Why Deere & Company Will Sail Through the Current Doldrums

Deere’s headwinds are not going to stay forever and better days are coming for the equipment giant.

Jun 25, 2014 at 11:06AM

Farm and construction equipment major Deere & Company (NYSE:DE) is facing weak demand in its core agricultural equipment business. And there's nothing to be excited about the sales outlook for the next quarters. But, does this mean the investors should stay away from the company? Not necessarily. There are good reasons to believe that the current lull could be just a passing phase.

John Deere 8345R, Source: Deere.

Ag equipment sales could recover once buying power returns in the U.S.
Deere's outlook for its ag equipment business reveals the tremendous challenge before it. The company continues to expect a 5%-10% decline in the demand for ag equipment in the U.S. and Canada for the remaining year. But now it has also forecast sales to be hit by 5% in Europe, as farmer sentiments are tepid, and import policies are constantly hurting crop demand in the Russian and Belarus markets. South America is close to a recession, and sales could be down 10% from last year's levels.

Deere has slashed its sales outlook for ag equipment to a 7% decline; its earlier estimate was for a 6% decline. Given that the company derives more than three-fourths of its revenue from agricultural equipment sales, these challenges are weighing heavy on investor confidence.

Source: Deere Press Release. Chart prepared by author.

We would like to remind investors that although the problems that Deere is facing in Europe and South America are more fundamental, the current weakness in North America, which accounts for the lion's share of sales, is mostly on account of cyclicality.

In 2014 the production of grains in the U.S. is expected to be up resulting in lower prices of commodities, such as corn and soybeans, which will reduce farmers' net income. The U.S. Department of Agriculture forecasts farm cash receipts to go down 12% in 2014. With budget constraints, farmers are likely to postpone their purchases of high-horsepower farm equipment. But once the buying power returns, there will be considerable pent up demand to support sales growth.

Source:  John Deere May, 2014 Earnings Presentation.

Deere also has its hopes tied to developing economies such as India, where the "mechanization wave" could lift sales. India, as a nation, is highly dependent on agriculture and a huge portion of the country's GDP (13.7% in 2012-2013) comes from there. The country is gradually adopting more advanced western techniques in irrigation and agriculture and it's this trend that will support Deere's growth.

A similar story is unfolding in China. Home to the highest number of people on the planet, China derives over 10% of its GDP from agriculture. According to estimates made by Research and Markets, China's agricultural machinery market could grow at a CAGR of 10.38% between 2013 and 2018. These trends could infuse life into Deere's ag machinery sales before long.

C&F sales to get support from improving fundamentals
Sales improved by 2% in the construction and forestry, or C&F, equipment business in the second quarter, and helped offset the 12% sales decline in ag equipment sales. The segment operating income climbed 63% driven by higher shipment volumes and lower production costs and this helped to offset the negative impact of the 22% fall in ag business operating income. 

Though the sales improvement is at best modest compared to the 20% surge in construction equipment sales reported by Caterpillar (NYSE:CAT) in its first-quarter results, it couldn't have been better timed. During the quarter, 75% of Deere's C&F segment sales were driven by the favorable investment climate in the U.S. and Canada, while the remainder was through international sales.

The gradual ramp-up in the housing sector and improved real estate prices boosted segment sales. Caterpillar has made huge benefit from this trend -- its sales lift was influenced by dealers increasing their stock at the beginning of the year to take advantage of the recovery seen in the U.S. non-residential construction market. Deere's sales could also pick momentum in the coming quarters.

During the second-quarter earnings call, manager of investor communications Susan Karlix said that "although the fundamentals are all lower than three months ago, the economy is slowly moving forward and there are positive signs in the market. Unemployment is falling and construction hiring is increasing." Karlix's statement clearly hints at the upside potential that management sees in the market. For the full year C&F sales are expected to be up 10%. 

John Deere Excavator, Source: Deere.

Foolish bottom line
It's true that Deere's core agricultural machinery business is going through a bad patch, and it's tough to see the broader picture. However, once the U.S. market enters its seasonal up-cycle things could improve, and sales would be supported by growing demand in the developing countries. Management is also determined to make the most from the construction business. With improving fundamentals, the C&F business could prove to be a good avenue for growth. Deere clearly has enough long-term prospects to keep investors interested.

Will this stock be your next multi-bagger?
Give us five minutes and we'll show how you could own the best stock for 2014. Every year, The Motley Fool's chief investment officer hand-picks one stock with outstanding potential. But it's not just any run-of-the-mill company. It's a stock perfectly positioned to cash in on one of the upcoming year's most lucrative trends. Last year his pick skyrocketed 134%. And previous top picks have gained upwards of 908%, 1,252% and 1,303% over the subsequent years! Believe me, you don't want to miss what could be his biggest winner yet! Just click here to download your free copy of "The Motley Fool's Top Stock for 2014" today.

ICRA Online has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

1 Key Step to Get Rich

Our mission at The Motley Fool is to help the world invest better. Whether that’s helping people overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we can help.

Feb 1, 2016 at 4:54PM

To be perfectly clear, this is not a get-rich action that my Foolish colleagues and I came up with. But we wouldn't argue with the approach.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich" rated The Motley Fool as the #1 place online to get smarter about investing.

"The Motley Fool aims to build a strong investment community, which it does by providing a variety of resources: the website, books, a newspaper column, a radio [show], and [newsletters]," wrote (the clearly insightful and talented) money reporter Kathleen Elkins. "This site has something for every type of investor, from basic lessons for beginners to investing commentary on mutual funds, stock sectors, and value for the more advanced."

Our mission at The Motley Fool is to help the world invest better, so it's nice to receive that kind of recognition. It lets us know we're doing our job.

Whether that's helping the entirely uninitiated overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we want to provide our readers with a boost to the next step on their journey to financial independence.

Articles and beyond

As Business Insider wrote, there are a number of resources available from the Fool for investors of all levels and styles.

In addition to the dozens of free articles we publish every day on our website, I want to highlight two must-see spots in your tour of fool.com.

For the beginning investor

Investing can seem like a Big Deal to those who have yet to buy their first stock. Many investment professionals try to infuse the conversation with jargon in order to deter individual investors from tackling it on their own (and to justify their often sky-high fees).

But the individual investor can beat the market. The real secret to investing is that it doesn't take tons of money, endless hours, or super-secret formulas that only experts possess.

That's why we created a best-selling guide that walks investors-to-be through everything they need to know to get started. And because we're so dedicated to our mission, we've made that available for free.

If you're just starting out (or want to help out someone who is), go to www.fool.com/beginners, drop in your email address, and you'll be able to instantly access the quick-read guide ... for free.

For the listener

Whether it's on the stationary exercise bike or during my daily commute, I spend a lot of time going nowhere. But I've found a way to make that time benefit me.

The Motley Fool offers five podcasts that I refer to as "binge-worthy financial information."

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. It's also featured on several dozen radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable ... and I don't say that simply because the hosts all sit within a Nerf-gun shot of my desk. Rule Breaker Investing and Answers contain timeless advice, so you might want to go back to the beginning with those. The other three take their cues from the market, so you'll want to listen to the most recent first. All are available at www.fool.com/podcasts.

But wait, there's more

The book and the podcasts – both free ... both awesome – also come with an ongoing benefit. If you download the book, or if you enter your email address in the magical box at the podcasts page, you'll get ongoing market coverage sent straight to your inbox.

Investor Insights is valuable and enjoyable coverage of everything from macroeconomic events to investing strategies to our analyst's travels around the world to find the next big thing. Also free.

Get the book. Listen to a podcast. Sign up for Investor Insights. I'm not saying that any of those things will make you rich ... but Business Insider seems to think so.

Compare Brokers