1 Farming Stock That Can Weather the Drought

Deere’s (NYSE: DE  ) massive green-and-yellow harvesters look downright puny next to the company’s blowout numbers for fiscal 2011. But with drought withering the U.S. corn crop, can Deere expect such a bountiful harvest going forward? Despite the scary headlines, this Deere should still have plenty of room to run.

A bumper crop of sales and profits
Beyond its signature tractors and lawnmowers, Deere offers irrigation tools, GPS-powered planting management systems, and other gear for farmers and landscapers. It also sells forestry and construction equipment, and runs a financing arm to help customers afford all that heavy machinery.

In fiscal 2011, Deere hauled in bushels of cash. Global revenue jumped 23% year-over-year to more than $32 billion. The company kept $2.8 billion of those sales in net income, up 50% from 2010. Higher prices, more unit sales, and lower taxes helped its net margin widen from 7.2% to 8.7%.

Here comes the sun
Unfortunately for Deere, scorching summer weather has parched U.S. corn. Between June and July, corn harvest forecasts shrank by 25 million metric tons, sending corn prices higher. Farmers who can deliver their crops can use their higher proceeds to buy more Deere equipment. But farmers whose crops get ruined, or who face higher costs for animal feed, may postpone planned Deere purchases.

Indeed, the drought may already be drying up Deere’s 2012 numbers. In its 2011 annual report, the company predicted 16% to 18% sales growth for the first quarter of 2012. However, in its Q1 report this year, the company only recorded 12% higher sales.

You won’t go hungry
Before you freak out and start stocking up on canned corn, put the drought into perspective. According to a July report from the United Nations’ Food and Agriculture Organization, even the reduced outlook for U.S. corn ends up 11% higher than 2011’s crop. Beyond the United States, forecasts for other staple grains, like rice, look just fine, too, suggesting that the world won’t soon face famine. A July report from the USDA’s Foreign Agricultural Service predicts that the world’s total grain yields will rise slightly this year.

That’s good news for an increasingly global Deere. Net sales in the U.S. and Canada rose a respectable 17% in 2011. But sales in the rest of the world -- including Russia, Brazil, India, and China, among dozens of others -- surged 38%. Countries other than the U.S. and Canada provided 41% of Deere’s total equipment revenue, and 24.5% of its operating profits from equipment sales.

Deere’s also beginning to depend less heavily on farm goods to make its living. Agriculture does represent Deere’s biggest division, with more than $24 billion in 2011 sales, up 21% year-over-year. But while construction and forestry rang up just $5.3 billion in sales last year, that figure leapt 45% from 2010.

So you want to buy a tractor
Even in the middle of a drought, Deere holds up well against its biggest competitors in agricultural and construction equipment.

Company

P/E (Trailing 12 Months)

Dividend Yield

Free Cash Flow Growth (TTM)

Deere 10.6 2.4% (30.89%)
Kubota (NYSE: KUB  ) 14.76 1.7% 69.52%
AGCO (NYSE: AGCO  ) 6.71 N/A (39.48%)
CNH Global (NYSE: CNH  ) 8.26 N/A (260.7%)
Caterpillar (NYSE: CAT  ) 10.33 2.5% (34.29%)


Kubota, AGCO, and CNH Global all build tractors and other farming vehicles, while Kubota and CNH join Caterpillar in competing with Deere for construction sales.

The nearly across-the-board slump in these companies’ free cash flow could owe to seasonality. Deere says demand for at least some of its products peaks in the second and third quarters. The company and its rivals may currently be plowing cash into building new products to meet the coming year’s demand.

Kubota’s strong free cash flow growth helps it stand out from the pack, but it’s priced at a significant premium to its competitors, while offering a smaller dividend than Deere and Caterpillar. AGCO’s the cheapest among these stocks, but pays no dividend, while CNH Global has been free cash flow negative over the past 12 months. Caterpillar offers a slightly better dividend at a slightly cheaper price, but its all-in emphasis on construction and mining leaves it less diversified than Deere.

As long as droughts don’t hit the entire globe, Deere should do just fine -- especially in the long haul. An expanding global population will need more food produced more efficiently, and Deere stands ready to oblige. The current drought may lead to a lean 2012, but this agricultural titan could enjoy many fatter years to follow. 

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Foolish writing coach Nathan Alderman’s mom would probably sell him for a John Deere riding mower. For a full-on tractor, she’d throw in his older brother. Nathan holds no financial position in any stock mentioned above. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days. The Motley Fool’s disclosure policy is re-reading “The Grapes of Wrath.”


Read/Post Comments (2) | Recommend This Article (4)

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  • Report this Comment On July 21, 2012, at 7:33 AM, RetiredInvesta wrote:

    Corn farmers in the drought-stricken Midwest that I have talked with seem to agree that non-essential farm equipment purchases and upgrades can wait until next year. Sales for 2012 will indeed be soggy. But I like this company for the long run and I hold a reasonable amount of it in my retirement account.

  • Report this Comment On July 23, 2012, at 8:09 AM, TempoAllegro wrote:

    What interests me the most is the fact that the author notes DE sells irrigation equipment. I'd like to hear much more about this part of their business as it would seem to soften the effects of a drought to Deere as a whole.

    In fact, a good plant management system along with proper irrigation would seem intelligent front line defense in the face of an ongoing drought. Even if this dry spell lets up, you would think some farmers would want better systems to protect against the next drought. And these systems, even without a drought, would likely boost productivity anyway, so it is obviously a good investment.

    My guess is that farms have become so large that fully irrigating all that land would become prohibitively expensive. Add to that the "competition" for water these days from more people, fracking, and crops that just need more water (perhaps because of crop choice, poor soil, or excessive fertilizer use) and I am sure things get complicated quickly.

    Also, a discussion of which of the other companies listed here may compete in the (anti-drought) irrigation space would be worthwhile. From what I can tell, KUB looks like the main competitor there.

    Any info or thoughts would be appreciated! DE is certainly a company to watch, although now may not be the best time to buy shares.

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