Since the start of the export quota’s last year we have paid special attention to Kernel. 

Our concerns started with last year’s addition of Allseeds which did not seem to significantly add to the bottom line.  Also as Kernel brought on new crushing capacity of its own, we started hearing rumors they were paying more for sunseed than other crushers because they had the largest capacity.  Then when the government forced a gentleman’s agreement on crushers to restrict domestic vegoil price increases in the face of rising world vegoil prices we thought the company would be in for a rough ride.  However when the company issued its annual report and gave guidance that 2011 would see significant improvement we were doubtful.  Seemed to us they were bluffing.

Over the last few weeks starting on February 18, 2011, and ending on March 21, Kernel insiders and shareholders made seven announcements of insider transactions.  Additionally the company made a secondary share offering of 483,410 shares on February 21, whose purpose was to improve operating cash.  Business seemed to be tough.

Lots of insider selling, a deteriorating regulatory environment, and the only bright light was that Kernel was one of the few picked companies that got export quota.  Last week the company CFO said Kernel was planning a major acquisition of a crusher in Russia.  We thought the proposed deal would improve Kernel access to the Russian market, but we did not think it would add much to the bottom line as Allseeds hadn’t added much.  In fact our initial opinion was that Kernel was overextending and would soon become a takeover target.

Yesterday all our opinions finally changed and we have started to believe in Kernel again.  Kernel announced that it signed a call option to purchase a 71% controlling stake in Ukrros.  Ukrros was frankly underwhelming as was Dakor which went to Avangard.  The company has extensive farming operations, grain silos and sugar production facilities in Ukraine. The new acquisition will add in the range of 100 000 ha of farm land, 87 000 tons of grain storage capacity, and 22 000 tons/day of sugar beet processing capacity to Kernel.

The acquisition represents diversification, which should shield Kernel from downturns if one of its markets fails.  More significant is whether Kernel seizes the real prize that Ukrros represents.  In our opinion the real prize is Ukrros sugar distribution assets.  Combining Ukrros and Kernel processed food produst distribution will allow Kernel to rival Avangard and MHP, Ukraine’s fastest growing food companies.  Further it will allow Kernel to actually diversify into real food processing activity.  The closer Kernel gets to consumers the higher will be its margins.

UkrAgroConsult