NEW YORK ( IPOfinancial) -- Perhaps the worst-kept secret on Wall Street in the last year and a half has been the across-the-board surge in commodity prices. Between the growing wealth of emerging market countries and the reaction to deficit spending by large economies, the conditions are ripe for producers of raw goods to grow rapidly.

Adecoagro ( AGRO), is a diverse South America-based agricultural company with separate business lines spanning farming, cattle, land transformation and energy, all of which benefit from current trends.
  • Adecoagro SA: AGRO
  • Lead Underwriter: Credit Suisse
  • 28,571,000 Common Shares
  • Current Price Range: $13 to $15
  • Deal Size to the mid-range: $400 million
  • Week Due Jan. 24, 2011
  • Sector: Agricultural Operations

The company has seen its sales explode, with a CAGR of 48% from 2007 to 2009 and +38% improvement in the first three quarters of the year. Among the key factors for growth has been sales in corn and soybean, which are up +112% and +77%, respectively, in the first nine months of 2010 from the comparable period in 2009. That being said, the largest segments by total revenue remain rice and ethanol, the latter of which will expand production following the allocation of IPO proceeds.

At first glance, it may be puzzling as to why a company growing so fast, with a reasonable debt structure, is still not recording an accounting profit. In reality, AGRO has had to incur non-cash expenses that have skewed its earnings. Even though higher food and cattle prices have increased sales, the accounting benefit is somewhat offset because the markup in total inventory value has made depreciation expenses much higher.

In the first nine months of 2010, it incurred more than $100 million in charges as a result of faster depreciation and amortization. It also ran into a problem in its sugar market last year, as sugar prices fell by 50% from their early 2010 high of $30 before making a late-year recovery to a 30-year high.

As with many foreign listings, the clarity provided into quarterly results is limited, but we maintain a positive view on worldwide demand for the products that AGRO produces. With the addition of about $280 million of proceeds to fund new farmland acquisitions and a new sugar and ethanol mill in Brazil, strong earnings growth will remain in the cards.

The deal is being led by a team of private equity investors including Pampas Humedas, a George Soros-affiliated fund. Many U.S.-led private equity deals have had trouble pricing in the last year, but in comparable foreign offerings, where PE maintained most of its shares and had a compelling case for additional proceeds, the fate has been much better.

While all of its major investors are selling some stock at the offering, the internal component amounts to only 25% of the offering and no investor is shedding more than 12% of his or her total stake. Many private equity firms can't dump shares of an investment quickly enough after the offering, but based on the significant price disparity between the average acquisition cost of $2.20 and the likely IPO price, its reassuring that so far their actions speak favorably about the future.

Additionally, AGRO has an existing agreement to sell $100 million in additional equity to Al Gharafa, a subsidiary of the government of Qatar, at $13.44 per share. Though not etched in stone, sovereign wealth funds typically have a longer time horizon for investments than private equity or hedge funds.

Despite strong industry trends, only one agricultural company has tried making its case to the IPO market in the last two years. Le Gaga Holdings, a Chinese greenhouse produce grower, completed its October 2010 offering at the top of its anticipated range, but after a few solid trading days, it has fallen more than 30% in the after-market.

Because AGRO has such a diverse product offering and isn't dependent only on China for revenue growth, we do not expect it will run into the same difficulty attracting investors that has thus far plagued GAGA. While making restatements to its balance sheet will remain a work in progress with volatile commodity price moves, we expect strong growth in each of its product segments and the eventual addition of new capacity.

Valuations are attractive within the $13 to $15 price range and we expect the stock to perform well in the after-market, regardless of whether sentiment is favorable on the first day of trading. Therefore, we are adopting a buy rating of AGRO and recommend it for investors who are bullish on emerging markets and commodity prices.
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