Report Warns Investors of Risk Faced by Monsanto

Innovest Strategic Value Advisors & This Report

Innovest Strategic Value Advisors, a financial services firm based in New York, London, Paris and Toronto, analyzed investor risks related to Monsanto’s genetic engineering (GE)[1] business strategy. Partly owned by State Street Global Advisors and the Dutch pension fund ABP, Innovest is a leader in analyzing the financial impacts of environmental, social and corporate governance issues. Investors use Innovest’s best-in-class ratings, ranging from AAA to CCC, to minimize risk and maximize return potential. In nearly every industry sector, companies with above average scores, taken as a group, outperformed below average firms by 300 to 3000 basis points per year in the stock market.

Innovest has maintained its CCC Intangible Value Assessment™ rating for Monsanto, the lowest rating. This rating has been maintained over the past several years and is based on a regular review of environmental, social and corporate governance risk factors. Monsanto’s performance on these factors was compared relative to peer companies in the MSCI index Specialty Chemicals sector. This implies the firm has above average risk exposure and less sophisticated management than peers. As a result, it will likely underperform in the stock market over the mid to long-term.

This report represents an update of a similar report published in April 2003 and covers the business risks and profit potential of Monsanto’s genetic engineering (GE) businesses. It aims to uncover for investors and stakeholders the following: What is the current state of Monsanto’s GE businesses? How profitable are they? Where is the value for investors? And what risks remain under-reported or undefined that might impact that value in the future?

This executive summary is intended to provide an overview of the report contents and it is recommended that readers seeking more in-depth analysis consult the chapters below for more detail.

Monsanto & Genetic Engineering
Monsanto is the global leader in developing and marketing GE seeds (in 2003, 90% of GE hectares world-wide were planted with Monsanto seeds). The company also makes the world’s largest selling herbicide, Roundup/Glyphosate. Its strategy includes selling GE seeds intended to be used with Roundup (73% of GE seeds planted worldwide in 2003 were designed to be herbicide resistant) and developing new seeds which produce food. In 2004 Monsanto consisted of two divisions, Agricultural Productivity and Seeds & Traits. The former represents Monsanto’s agricultural chemicals operations, whose main product is Roundup (Glyphosate) herbicide – the world’s best-selling product of its kind. The latter represents the company’s genetic engineering research and development arm which has become the world’s leader in developing genetically engineered crops for commercial production.

Monsanto has developed two main products through its GE program over the past twenty years, insect resistance using the Bacillus thuringiensis, or Bt bacteria genes, and herbicide resistance – specifically to Glyphosate or “Roundup”, as the product is known commercially. These genetically engineered traits have been commercialized in various forms in soy beans, corn, cotton and canola.

Monsanto’s Share Price (Year end 2004) and Long Term Value
Wall Street has been somewhat overly optimistic with respect to Monsanto’s valuation over the latter half of 2004. In April of 2003 Innovest estimated a 2004 EPS of $1.26 and the Wall Street consensus at that time was a more bullish $1.43. Actual EPS (ttm) at year end 2004 was $0.99, corrected from $1.61. Yet a sound balance sheet, bullish marketing of Ag biotech potential, and the perception that many big risks were behind it (such as the PCB litigation settlement) has pushed Monsanto’s share price to all time highs, hitting over $50.00 in mid-December, 2004. However, Wall Street’s bullishness is not reflected in actual earnings demonstrated by Monsanto’s PE ratio which has shown a share price between 40 to 50 times earnings over the latter part of the year. In addition, 21.9% of the shares held by insiders have been sold in the latter half of 2004. Over the same time period 2.2% of the institutional shares have been sold while no significant purchases have taken place. In addition, extraordinary charges have regularly appeared on the balance sheet, averaging $350 million per year over the past four years. $285 million in reserves have already been set aside by the company to cover continuing costs from the Solutia bankruptcy in 2005.

This implies that Monsanto is overvalued with respect to current profit potential in the short term. Therefore, long term value is the only real value inherent in the stock. Innovest’s analysis of Monsanto, detailed in the chapters below, strongly implies that this long term value is at risk.

As a result investors should seek greater transparency from the company regarding the risks associated with its business model and should be aware of the following outstanding risks to Monsanto’s business plan over the next few years, which the company does not fully address in its AR or 10K filing to the SEC.

The scope and impact of developing and commercializing new plants meant for agricultural production and human consumption is significant. Given the central economic position of the agricultural sector and controversies over public acceptance of GE traits into the food chain, Monsanto has been at pains to show that the company’s operations have low risk and that its products are thoroughly reviewed by regulators during development and prior to commercialization. This is one of the key fallacies about Monsanto’s products that the market has accepted.

Closer examination of the regulatory environment for genetic engineering in the United States shows a significant lack of oversight that places the risks taken by the industry squarely onto shareholders. Currently, the regulatory situation for GE crops in the U.S., the major market for both developers and sales, consists of a patchwork of outdated regulations and voluntary guidelines which have been widely criticized by the scientific community.

Regulatory oversight of genetically engineered (GE) crops in the United States is divided between three federal regulatory agencies, the Food & Drug Administration (FDA), the Environmental Protection Agency (EPA) and the United States Department of Agriculture (USDA). Since the first introduction of these new crops in the early 1990s, there have been no new laws passed to regulate GE crops. Instead, all regulation has fallen under pre-existing laws.

The Food & Drug Administration (FDA) only has voluntary requirements for Monsanto’s herbicide resistant products. While the Environmental Protection Agency is tasked with regulating Bt crops, the only applicable laws are those for pesticides which do not deal with any of the larger ecosystem impacts, or properly integrate with the FDA’s regulations on food. In most cases, regulatory oversight has been limited to voluntary guidelines.

The FDA does have the ability to regulate a GE product as a food additive, which is a fairly rigorous process. However, the way FDA determines whether a new GE product should go through the food additive review process is not apparent as there are no clear guidelines in place to determine when a product might be selected for the food additive review. The only time a GE product has gone through the more rigorous food additive review is when the marketers of the GE Flavr Savr tomato specifically requested that their product go thorough this analysis. Since then, no GE product has gone through a food additive review, all have gone through GRAS review.

In 2003, a committee of the National Academy of Sciences (NAS) and the Institute of Medicine conducted an assessment of the safety of genetically engineered foods[1] in which it made a number of recommendations that implied that proper safety procedures for GE crop development were not currently in place. The nature of the NAS and Institute of Medicine recommendations[2] strongly contradict Monsanto’s portrayal to investors of thorough oversight and review by regulatory agencies of its Seeds and Traits operations. The committee recommended that changes that result from genetic engineering undergo an appropriate safety assessment (implying that current assessments were inadequate); that the extent of an appropriate safety assessment should be determined prior to commercialization (implying that current assessment was not extensive enough); that the appropriate federal agencies determine if evaluation of new genetically modified (GM3) foods for potential adverse health effects from both intended and unintended compositional changes is warranted by elevated concern (implying that federal agencies were not making such determinations); and for those foods warranting further evaluation, the committee recommended safety assessments be conducted prior to commercialization and that there be continued evaluation postmarket where safety concerns are present (implying that such evaluations were not currently being done and that regulatory capacity was not in place).

Furthermore, the committee recommended four safety assessment actions: that standardized sampling methodologies, validation procedures, and performance-based techniques for targeted analyses and profiling of GM food be developed and employed; that tracking of potential health consequences from commercially available foods that are genetically modified, including those that are genetically engineered, be developed and improved; that a significant research effort should be made to support analytical methods technology, bioinformatics, and epidemiology and dietary survey tools to detect health changes in the population that could result from genetic modification and, specifically, genetic engineering of food; and that research is needed to determine the relevance to human health of dietary constituents that arise from or are altered by genetic modification.

The fact that the “Starlink” corn contamination case, which cost the developer Aventis over $1 billion to remediate, was discovered by a private non-governmental organization rather than government regulators is a strong reminder of how this situation places heightened risks on shareholders.

One of the largest structural challenges Monsanto faces for long term growth is an effective strategy for capturing value in the developing world. Outside of the US, Canada and a handful of other developed countries, Monsanto receives little if any revenue from its traits. Company marketers are quick to point to increasing acres planted for its GE crops.

However, in-depth analysis of the economic gains in these markets by the industry has been slight and it appears that acres planted in the developing world have not yielded any significant revenue to date. This is particularly true for Argentina despite the almost complete market penetration of Roundup Ready soy there. The problem of “value capture” primarily affects soya and cotton because these plants are non-hybridized, meaning the seeds can be replanted year after year without yield loss. The same cannot be said for corn where yield loss of over 50% on replanted seeds is not uncommon.

Argentina typifies the value capture conundrum. While over 95% of soy planted in that country is Roundup Ready, Monsanto was forced to shut down its operations there in 2004 because it could not earn revenues. The acres planted and penetration numbers touted by the marketing department suggest booming profits. However, the balance sheet reveals a quite different story of political wrangling ending in little, if any, profit.

Many GE products have been removed from the market or developed but not commercialized due to market rejection. Examples include GE wheat, tomatoes, flax seed, rice and sugar beets. Monsanto withdrew its GE potatoes from the market in 2001 after companies including McDonald’s, Burger King, McCain’s and Pringles refused to buy them.

North American farmers’ concerns over the salability of GE wheat caused Monsanto to
abandon that product in 2004. In addition, concern over contamination liability led Monsanto to abandon is pharma-crop R&D pipeline in 2003.

At present, commercially viable GE products provide no proven nutritional benefits to consumers. However, they do pose various environmental and human health risks. As a result, many consumers refuse to buy GE products once labeling makes them aware that GE ingredients are being used. Foreign markets, especially those with labeling requirements, have seen strong market rejection. In the US, where labeling is not required, outright rejection has been minimal so far, although significant support for labeling has developed.

Foreign Market Rejection
Over 58 countries have enacted or announced laws that restrict GE imports, commercialization of GE products and/or require labeling of foods containing GE ingredients, Europe being the most important of these markets. U.S. corn exports have declined from 52.3 million tons to 47.3 million tons with a drop in value from $8.5 billion to $4.9 billion. GE wheat was withdrawn from world markets in 2004 due to intense pressure from farm groups concerned over export market loss in the EU and beyond. The resulting program stoppage cost Monsanto approximately $60 million in 2004 alone.

The Cartagena Protocol on Biosafety came into force in 2003. This will impose substantially greater documentation and risk assessment costs on GE exporters. The Protocol will also likely hold GE seed manufacturers liable for contamination and other problems caused by GE seed use. In the wake of the $1 billion StarLink loss, it may be difficult or impossible to get insurance for GE-related losses. For example, NFU mutual, the largest UK farm insurer, refuses to insure such losses. These restrictions will make it more difficult for GE products to compete with non-GE varieties in the 103 countries that are signatories to the Protocol. To avoid losing market share, food exporters will likely demand non-GE crops from US farmers. This was the case with GE wheat which reinforced the trend against the commercialization of GE food crops with a sizable portion dedicated to human consumption.

However, a main constituent element in the recent (year end 2004) share price rise for Monsanto was the decision in May of 2004 by the EU to lift a five-year moratorium on new licenses for GE crops. Seventeen Bt corn varieties, all derived from Monsanto’s MON 810 maize (trade name “Yieldguard)[2], were listed for the first time in EU seed catalogs in September of 2004. Whether this will result in actual sales to European farmers remains to be seen since 70% or more of EU consumers oppose GE crops and the EU rejected looser labeling for GE content in Sept. of 2004[3]. In addition, farmers may have difficulty insuring their GE crops in the European market since many insurers have stated publicly that they will not insure against risks from GE crops.

Most European food manufacturers and retailers have implemented policies to ensure that no GE ingredients are used in their food products. Companies pursuing such policies include Nestlé, Unilever, Heinz, ASDA (Wal-Mart), Carrefour, Tesco and many others.

Beyond Europe, there has been strong opposition to GE crops in Asia, Africa and other
developing regions.

Domestic Market Rejection
The vast majority of US consumers do not realize they are eating GE foods since GE firms have aggressively and successfully lobbied to suppress labeling requirements. Since 1997, over twenty US polls have shown strong support for labeling. Examples include: Pew Center – 92% of Americans surveyed support labeling of GE foods, ABC News – 93% of Americans want GE food labeled, Rutgers University – 90%, Harris Poll – 86%, USA Today – 79%, MSNBC – 81%, Gallup Poll – 68%, Grocery Manufacturers of America – 92%, Time Magazine – 81%, and Novartis – 93%. A 2001 poll by Oxygen/Market-Pulse not only found that 85% of Americans want GE food labeled, but also that only 37% of women would feed GE food to their children.

Several of these polls also found that a significant percentage of Americans would not eat GE foods if they were labeled as such (the Time poll found 58% would not eat them).

If labeling requirements were imposed in the US, it appears highly likely that a significant number of consumers, perhaps as high as 30% or more, would stop eating GE foods and demand non-GE alternatives. As in Europe, many food manufacturers would probably choose to carry only non-GE foods, rather than going to the expense of pushing two separate lines through the same distribution channels.

Many companies in the mainstream food industry and many countries have spent the last 2-4 years implementing non-GE policies to the extent of arranging new contracts with new or existing suppliers, implementing Identity Preservation (IP) systems for their ingredients, and labeling their products as non-GE.

Adding new crops for human consumption to its existing portfolio may be difficult and their failure can be very costly. Monsanto lost $60 million alone in 2004 or 0.24 EPS due to the abandonment of GE wheat. These losses are certainly higher if the R&D costs prior to 2004 for development and testing of GE wheat are considered. The fact that farmers, Monsanto’s main customers, successfully organized boycotts[4,5,6] against GE wheat is instructive as to the pressure they were under from global export markets.

A major part of the risk in Monsanto’s genetic engineering program is the fact that it is dealing with the genetic structures of the four or five most important food crops for humanity. Risks, even remote ones, have compelling gravity given the obvious importance of food crops. Lack of complete knowledge is a problem for investors. For developers of GE crops it is the problem. Monsanto is also exposed to risks taken by competitors such as Aventis CropScience and ProdiGene. Missteps by these companies could seriously impact Monsanto’s business in GE seeds.

Herbicide tolerance in weeds is fast becoming a common feature of the Roundup system. Tolerance began to appear soon after Roundup Ready crops were introduced. Due to the ease of use of the Roundup system and the falling price of Roundup in the US, farmers are simply applying more of it. Instead of a broader mix of pesticides that would be more resistant to weed adaptation, Glyphosate is used almost exclusively on GE crops. The financial impact of this development is a shortened shelf life for GE traits. The more successful the adoption of a particular trait, the faster that trait will become obsolete as pests adapt. There is a clear trend over time to GE crops requiring more pesticides than conventional crops, not less as the industry has promised[7]. The trend is so strong that in 2004 farmers sprayed an average 4.7% more pesticides on GE crops than they did on the identical conventional crops[8]. It should be noted that a portion of Monsanto’s projected future profitability comes from increasing tech fees on existing product lines. Investors should question whether the company will be able to do so if its products become less effective for farmers to use.

Inevitable Environmental Contamination
GE contamination is inevitable because it is impossible to completely prevent GE pollen and seeds from being carried by wind and other vectors to non-GE fields and natural areas. The inevitability of GE contamination is evidenced by StarLink and other GE contamination cases. In 2000, Aventis’ StarLink corn, a GE product not approved for human consumption, was found in many different food products. Following recalls of over 300 corn products, Aventis spun off its CropScience division, and took losses of over $1 billion.

In another contamination case, GE corn designed by ProdiGene to produce pig vaccine recently contaminated corn and soy beans food crops in Iowa and Nebraska. Regulatory leniency limited ProdiGene contamination costs to $3 million and allowed the firm to stay in business. However, further contamination could occur and costs to the firm could rise since GE material from pig vaccine corn may have transferred to food crops. In another case, GE corn contamination has been found in Mexico, where GE corn growing is not allowed. A NAFTA commission has concluded that if left unchecked GE corn threatens to displace native Mexican varieties which have significant value to the corn industry given the genetic diversity of corn in the region. A second commission recommended better regulation of biotech corn.

Monsanto began admitting in 2002 that research and development of GE crops will result in the spreading of GE traits to non-GE crops.9 This is a major admission for the industry and implies that the risk of contamination and negative impacts is very high going forward. The company’s 2002 annual report (as well as subsequent reports) acknowledge concerns about research and development of both traditional biotechnology as well as pharmaceutical proteins appearing in food crops. This implies that the company is aware of the possibility that both approved GE traits as well as unapproved traits still in the development process could end up in the human food supply-chain. The level of environmental and human-health risk, and therefore financial risk, cannot be understated.

The relevance of this admission to shareholders is apparent in the abandonment by the company of bio-pharmaceutical crops from the research and development pipeline due to perceived risks associated with their development and commercialization.

Human Health Risks
The US National Academy of Science has tried to address the issue of the potential for human health risks associated with the genetic engineering of food crops and has pointed out that most research showing the safety of GE foods was conducted or funded by GE firms.

Since these firms have a large financial stake in seeing GE crops commercialized, there is a risk that safety testing done by them is biased. Therefore, many scientific panels have recommended that safety and environmental testing be done by regulators and not the industry.

Other safety concerns include the fact that safety testing is usually not done over the long-term or over multiple generations. As a result, long-term impacts on human health may not be discovered until impacts have already happened. Many scientists are concerned that the GE process can have unintended consequences such as creating new toxins and proteins which could cause allergic reactions and other human health problems.

An example of unintended consequences includes antibiotic resistant marker genes which are used in the production of many GE seeds. Some medical authorities have found that these genes may pass on antibiotic resistance to bacteria in the gut, thus making the bacteria resistant to clinically important antibiotics. As a result, the EU is phasing them out in 2008. The United Nations CODEX Alimentarius Committee has also recommended that they be phased out. In the US however, there appears to be no plan to phase them out.

Investors should also be aware that despite a move away from a traditional chemical product portfolio, Monsanto retains significant environmental liabilities with respect to past operations. In particular, the previously owned subsidiary, Solutia was forced into bankruptcy in 2003 after it was found liable for PCB contamination in Anniston, Alabama. Monsanto has indemnified former owner Pharmacia for any liabilities relating to Solutia. Monsanto’s liability in the PCB case totaled $394 million which wiped out all Agricultural Productivity segment earnings in 2003.10 As the result of prior agreements, Solutia also has debt obligations, supply obligations and stock options that are due to Monsanto.[11] The current bankruptcy proceedings put the collection of these items into jeopardy. Moreover, Solutia’s liquidity problems make it significantly more likely that Monsanto will be required to indemnify the company in future court cases.

Monsanto has the highest risk exposure relative to peers in the specialty chemicals sector(defined by Morgan Stanley’s MSCI Index). Significant numbers of organochlorine contaminant (dioxins, furans and PCBs) related liabilities could, as they have in the past, result in burdensome court cases and expensive payouts.

Monsanto has manufactured many high-risk chemicals in the past which still persist in the environment or comprise the significant site liability which Monsanto remains liable for. Currently Monsanto is liable for some 89 hazardous waste sites in the U.S. This does not include site liability outside the U.S. or similar potential liability from Solutia which the company may also be liable for.

The company faces significant and expanding liabilities and reputational risks associated with its historical production of Agent Orange. Tens of thousands of U.S. and foreign national troops who served in Vietnam and were exposed to Agent Orange have filed suits against manufacturers seeking restitution for injuries caused by the chemical (which was contaminated with the most toxic form of dioxin, TCDD). In a possibly even more significant development, Vietnamese citizens have filed a suit in New York seeking damage claims on behalf of those injured by exposure to Agent Orange in that country.

According to Dr. Arthur Galston, Professor Emeritus at the Yale School of Forestry
and Environmental Studies, who spoke at a Yale University conference, The Ecological and Health Effects of the Vietnam War, “the use of Agent Orange as a defoliant and herbicide in Vietnam was the largest chemical warfare operation in history, producing considerable ecological as well as public health damage.”[12] It has been estimated that over a million Vietnamese may have died or were injured due to exposure to Agent Orange.

Monsanto was the largest producer of Agent Orange with 29.5% of production. In previous settlements over Agent Orange liabilities, Monsanto paid a larger portion (45.5%) of damage awards since its product was contaminated to a much greater degree with dioxin then competitors.

In summary, the risks to Monsanto’s shareholders from the company’s genetic engineering business are substantial. In addition, the company already carries historical risk liabilities well in excess of sector peers. As this report illustrates, the company faces business constraints in the form of market rejection by consumers, producers, and farmers; significant legislative hurdles to commercialization; uncertainty in the face of human health and environmental impacts stemming from the company’s products; and finally, significant risk exposure from potential contamination of the human food chain by both approved and unapproved genetically engineered traits. It should be stressed that even if the company is a good actor with respect to safety and control during product development, problems stemming from actions by a competitor could impact the company’s profitability. In light of these developments, shareholders should seek increased transparency in reporting from the company with respect to these risks and management should develop contingency plans accordingly. It is likely, given the current burdens on Monsanto’s balance sheet that EPS guidance from Wall Street is optimistic with respect to future earnings.

However, the development of non-GE traits in the R&D pipeline, as well as improved approach to genetic modification (as opposed to genetic engineering) such as “marker assisted breeding” techniques, may provide future value alternatives for shareholders. This report provides much additional guidance on the topics discussed in this executive summary. This includes an overview of the GE crop market, a detailed description of Monsanto’s GE-focused strategy and the large risks it poses to consumers, theenvironment, food manufacturers and investors.



1 In this report “GE” refers specifically to genetic engineering techniques and “GM” refers to the broader category of any type of genetic modification of organisms.

3 GM, or genetically modified refers more broadly here to all methods of genetic modification and not just genetic engineering. Throughout the report, “GM” has this meaning, whereas “GE” refers specifically to the process of genetic engineering.



1 Committee on Identifying and Assessing Unintended Effects of Genetically Engineered Foods on Human Health,
Board on Life Sciences Food and Nutrition Board Board on Agriculture and Natural Resources SAFETY OF GENETICALLY ENGINEERED FOODS APPROACHES TO ASSESSING UNINTENDED HEALTH EFFECTS; 2003, THE NATIONAL ACADEMIES PRESS Washington, D.C.
2. Environmental News Service (Sept. 8, 2004) Europe Lists First Trangenic Seeds in Catalogue of Varieties.
3. New York Times (Sept. 9, 2004) Europe Rejects Loose Lables for Genetically Altered Food; Muller, Paul
4 Pollack A. (June 31, 2002) Delay is Seen for Genetically Modified Wheat, New York Times
5 Kram J. (Aug. 19, 2002) U.S. Farmers Determined to Block GE Wheat, Grand Forks Herald (North Dakota)
6 Lyons M. (Feb. 25, 2003) Weed Out GM Wheat: NFU, The Star Phoenix
7 Benbrook, C, (Oct 2004) Genetically Engineered Crops and Pesticide Use in the United States: The First Nine Years, BioTech InfoNet Technical Paper Number 7
8 Ibid., 36.
9 Monsanto Company 2003 Annual Report, pg. 39.
10 Monsato Company 2003 Annual Report, Pg. 25
11 Monsanto Company 2003 Annual Report Pg. 13-14
12. Conference to ‘put a human face’ on the Vietnam War; Yale Bulletin and Calendar August 30, 2002|Volume 31, Number 1

(The full report is available at:

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