Do Deere & Company Investors Have Reason for Concern?

Deere & Company (DE 1.76%), the world's leading tractor manufacturer, recently released its fourth-quarter-earnings report; according to the report, revenues dropped by 3.5% in the quarter. Despite this decline, the company was able to augment its equipment operating profit by 6% mainly due to higher price realization in its agriculture and turf operations. Based on these recent earnings report and the company's updated projections, do Deere investors have reasons for concern? How is the company performing compared to other heavy machinery manufacturers such as Joy Global (JOY) and Caterpillar (CAT 1.29%)? 

Fourth-quarter earnings
Let's start with Deere's recent earnings reports. During the fourth quarter. the company's revenues declined mainly due to lower shipment volume in both of its equipment segments (agriculture and turf, construction and forestry) The construction and forestry segment led the way and its revenues fell by 8%. According to the company, the drop in revenues was slightly offset by higher price realization. Higher prices were also the reason for the company's wider profit margins, as profitability increased from 10.7% in the fourth quarter of 2012 to 11.8%. Most of the growth in profit margin was in the agriculture and turf business. So, how is the company performing compared to its peers?   

Although Deere's revenues fell in the past quarter, other heavy machinery companies such as Caterpillar and Joy Global have done worse. Caterpillar's revenues tumbled down by 18.4% during the third quarter. Most of the drop in sales was related to sharp fall in resource industries sales – a 42% plunge  during the quarter. The decline in this segment was because dealers continued to significantly reduce machine inventory during the quarter to align their inventories with their revised downwardly projected demand. Moreover, the company projects its annual revenues will reach only $55 billion  in 2013 – a 16% fall from 2013. This also means another 15% decline in sales is expected in the fourth quarter of 2013. 

Joy Global's revenues fell by 4.9% during the quarter and its profitability narrowed by 8.4%. Most of Joy Global's drop in sales is related to softer demand in the U.S. coal industry. Since this industry isn't likely to heat up anytime soon – considering the strong shift of utility companies toward natural gas and renewable energy – Joy Global's U.S. sales could very well decline again next year.  

Therefore, among the leading heavily machinery companies, Deere's revenues fell the least. 

In terms of profitability, Deere was in the middle of the pack with a profit margin of 12.8% in the past quarter. For comparison, Caterpillar's profitability was 10.4% and Joy Global's profit margin was 20.8%. 

Looking forward, will Deere's sales continue to diminish? Will its profitability improve? Let's examine these issues and start with the agriculture and turf segment, which accounts for roughly 80% of the company's total sales. 

Agriculture and turf
The company projects its revenues from the agriculture and turf segment will decline next year on account of its decision to get out of its landscapes business. Deere's current projection for next year includes a nearly 6% fall. The drop in sales is likely to occur in many regions, including North and South America and Europe. The decline in this segment's sales is likely to drag down the company's entire revenues by roughly 3% during the coming year. This change could also affect Deere's profit margin. If the landscape business has a low profit margin, it will lead to a higher profitability in the coming quarters for Deere. 

Let's turn now to the construction and forestry segment, which generated 16% of Deere's sales in the past year. 

Construction and forestry
Deere projects this segment's revenues to grow by 10% during next year, mainly due to recovery of the U.S. housing market. A bit of skepticism is in order regarding this figure because the housing market's recovery has slowed down in the past several months. According to the U.S. Census Bureau, housing starts rose by only 2% in the past year. Moreover, the Federal Reserve is likely to taper its current asset purchase program in the coming months, which will push up mortgage rates. This turn of events is likely to cool down the housing market. Even if this segment's sales were to rise by 10% next year, it will have a very small positive effect on total sales. The rise in this segment's sales will slightly reduce the company's profit margin, which is already very low at roughly 6%. 

Takeaway
Deere has done well with respect to its peers considering the current market conditions. The company isn't likely to augment its revenues next year, however. Its profit margin might improve, of course, which could lead to higher dividend payments. This company is still a stable investment, but don't expect any growth in the near future.