Contrary to what many fearful Australians may have felt over the last month, the country does not have a food supply problem.

Indeed, this is why professional investors are using the market crisis caused by the COVID-19 pandemic to buy into certain parts of the sector: because other countries want our food, too.

Pac Partners’ agriculture analyst Paul Jensz went in early, saying even Elders (ASX:ELD) could be a buy right now.

Late last week Morgans analysts Tom Sartor and Andrew Tang said food staples would prove to be among the “most resilient to COVID-19 impacts”. These would include Coles (ASX:COL), Freedom Foods (ASX:FDM) and A2 Milk (ASX:A2M).

“Food and beverage stocks are relatively defensive investments given consumers are stockpiling household essentials,” they wrote in a note.

“Freedom Foods reported that it is experiencing strong demand for key products including UHT dairy and plant beverages and cereals and snacks. It is our key pick in the sector. A2 Milk has noted stronger than expected sales due to COVID-19. We also think that Inghams is benefiting from strong retail sales.”

But these are all the big boys.

Altor Capital portfolio manager David McNamee says there is deep value across the agricultural sector in small caps too, provided the companies share some crucial characteristics.

 

What to look for when investing in ag stocks

McNamee looks for two elements: a high quality brand and a defensible product.

“We fundamentally believe that if you’ve got a product and a brand that’s high end, particularly if you’re selling into Asia, then demand for that is going to continue,” he told Stockhead.

“The Asia theme has tailwinds for at least 10 years.”

But agriculture is a risky business.

Business models that rely on a variety of different small producers can be opaque, and most farmers are at the mercy of the weather, making droughts, floods and cyclones a real risk.

And much of agriculture, whether it’s dairy products, wheat or beef, is a commodity business, meaning there is a lot of competition and is difficult to dictate prices.

McNamee looks for the few rare businesses that can control their environment and which are making or selling high end products with high barriers to entry, which will allow them to set prices.

Finally, companies which have a tech or a ‘picks and shovels’ angle where a company sells a service into the sector are alternatives to investing directly in a cattle or fish grower.

 

Hot stocks: The tech angle

McNamee’s favourite ag stock is Bio-Gene (ASX:BGT), a company which fits his tech or supplier angle.

“Bio-Gene is one of the ones which have stood out because it’s more of a platform technology, and one that is extremely difficult and rare to find because it’s a novel mode of action,” he said.

Many insecticides are neonicotinoids. These pose a threat to many species of bees, the pollinators of about one-third of the food we eat. A ban in Europe in 2018 was a win for bees, but a problem for agriculturalists who have few other products available to deal with insect pests.

Bio-Gene’s synthetic Flavocide is not a neonicotinoid and last week hit 13 months of effectiveness against grain storage pests such as borer, and has been shown to be effective against resistant populations of mosquitoes carrying malaria, dengue and zika virus.

“One day you’ll get to a point where it suddenly becomes an enormous issue for the production of food,” he said.

“The problem is you have a trade off between growing populations that need food, but to be able to meet those requirements you need to use agricultural chemicals.”

Bio-Gene has long-term data supporting the effectiveness of its pesticide, as well as relationships with influential key opinion leaders, such as its lead researcher in infectious disease professor Catherine Hill from Purdue University, and global companies BASF and Australia’s Grains Research and Development Corporation.

 

Hot stocks: The brand factor

Companies with high quality brands include Murray Cod (ASX:MCA) and New Zealand Coastal Seafood (ASX:NZS).

McNamee says while both are primary producers, both companies have managed to control the environments in which their stock grows.

Murray Cod breeds and grows the fish its named for using a land-based model in the Riverina region of NSW that involves man-made ponds and irrigated water.

The company has been rapidly ramping up its growing capacity for the last two years, with the most recent acquisition being a lease over a nearby hatchery that will increase its capacity to grow juvenile fish by 2.5 times.

New Zealand Coastal Seafood is a secondary producer, buying fresh fish for its nutraceutical and seafood products, which include mussel powder and oils ling maw collagen, seaweed extract, and oyster powder.

 

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Hot stocks: The pre-IPO ones to watch

The likes of Bio-Gene are already listed, but McNamee also carefully watches the pre-IPO sector.

Top on his list is FFG, the maker of Nutura infant milk formula which is planning to list in the second half of this year.

FFG sells into Malaysia, Singapore, Macau, Hong Kong and Australian daigou (‘to buy on behalf of’) channels, and is aiming to launch into China once it has secured a deal with a manufacturer that is licensed to make infant formula for that market.

McNamee says its pre-IPO valuation was “a lot lower” than its listed competitors and its strong branding in Asia as well as relationships with distributors there make it a compelling investment.

Pure Food Tasmania is a collection of brands and is backdoor listing onto the ASX via Bunji Corporation.

It had sales of $3.8m in 2018-19, up from $3.6m a year earlier, of its smoked salmon and Tasmanian pâté.

McNamee says this company is the epitome of one that has collected very high quality brands with high barriers to entry, that isn’t beholden to the actual pricing of the underlying commodity.

 

Hot stocks: Tiddlers to keep an eye on

For the truly patient, McNamee has two companies which are just out of CSIRO, so any future listing is likely a long way off.

Sea Forrest started last year with a plan to commercialise a type of seaweed as a cattle feed in order to reduce methane emissions, and reduce feed costs.

As of last year the company hoped to start production in the June quarter this year, and was in talks with a large diary producer for offtake volumes and to begin commercial dairy trials.

The other is Mapcite, a pre-IPO company involved in big data analysis, which is working with large cattle stations to map animal movements using drones and artificial intelligence.