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Innovation trends in agriculture and their implications for M & A analysis

Innovation trends in agriculture and their implications for M & A analysis published on

This is a repost from the Mergers in Ag-Biotech blog symposium over at Truth on the Market. If you’re interested in more perspectives on the topic, I encourage you to read the other posts there.  If you’d like to comment, please do so on the TOTM version so it’s part of the general discussion.

The US agriculture sector has been experiencing consolidation at all levels for decades, even as the global ag economy has been growing and becoming more diverse. Much of this consolidation has been driven by technological changes that created economies of scale, both at the farm level and beyond.

Likewise, the role of technology has changed the face of agriculture, particularly in the past 20 years since the commercial introduction of the first genetically modified (GMO) crops. However, biotechnology itself comprises only a portion of the technology change. The development of global positioning systems (GPS) and GPS-enabled equipment have created new opportunities for precision agriculture, whether for the application of crop inputs, crop management, or yield monitoring. The development of unmanned and autonomous vehicles and remote sensing technologies, particularly unmanned aerial vehicles (i.e. UAVs, or “drones”), have created new opportunities for field scouting, crop monitoring, and real-time field management. And currently, the development of Big Data analytics is promising to combine all of the different types of data associated with agricultural production in ways intended to improve the application of all the various technologies and to guide production decisions.

Now, with the pending mergers of several major agricultural input and life sciences companies, regulators are faced with a challenge: How to evaluate the competitive effects of such mergers in the face of such a complex and dynamic technology environment—particularly when these technologies are not independent of one another? What is the relevant market for considering competitive effects and what are the implications for technology development? And how does the nature of the technology itself implicate the economic efficiencies underlying these mergers?

Before going too far, it is important to note that while the three cases currently under review (i.e., ChemChina/Syngenta, Dow/DuPont, and Bayer/Monsanto) are frequently lumped together in discussions, the three present rather different competitive cases—particularly within the US. For instance, ChemChina’s acquisition of Syngenta will not, in itself, meaningfully change market concentration. However, financial backing from ChemChina may allow Syngenta to buy up the discards from other deals, such as the parts of DuPont that the EU Commission is requiring to be divested or the seed assets Bayer is reportedly looking to sell to preempt regulatory concerns, as well as other smaller competitors.

Dow-DuPont is perhaps the most head-to-head of the three mergers in terms of R&D and product lines. Both firms are in the top five in the US for pesticide manufacturing and for seeds. However, the Dow-DuPont merger is about much more than combining agricultural businesses. The Dow-DuPont deal specifically aims to create and spin-off three different companies specializing in agriculture, material science, and specialty products. Although agriculture may be the business line in which the companies most overlap, it represents just over 21% of the combined businesses’ annual revenues.

Bayer-Monsanto is yet a different sort of pairing. While both companies are among the top five in US pesticide manufacturing (with combined sales less than Syngenta and about equal to Dow without DuPont), Bayer is a relatively minor player in the seed industry. Likewise, Monsanto is focused almost exclusively on crop production and digital farming technologies, offering little overlap to Bayer’s human health or animal nutrition businesses.

Despite the differences in these deals, they tend to be lumped together and discussed almost exclusively in the context of pesticide manufacturing or crop protection more generally. In so doing, the discussion misses some important aspects of these deals that may mitigate traditional competitive concerns within the pesticide industry.

Mergers as the Key to Unlocking Innovation and Value

First, as the Dow-DuPont merger suggests, mergers may be the least-cost way of (re)organizing assets in ways that maximize value. This is especially true for R&D-intensive industries where intellectual property and innovation are at the core of competitive advantage. Absent the protection of common ownership, neither party would have an incentive to fully disclose the nature of its IP and innovation pipeline. In this case, merging interests increases the efficiency of information sharing so that managers can effectively evaluate and reorganize assets in ways that maximize innovation and return on investment.

Dow and DuPont each have a wide range of areas of application. Both groups of managers recognize that each of their business lines would be stronger as focused, independent entities; but also recognize that the individual elements of their portfolios would be stronger if combined with those of the other company. While the EU Commission argues that Dow-DuPont would reduce the incentive to innovate in the pesticide industry—a dubious claim in itself—the commission seems to ignore the potential increases in efficiency, innovation and ability to serve customer interests across all three of the proposed new businesses. At a minimum, gains in those industries should be weighed against any alleged losses in the agriculture industry.

This is not the first such agricultural and life sciences “reorganization through merger”. The current manifestation of Monsanto is the spin-off of a previous merger between Monsanto and Pharmacia & Upjohn in 2000 that created today’s Pharmacia. At the time of the Pharmacia transaction, Monsanto had portfolios in agricultural products, chemicals, and pharmaceuticals. After reorganizing assets within Pharmacia, three business lines were created: agricultural products (the current Monsanto), pharmaceuticals (now Pharmacia, a subsidiary of Pfizer), and chemicals (now Solutia, a subsidiary of Eastman Chemical Co.). Merging interests allowed Monsanto and Pharmacia & Upjohn to create more focused business lines that were better positioned to pursue innovations and serve customers in their respective industries.

In essence, Dow-DuPont is following the same playbook. Although such intentions have not been announced, Bayer’s broad product portfolio suggests a similar long-term play with Monsanto is likely.

Interconnected Technologies, Innovation, and the Margins of Competition

As noted above, regulatory scrutiny of these three mergers focuses on them in the context of pesticide or agricultural chemical manufacturing. However, innovation in the ag chemicals industry is intricately interwoven with developments in other areas of agricultural technology that have rather different competition and innovation dynamics. The current technological wave in agriculture involves the use of Big Data to create value using the myriad data now available through GPS-enabled precision farming equipment. Monsanto and DuPont, through its Pioneer subsidiary, are both players in this developing space, sometimes referred to as “digital farming”.

Digital farming services are intended to assist farmers’ production decision making and increase farm productivity. Using GPS-coded field maps that include assessments of soil conditions, combined with climate data for the particular field, farm input companies can recommend the types of rates of applications for soil conditioning pre-harvest, seed types for planting, and crop protection products during the growing season. Yield monitors at harvest provide outcomes data for feedback to refine and improve the algorithms that are used in subsequent growing seasons.

The integration of digital farming services with seed and chemical manufacturing offers obvious economic benefits for farmers and competitive benefits for service providers. Input manufacturers have incentive to conduct data analytics that individual farmers do not. Farmers have limited analytic resources and relatively small returns to investing in such resources, while input manufacturers have broad market potential for their analytic services. Moreover, by combining data from a broad cross-section of farms, digital farming service companies have access to the data necessary to identify generalizable correlations between farm plot characteristics, input use, and yield rates.

But the value of the information developed through these analytics is not unidirectional in its application and value creation. While input manufacturers may be able to help improve farmers’ operations given the current stock of products, feedback about crop traits and performance also enhances R&D for new product development by identifying potential product attributes with greater market potential. By combining product portfolios, agricultural companies can not only increase the value of their data-driven services for farmers, but more efficiently target R&D resources to their highest potential use.

The synergy between input manufacturing and digital farming notwithstanding, seed and chemical input companies are not the only players in the digital farming space. Equipment manufacturer John Deere was an early entrant in exploiting the information value of data collected by sensors on its equipment. Other remote sensing technology companies have incentive to develop data analytic tools to create value for their data-generating products. Even downstream companies, like ADM, have expressed interest in investing in digital farming assets that might provide new revenue streams with their farmer-suppliers as well as facilitate more efficient specialty crop and identity-preserved commodity-based value chains.

The development of digital farming is still in its early stages and is far from a sure bet for any particular player. Even Monsanto has pulled back from its initial foray into prescriptive digital farming (call FieldScripts). These competitive forces will affect the dynamics of competition at all stages of farm production, including seed and chemicals. Failure to account for those dynamics, and the potential competitive benefits input manufacturers may provide, could lead regulators to overestimate any concerns of competitive harm from the proposed mergers.

Conclusion

Farmers are concerned about the effects of these big-name tie-ups. Farmers may be rightly concerned, but for the wrong reasons. Ultimately, the role of the farmer continues to be diminished in the agricultural value chain. As precision agriculture tools and Big Data analytics reduce the value of idiosyncratic or tacit knowledge at the farm level, the managerial human capital of farmers becomes relatively less important in terms of value-added. It would be unwise to confuse farmers’ concerns regarding the competitive effects of the kinds of mergers we’re seeing now with the actual drivers of change in the agricultural value chain.

TOTM Blog Symposium on Ag and Biotech M&A

TOTM Blog Symposium on Ag and Biotech M&A published on

My friends at Truth on the Market are hosting a blog symposium later this week including yours truly. It should be an interesting set of perspectives:

Agricultural and Biotech Mergers: Implications for Antitrust Law and Economics in Innovative Industries

March 30 & 31, 2017

Earlier this week the European Commission cleared the merger of Dow and DuPont, subject to conditions including divestiture of DuPont’s “global R&D organisation.” As the Commission noted:

The Commission had concerns that the merger as notified would have reduced competition on price and choice in a number of markets for existing pesticides. Furthermore, the merger would have reduced innovation. Innovation, both to improve existing products and to develop new active ingredients, is a key element of competition between companies in the pest control industry, where only five players are globally active throughout the entire research & development (R&D) process.

In addition to the traditional focus on price effects, the merger’s presumed effect on innovation loomed large in the EC’s consideration of the Dow/DuPont merger — as it is sure to in its consideration of the other two pending mergers in the agricultural biotech and chemicals industries between Bayer and Monsanto and ChemChina and Syngenta. Innovation effects are sure to take center stage in the US reviews of the mergers, as well.

What is less clear is exactly how antitrust agencies evaluate — and how they should evaluate — mergers like these in rapidly evolving, high-tech industries.

These proposed mergers present a host of fascinating and important issues, many of which go to the core of modern merger enforcement — and antitrust law and economics more generally. Among other things, they raise issues of:

  • The incorporation of innovation effects in antitrust analysis;
  • The relationship between technological and organizational change;
  • The role of non-economic considerations in merger review;
  • The continued relevance (or irrelevance) of the Structure-Conduct-Performance paradigm;
  • Market definition in high-tech markets; and
  • The patent-antitrust interface

Beginning on March 30, Truth on the Market and the International Center for Law & Economics will host a blog symposium discussing how some of these issues apply to these mergers per se, as well as the state of antitrust law and economics in innovative-industry mergers more broadly.

As in the past (see examples of previous TOTM blog symposia here), we’ve lined up an outstanding and diverse group of scholars to discuss these issues:

  • Allen Gibby, Senior Fellow for Law & Economics, International Center for Law & Economics
  • Shubha Ghosh, Crandall Melvin Professor of Law and Director of the Technology Commercialization Law Program, Syracuse University College of Law
  • Ioannis Lianos,  Chair of Global Competition Law and Public Policy, Faculty of Laws, University College London
  • John E. Lopatka(tent.), A. Robert Noll Distinguished Professor of Law, Penn State Law
  • Geoffrey A. Manne, Executive Director, International Center for Law & Economics
  • Diana L. Moss, President, American Antitrust Institute
  • Nicolas Petit, Professor of Law, Faculty of Law, and Co-director, Liege Competition and Innovation Institute, University of Liege
  • Levi A. Russell, Assistant Professor, Agricultural & Applied Economics, University of Georgia
  • Joanna M. Shepherd, Professor of Law, Emory University School of Law
  • Michael Sykuta, Associate Professor, Agricultural and Applied Economics, and Director, Contracting Organizations Research Institute, University of Missouri

Initial contributions to the symposium will appear periodically on the 30th and 31st, and the discussion will continue with responsive posts (if any) next week. We hope to generate a lively discussion, and readers are invited to contribute their own thoughts in comments to the participants’ posts.

The symposium posts will be collected here.

We hope you’ll join us!

 

 

SCOTUS Rejects USDA's Raisin Cartel

SCOTUS Rejects USDA's Raisin Cartel published on

A couple years ago I posted (here) about a lawsuit progressing through the courts concerning the USDA’s raisin marketing order. The Raisin Administrative Committee (RAC) basically sets a quota on the amount of raisins that can be marketed in a given year as a way of maintaining high-priced raisins. The RAC requires produ799184_1280x720cers to turn a portion of their crop over to the RAC, which then markets the “excess” raisins to other countries or uses.

Today, the US Supreme Court ruled in Horne v. Department of Agriculture that the USDA-sponsored Raisin Administrative Committee’s process amounts to an unconstitutional governmental “taking”. Apparently the decision is limited to the raisin program and it opens the doors to other ways for the USDA to control the raisin market, but the decision also raises questions about the constitutionality of other agricultural commodity programs.

 

A GMO Rose By Any Other Name?

A GMO Rose By Any Other Name? published on

An interesting article in today’s New York Times on how some companies are circumventing regulatory barriers in developing new plant varieties by using “genetic editing” rather than “genetic engineering,” which is often referred to as GMO. The difference? Not the outcome (a plant that’s DNA is changed to express different traits); just the way in which the genetic change is produced. From the article (emphasis added):

Regulators around the world are now grappling with whether these techniques are even considered genetic engineering and how, if at all, they should be regulated.

 

“The technology is always one step ahead of the regulators,” said Michiel van Lookeren Campagne, head of biotechnology research at Syngenta, a seed and agricultural chemical company.

The problem stems largely from defining (and regulating) genetically modified plants not based on the fact that they are genetically modified, but based on the technological process by which they are modified. Humans have been manipulating plant genes for millennia; more recently using (a growing number of) technologies in the lab rather than long, drawn-out, and less-precise processes in the field. That poses a problem for regulators and critics who need to carefully circumscribe what kind of genetic modifications are, and aren’t, considered acceptable.

Meanwhile, the real question is whether a (genetically modified) rose by any other name (or technology) would still smell as sweet.

 

When Consumers Speak

When Consumers Speak published on

I spent the past week teaching managerial economics in a new masters of agribusiness and entrepreneurship program at Agricultural University-Plovdiv. It was a good opportunity to reinforce (or in some cases introduce) an understanding of property rights and of the role of markets not just to coordinate resources but to elicit, reveal and transmit knowledge throughout the economy. (It was also somewhat apropos that the class ended on the 25th anniversary of the fall of the Berlin wall, and Nov 10 is Bulgaria’s anniversary of the end of Communist control.)

One of the issues we discussed was the sensitivity of many Bulgarians (and Europeans in general) to things like genetically modified organisms (GMOs) in the food supply and the use of antibiotics and growth-stimulating hormones in meat and dairy. We discussed differences in attitudes between consumers in the US (in general) and in Europe, and differences among consumers in the US. We discussed alternate ways of responding to those sensitivities–whether government-imposed regulations or privately-organized initiatives in response to consumer demands. So news this week from the US provided two very timely examples.Continue reading When Consumers Speak

A Tilted Level Playing Field For Farmers

A Tilted Level Playing Field For Farmers published on

Yesterday, the World Trade Organization ruled in favor of the United States on claims that India had violated trade rules by prohibiting imports of US poultry, meat, eggs, and live pigs on “phytosanitary” (i.e., food safety) grounds. The WTO ruling is available here.

US farmer organizations were predictably thrilled by the ruling, since it may force India to open up it’s market to the tune of $300 million a year. I was particularly taken by this quote in the Des Moines Register by David Miller, director of research and commodity services for the Iowa Farm Bureau Federation:

“Iowa and U.S. farmers want a level playing field for international trade and we are confident that the WTO dispute resolution process provides an avenue for that to happen.”

I can only assume, then, that the Iowa Farm Bureau will also support removing the protectionist US sugar program, which restricts sugar imports and causes the price of sugar in the US to be 2 to 3 times higher than the world price of sugar. A recent study by Beghin and Elobeid published in the journal Applied Economic Perspectives and Policy suggests that eliminating the sugar quota would make US consumers better off to the tune of $2.9 to $3.5 billion per year and create as many as 20,000 new jobs.

Of course, that would come at a cost to Iowa corn farmers, who benefit greatly from inflated sugar prices that create a market opportunity for high-fructose corn syrup. Or perhaps what Mr. Miller meant is that Iowa and US farmers want a level playing field for international trade, as long as it tilts in their favor.

Why MO Amendment 1—And Its Opponents—Are Wrong

Why MO Amendment 1—And Its Opponents—Are Wrong published on

When I taught my first agricultural economics class, it happened to be at the peak of the 1998-99 hog industry crisis. I told my students, “Your parents don’t have a Constitutional right to raise hogs.” It was true then, is now, and should continue to be. But largely not for the reasons opponents of Missouri Amendment 1 claim.

You see, a Constitutional right implies an obligation, either positive or negative or both, on the government. For instance, the right to vote requires the government to make it possible for every adult to vote (a positive obligation) and prohibits the government from doing things that impede persons’ rights to vote (a negative obligation). The US Constitution’s 1st Amendment rights to religious freedom, free speech, etc., and the 2nd Amendment are expressed in the Constitution as negative obligations; e.g., “Congress shall make no law…,” or “the right of the people to keep and bear arms shall not be infringed.” But ultimately, the role of the Constitution is to put limits on what the government can, can’t–and must–do.

The text of Constitutional Amendment 1.
The text of Constitutional Amendment 1.
CONSTITUTIONAL AMENDMENT #1
Section 35. That agriculture which provides food, energy, health benefits, and security is the foundation and stabilizing force of Missouri’s economy. To protect this vital sector of Missouri’s economy, the right of farmers and ranchers to engage in farming and ranching practices shall be forever guaranteed in this state, subject to duly authorized powers, if any, conferred by article VI of the Constitution of Missouri. – See more at: http://www.mofb.org/KeepMissouriFarming.aspx#sthash.fca5gKo6.dpuf

The first problem with Missouri Amendment 1 is that it is not clear what obligations it imposes on the government, whether positive or negative. Opponents have argued, with rather disingenuous scare tactics, that the Amendment creates a negative obligation that would prohibit the State from regulating the agriculture industry in any way, leaving agricultural producers with free rein to abuse the animals they produce and the land and watersheds they work. Not only is that a grossly unfair and inaccurate characterization of the agriculture industry, it is also clearly not true. As with any other Constitutional right, the ability to exercise those rights is balanced against the public welfare interests of the State. Yes, the standard is higher in considering what limits are appropriate, but the State clearly would still have a role in prohibiting the Armageddon-like outcomes opponents warn against.

What has not been asked is what positive obligations Amendment 1 creates. If farmers and ranchers have a Constitutional right to engage in farming and ranching practices, what is the obligation of the State to affirmatively protect that right? Does it mean the State must further subsidize farmers and the farm industry, which is already one of the most heavily subsidized industries in the US? Does it mean the State must guarantee that farmers can continue to be farmers no matter what economic conditions might dictate? Does it mean contracts to foreclose on farming operations would become unconstitutional? Is it an individual right entitling each specific farmer to be a farmer forever, or is it a group right that protects farming as a productive operation. The language of the amendment itself provides no clear answer.

And what would be the consequences of the kinds of protections possible under the proposed amendment? Opponents have focused on anti-corporate bigotry and xenophobic scare tactics. However, more meaningful questions could be raised about the consequences for innovation in agricultural practices that improve food quality and supply but that might disrupt or challenge current practices and threaten to displace some producers. Or about the incentive for the agriculture industry to be innovative in its environmental practices and technologies—not in the sense that waterways would become toxic, like opponents suggest, but that there may be less incentive to developing new technologies and practices that do an even better job than current practices. Or about the incentive of the agriculture industry—and individual producers—to be sensitive and responsive to neighbors’ (and voters’) interests and concerns.

Finally, does it make sense to single out one profession or one sector of the economy as being worthy of Constitutional protection? Especially when there are already laws that provide the kinds of protections proponents of Amendment 1 want? Why is farming special compared to nursing, teaching, childcare, or any number of “socially valuable” industries (as if other professions are any less meritorious)? Proponents of Amendment 1 will rightly argue that agriculture has been under attack by special interest groups that take advantage of a voting public that lives in romanticized ignorance of the industry that produces their beloved burgers and bacon. However, the solution to that problem is not to further insulate the industry from the voting public, but to be more vigilant in educating the public and State officials in the face of anti-farming interests.

The Missouri Constitution is not the place for industries or professions to hide from competitive pressures—whether economic or ideological.

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