Ag Growth International

I have taken today to complete my position in Ag Growth International (TSX: AFN), a Winnipeg-based company that can be classified as “all things grain-related”. I started picking up shares in the 16s and even 15s but today was a good chance to top it up to a full position. I also have a small portion of the debentures (TSX: AFN.DB.D).

I’ll spare you from the cut-and-paste description of their business from their annual information form, but the business is about providing everything you can imagine it takes running a grain and feed-based farm on an industrial scale. The sales from the business are international, and they are an integrator of various agricultural technologies.

The stock is not widely followed. There is hardly any ‘buzz’ at all from the usual message boards, BNN, etc., which is always a plus (less buzz means less competition for accurate stock pricing).

The thesis for the recovery of this COVID-19 investment (the stock has been taken down about 2/3rds since the COVID-19 pandemic) is pretty simple.

People have to eat. Food has to be grown (whether plant or animal) and the quantities of food that need to be produced require industrialization and equipment. Farming for over a century has shifted toward industrialization which promotes gigantic yields, and this industrialization requires investment in proper capital equipment to obtain these yields.

As long as the population is rising, food consumption will remain a core industry where demand over a medium range period of time will be steady – any demand not met today will simply be reflected in demand experienced later on in time.

Thus, COVID-19 should have a transient effect on the business of AFN.

Financially, 2019 was a poor year due to various cyclicalities of the grain business. In a more “normal” earnings environment, the company should be able to earn at least $3/share of GAAP net income and I would expect to see this in future years. The only financial issue of concern (and likely the reason why the stock has been taken down so much) is that they are quite leveraged, with about half of their debt via a senior secured revolving credit line, and the other half through issued unsecured debentures (AFN.DB.D to H on the TSX), which currently trade at YTMs of 10-12%. The original cost of capital for the unsecured debt was around 5%, and the secured debt at a function of LIBOR plus 1.45 to 2.5%. At the end of 2019 the combined rate was 5.11%, but this surely has gone down due to the rate cuts post-COVID-19.

To this extent, they made the not so surprising news release last night that they are reducing their dividend from $2.40/share to $0.60/share and this will allow them to deleverage. They extended the credit facility to 2025, and obtained a relaxation of the senior debt covenant. The next issue of debt that is due is AFN.DB.D, which is due on June 2022, and is also convertible into stock at 95% of TSX market value if the company so chooses – typically in the past it has rolled over the debt and when things normalize that is the likely route here.

The risk is that COVID-19 is prolonged and there will be some form of permanent demand destruction among the customers (e.g. if the industrial farms were to exhibit financial stress and had to scale back their capital investments), but I am discounting this possibility in the longer term just simply because of what I wrote in the earlier – people have to eat, and capital investment in farm equipment is required to facilitate this need. It is easily conceivable that we can see a $60 stock price again like two years ago, but it will take some time to get there. I can wait.