasn't escaped the interest of Starboard Value, which made an initial investment in Corteva in 2019. Indeed, in a letter to Corteva's board in January, Starboard CEO Jeffrey Smith expressed his "increasing dismay as management continues to take credit for achieving ever-increasing synergy milestones without consequent improvement in profitability." Smith went on to describe Collins' tenure as "incredibly disappointing" with a track record "littered with missed expectations and promises."

What's needed now

Clearly, management and its guidance are under some pressure, and Wall Street analysts have Corteva's EBITDA at around $2.81 billion in 2022 -- a figure just above the bottom of the implied guidance range.

A soybean field. Image source: Getty Images.

Collins argues that the productivity and manufacturing savings will start to kick in for the crop protection operations in 2021 while on the seed and traits side Corteva should see strong demand from an improving market.

Meanwhile, Collins expects a "noticeable improvement in net royalty expense" as Corteva ramps up sales and increases the share "of those sales that are in Corteva germplasm." In particular, the Enlist system is seen as leading a shift toward Corteva's proprietary-based sales. That will be good for profit margin and therefore earnings growth

Is Corteva a buy?

The case for a significant improvement in earnings is compelling, even if it's at a level that won't satisfy Starboard Value. Meanwhile, the recent earnings and market commentary from Deere confirms an improving environment for U.S. crop farmers. As such, Corteva looks set for a strong 2021, and the potential to grow Enlist sales and reduce royalty payments is significant. In addition, the evidence from the order book of agricultural machinery company, Deere, suggests sentiment around spending is good among crop farmers in 2021. 

If you are willing to tolerate some potential volatility in the event Corteva has to walk back its mid-term guidance and Starboard continues to agitate, the stock remains attractive for long-term investors. Trading on less than 20 times estimated 2022 earnings and with significant potential for long-term growth, with or without Starboard, Corteva looks a good value.