Archer-Daniels-Midland

Moat: 3/5

Understandability: 3/5

Balance Sheet Health: 4/5

Archer-Daniels-Midland Company (ADM) is a global agricultural supply chain manager and processor, connecting producers and consumers worldwide through the merchandising, transporting, and processing of agricultural commodities. ADM’s main focus areas are food, beverage, industrial, and animal feed ingredients and solutions.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview

ADM stands as one of the world’s leading agricultural processors and merchandisers, operating a vast network of facilities and transportation assets. The company’s operations span across various segments, serving both producers and consumers in a complex global supply chain, emphasizing long-term value creation. ADM operates in the following segments: Ag Services and Oilseeds, Carbohydrate Solutions, Nutrition, and Other Businesses.

  • Ag Services and Oilseeds: This segment focuses on the origination, merchandising, and processing of agricultural commodities, particularly oilseeds and grains. This involves activities like procuring, storing, transporting, and reselling these commodities to customers globally.
  • Carbohydrate Solutions: This segment is involved in processing corn and wheat to produce ingredients for food, industrial, and beverage applications. It includes processes such as milling, refining, and fermentation. Key products include corn sweeteners, starches, ethanol, and wheat flours.
  • Nutrition: This segment focuses on human and animal nutrition, producing ingredients for food, beverage, supplements, pet food, and other applications.
  • Other Businesses: Includes other business activities such as financial services and other miscellaneous revenues.

The agricultural industry is inherently cyclical, and ADM is subject to fluctuating commodity prices, weather patterns, and global demand. Here are some key trends and details:

  • Globalization and Supply Chain Dynamics: The food and agriculture industry is increasingly globalized, with complex supply chains spanning multiple countries. Companies like ADM play a vital role in managing this complexity. Supply chains are also seeing more scrutiny due to supply chain bottlenecks, inflationary environment and geopolitical risks.
  • Demand for Sustainable Products: Consumers and regulators are increasingly focused on sustainability, which affects how agricultural products are produced and sourced. ADM is adapting with programs aimed at reducing their environmental impact and promoting sustainable farming practices.
  • Technological Advancements: Technology plays an increasingly important role in agriculture, from data analytics for crop yields to automated processes in manufacturing plants.
  • Competition: The agricultural processing industry is dominated by a few major players. ADM competes with large diversified companies such as Bunge, Cargill, and Louis Dreyfus. These companies possess global presence, diverse portfolios, and integrated supply chains, creating a challenging competitive landscape.

Moat Analysis

ADM’s business operates in a competitive commodity business. However, some key characteristics provide it with competitive advantages, creating a narrow moat:

  1. Economies of Scale and Infrastructure {:.important}: ADM’s extensive network of processing facilities and transportation assets create scale advantages. It’s challenging and capital-intensive for a new entrant to replicate this infrastructure. The company’s investment in technology and transportation assets and logistics also helps it to maintain a sustainable supply chain. This is a key advantage, especially when disruptions occur in the global market. For instance, during the invasion of Ukraine, having a presence in several global markets and a robust supply chain helped ADM maintain its profitability. However, this is not an unassailable moat because other competitors like Cargill and Bunge also have massive investments in their infrastructure.
  1. Global Reach and Diversification: ADM’s global presence and diversification across various product segments reduce its exposure to risks tied to specific markets or commodities. If the demand for one particular product is declining, other areas will provide support. They also have the capacity to move products across different geographies, a key advantage when global events cause disruption. However, it is not enough to provide a wide moat due to many of ADM’s products being commodities.
  2. Customer Relationships: ADM has built long-standing relationships with its customers, providing its services for a long time. However, there is no data to suggest that they would prefer ADM’s services compared to others, they may simply use whoever is providing a more competitive price. This creates a weak moat at best.
  1. Intangible Assets : ADM’s focus on innovation in areas like plant-based proteins and animal feed additives creates some differentiation. They have developed some unique techniques that may require a longer time to compete against. However, these are not durable enough to give them a wide moat.
  2. Switching Costs: Switching costs are virtually non-existent in the agricultural commodities space, due to which ADM does not really have much of an advantage from customer lock-in. Customers are more likely to switch to companies that provide better prices, hence, the switching cost advantage is also not significant enough for a wide moat.

Moat Rating: 3 / 5. ADM has several competitive advantages but they are not strong enough to classify as a wide moat. This is mainly due to its products primarily being commodities. A narrow moat is more reasonable.

Risks to the Moat and Resilience

Here are some potential threats that could harm the company’s moat and business:

  • Commodity Price Volatility: ADM’s profitability is highly correlated with changes in commodity prices. Volatile commodity prices can cause its revenues and margins to fluctuate severely. Management has often cited managing the risks involved with volatile commodity prices.
  • Geopolitical Risks and Supply Chain Disruptions: Due to ADM’s global operations, it has significant exposure to geopolitical risks and supply chain disruptions. They need to constantly manage these external forces to maintain the business’s stability.
  • Increased Competition: The agricultural commodity processing space is dominated by global giants such as Cargill and Bunge. Increased competition may erode ADM’s advantages by driving down pricing power.
  • Changing Consumer Preferences: Shifting consumer preferences towards more sustainable or healthier options could shift customer demand away from ADM’s traditional product lines if they don’t innovate and adapt accordingly. This is a big reason for focusing more on plant based food products.
  • Regulatory Issues: ADM is subject to various regulations in each of the various countries they operate, including environmental policies, tariffs, and trade regulations, increasing compliance costs and impacting their operations.
  • Climate Change : Climate change may alter weather patterns, impacting crop yields, and increasing their input prices. Changes to weather also increases their logistics cost for transportation.

Business Resilience: ADM’s size, infrastructure, and global presence, provide resilience during periods of economic distress. Their focus on sustainability helps attract conscious customers and their push into new products makes them more flexible. However, it’s not enough to guarantee their success.

Financial Analysis

Looking at the financials of ADM, we can see the following:

  • Revenues: ADM’s revenue comes primarily from the Ag Services and Oilseeds segment, followed by Carbohydrate Solutions and Nutrition. Exhibit 36 shows the 9 months of the year from different segments. The most recent reports show that revenue for Ag Services and Oilseeds are at $19.5B, Carbohydrate Solutions is at $12.8B, and Nutrition is at $5B. The combined net sales were $41.6B in 2023 compared to $50.7B in 2022. The drop in revenue was due to a decrease in commodity prices.
  • Margins: Operating profits vary between each segment, as well as over different years. The gross profit margins were 11.1% in 2023 compared to 11.5% in 2022. While operating profit margins in Ag Services and Oilseeds have historically been low, they tend to have a good cash flow. Nutrition and Carbohydrate Solutions are more profitable, but have a lot of expenses associated with them. During periods of low prices, overall profitability will fall sharply, creating more volatility.

Note that the cost of sales for ADM often includes commodity price fluctuations. Any rise in raw material prices will show a negative effect on their margins.

  • Return on Invested Capital (ROIC): ADM’s ROIC has been between 5-15% over the past few years, averaging about 10%. This varies depending on fluctuations in commodity prices and global operations. This is a low but stable rate of return that reflects the commoditized nature of their business. It’s not really low enough to create a great competitive advantage, but it is also not poor enough to declare a poor business.
  • Free Cash Flow (FCF): ADM has been a consistently positive FCF business over the past several years. It allows them the flexibility to conduct expansions, acquisitions, and to buy back shares. However, the recent quarters have seen large drops in FCF, mainly due to a buildup of inventories because of weaker market demand.

During times of economic uncertainty, free cash flow may shrink due to lower demand.

  • Balance Sheet: ADM has seen an increase in debt from 2021 to 2023. They currently hold a debt-to-equity ratio of about 0.9. This means that for every dollar of equity, they have about $0.9 of debt. Total assets were around $73B at the end of 2023. While their debt is large, it is manageable and within acceptable limits for their industry.
  • Share Buyback: ADM uses stock buyback as a way of returning money to the shareholders. In 2022, they repurchased $1.5 billion worth of shares, but reduced their share buyback to $250 million in the next fiscal year.
  • Share Dilution: Despite buybacks, ADM has continued to dilute shareholder’s value through stock-based compensation. In 2023, their shares went from 538 million to 551 million.

Share buyback and share dilutions should be checked during analysis, it shows the management’s view on value, as well as their discipline in managing shares.

Understandability

3 / 5. ADM’s business model is complex with its global operations and many types of businesses that it is involved with. However, the main ideas about this business are easy to follow. Understanding their financial statements also requires some experience to find all the details you need. Their main segments are easy to understand as well, that they buy, process and sell commodities, but their operations are not very straightforward.

Balance Sheet Health

4/5. ADM’s balance sheet is considered good, as they have enough assets for their liabilities and a low probability of default. However, their reliance on debt is a mild concern, because of which they are not given a perfect score. Their focus on cash generation and strong history in terms of paying their debt helps to provide a good degree of financial security.

Recent Concerns, Controversies, and Management Response

  • Accounting Investigation: A key recent issue is the ongoing review of the company’s accounting practices by the SEC. This has been causing concern and uncertainty among the investors, and they have been monitoring the situation very closely. In their latest earnings call, ADM noted that the management is cooperating with the regulators and will provide all data requested, but there is no more new information regarding their accounting issues. The management stated “We are working to close that process with the SEC quickly and we will continue to be transparent with you as we move through that process.” The company added that they “are confident in the outcomes that will result”.
  • Supply Chain Issues: The company has had concerns from supply chain bottlenecks and geopolitical risks. However, they note that their robust global system has allowed them to adapt. Their transportation capabilities are key in managing supply chain issues and have been a vital part of the company’s history.
  • Commodity Prices: ADM is highly volatile to fluctuations in commodity prices. They do not focus on how to predict or anticipate fluctuations in commodities but try to protect themselves from such fluctuations. They have also been impacted by high input and transport costs, especially during the inflationary era of 2022.
  • Acquisition Integration: While they have been acquiring many different companies, management has made it clear that integration and synergizing of these acquisitions is their top priority. They want to make sure that these acquisitions deliver the results as promised, which would also take significant time.

Conclusion

ADM is a business that has survived and thrived for a long time. Their business is fairly resilient and profitable but due to high volatility and commoditization of their products, they are not an exceptional investment either. The ongoing investigation is a cause of concern, but if resolved, then this company could be a reasonable investment for the long term. They would be suitable for a more risk averse investor with a long term approach as they give a reasonably stable return over a longer term.