Pat McKeough responds to many requests from members of his Inner Circle. Every week, his comments on the most intriguing questions of the past week go out to all Inner Circle members. Each week, we offer you a highlight from these Q&A sessions. This week, why the world’s largest farm equipment maker isn’t among our U.S. stocks to buy.
Q: How do you see things shaping up for Deere & Co.? Is it a buy? Thanks.
A: Deere & Co. (symbol DE on New York; www.deere.com) started up in 1837 when its founder, John Deere, began making polished-steel plows at his blacksmith shop in Grand Detour, Illinois.
Today, the company is the world’s largest maker of agricultural equipment, with plants in the U.S., Canada, France, Germany, Spain, South Africa, Mexico and Argentina. In addition to John Deere, its top brands include Frontier, Kemper, Green Systems and SABO.
Deere mainly sells these products through independent dealers and home-improvement chains like Home Depot and Lowe’s. It has three divisions:
Agriculture and turf (74% of revenue, 70% of earnings) makes tractors, combines, harvesters, seeders, balers, mowers and related farm gear.
Construction and forestry (19%, 12%) manufactures backhoe loaders, bulldozers, excavators, motor graders, dump trucks and log harvesters.
Financial services (7%, 18%) provides financing to independent dealers and buyers of Deere’s products.
In its fiscal 2015 second quarter, which ended April 30, 2015, Deere’s revenue fell 17.9%, to $8.2 billion from $9.9 billion a year earlier. Equipment sales declined 20.0%, to $7.4 billion from $9.2 billion, missing the consensus forecast of $7.5 billion.
Low crop prices and the elimination of certain tax breaks in the U.S. have prompted farmers to spend less on new equipment. As a result, the agriculture division’s revenue fell 24.6% in the latest quarter.
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Stock investing: Weaker demand prompts Deere to reduce workforce and slow down production
Revenue at Deere’s construction business gained 2.1%, however, thanks to increasing home construction in the U.S. In addition, more of Deere’s customers are taking advantage of low interest rates to finance their purchases. That pushed up the financial services division’s revenue by 14.2%.
Earnings in the latest quarter fell 29.6%, to $690.5 million from $980.7 million. Deere spent $1.2 billion on share buybacks in the past six months. Due to fewer shares outstanding, earnings per share fell at a slower pace of 23.4%, to $2.03 from $2.65, easily beating the consensus forecast of $1.55.
Deere’s manufacturing businesses (excluding the financing division) ended the quarter with cash and investments of $3.2 billion, or $9.30 a share. Their long-term debt totalled $4.5 billion, or a low 15% of Deere’s market cap.
The company now expects its agricultural equipment sales to decline 24% for all of fiscal 2015, compared to its earlier prediction of a 23% drop. That’s partly because overseas customers account for 40% of Deere’s revenue, and the high U.S. dollar hurts the contribution of its foreign sales.
Deere also feels that full-year sales of construction equipment will rise just 2%, down from its earlier forecast of a 5% gain.
In response to the weaker demand, the company is cutting about 2% of its workforce and slowing production.
Thanks to these savings, Deere has increased its full-year earnings forecast to $1.9 billion, or $5.65 a share, from $1.8 billion, or $5.35. The stock trades at 16.2 times that estimate. The $2.40 dividend yields 2.6%.
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