Starboard Value LP’s Jeff Smith last week launched a new campaign urging Corteva Inc. (CTVA), a large U.S. maker of agricultural seeds and crop protection chemicals, to improve its “operational execution” and “close” a margin gap with peers.
In a 20-page presentation, Smith argued there is a significant opportunity to streamline operations and improve margins, yet he didn’t provide any concrete operational recommendations.
After Dow Chemical Co. merged with E.I. DuPont de Nemours Inc. in 2017, Corteva was spun off last year as an independent agricultural chemical business.
Smith’s presentation was mostly positive. However, Starboard’s track record of proxy fights at targeted companies suggests Smith could escalate his insurgency and nominate director candidates by a Dec. 19 director nomination deadline for Corteva’s 2021 annual meeting if Corteva doesn’t make significant changes in the near term.
In the presentation, Starboard said it is “aligned with” Corteva’s board and management team in its view of Corteva’s asset quality. No mention was made of similar alignment with Corteva’s strategy, directors or C-suite.
Analysts agree that Corteva has promised synergies from the combination of DuPont Pioneer, DuPont Agriculture and Dow Agriculture that have not yet materialized. They contend Starboard could launch a director contest if Corteva does not make significant changes in the near term.
Jonas Oxgaard, an analyst at Sanford C. Bernstein & Co. LLC, noted Starboard’s critique is focused on how Corteva isn’t doing a great job controlling costs. He said Corteva is expected to produce $2 billion in Ebitda in 2020, roughly in line with the $2 billion of pro-forma earnings it produced in 2018. At the same time, he added, Corteva in 2019 promised $1 billion in synergies from the combination that have yet to be realized.
“The external benchmarking suggests that there are internal opportunities to improve margins,” Oxgaard said.
Oxgaard said Starboard likely wants Corteva to consider ways to drive cost reductions, such as selling, general and administrative cost cuts, overhauling procurement practices and outsourcing production.
He noted that most of Corteva’s crop production chemicals are produced in the U.S. at high cost, whereas competitor FMC Corp. (FMC) produces most of its crop protection chemicals in China. “If you can outsource some of the production,” Oxgaard said, “you can reduce costs.”
He acknowledged that FMC has some advantages, one of which is its ownership of the highly successful Rynaxypyr crop protection asset it acquired from DuPont in 2017 to meet antitrust requirements.
If Corteva’s share price doesn’t improve, Starboard could target CEO James Collins Jr., analysts said. Before taking his current role, Collins held several roles, including senior ones, at DuPont over the past 30 years, according to BoardEx.
Oxgaard noted the choice of Collins, a DuPont insider, as Corteva’s CEO disappointed many big investors, though Collins is a “consensus builder” who did a great job under difficult circumstances to combine the various companies that made up Corteva.
Oxgaard added he suspects that Starboard wants to work with Collins but that it could launch a director contest to try and force him out if margins don’t improve.
“There is a perception that Jim is not hard-nosed enough to close plants and cut costs in an aggressive manner, and that is why he has an uphill battle to fight,” Oxgaard said. “Corteva, a company that has everything going for it, operating essentially in a duopoly with Bayer in seeds, yet it is still delivering zero earnings growth.”
Mark Connelly, an analyst at Stephens Inc., said Corteva has achieved substantial synergies from the combination that created it, but margins have not improved. “Somewhere along the way those synergies are being offset before they make it to the bottom line,” Connelly said.
However, he argued that Corteva has structural challenges that make it hard for the company to fully close its margin gap with rivals.
“I don’t believe that structurally they are in a position to get to the industry average in the next five years,” Connelly said.
He added that one key issue is that Corteva pays significant royalty payments to Bayer to obtain the right to use highly coveted traits for the seeds it sells to farmers. Corteva is “developing some traits of [its] own, but it is highly unlikely that Corteva will come close in the next 10 years to the licensing revenue that Monsanto generates with its traits, and that is a big margin driver.”
Connelly noted that Corteva’s big new recent product is its Enlist soybean system. He conceded, however, that soybeans are much less profitable than corn and that Monsanto is far ahead in corn seed technology. As a result, he contended Enlist is unlikely to move margins very far.
He also said Corteva spends heavily on R&D and hopes to pay dramatically less in licensing fees for seeds by 2027. For the foreseeable future, though, Corteva will continue to pay large licensing fees to Monsanto. He added that perhaps Corteva should cut back on corn trait R&D and concentrate on breeding and producing for crop segments that are experiencing growth, such as yellow peas that are used in fake meat products.
“Corteva wants to get out from under all these corn royalties but corn demand has peaked, and there are newer markets that look more promising,” he said. “That shift would save a lot of R&D money, and we think that money can be put to better use elsewhere.”