Why Deere is a Buy Now
Neha is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
How can the most severe drought in the U.S. have a ‘minimal impact’ on a company that derives more than 60% of its revenue from the U.S. farms? Ask Deere (NYSE: DE). The company literally poured ice-cold water on fired assumptions and fears of how it could be one of the worst hit by Mother Nature’s fury when it uttered the two words during its third-quarter earnings call. It was followed by a boisterous outlook for 2013. How I love Deere for the way it acts -- so cool -- even in heated situations.
True, the agriculture giant did roll back its full-year earnings guidance causing its stock to shed more than 5% in value, but I am unfazed. In fact, it has encouraged me to initiate a bullish CAPS call on Deere. Here’s why I support the company…
An issue? Not really
If a company knows (and accepts) where it falters, it will not waste time to turn shortcomings around; especially when the company in question is an established one like Deere. Apart from soft global markets, one reason that put pressure on the company’s third-quarter bottom line was manufacturing glitches. Before you start frowning, let me clarify it had nothing to do with labor or supply or quality issues.
The farm-equipment leader won the hearts of many last year when it launched its most innovative and technologically advanced lineup of agriculture equipment ever. Naturally, executing such an ambitious project can’t be a cakewalk. Getting everything (machines, suppliers, workers, etc.) in place in a short span of time can lead to some hiccups, which is exactly what Deere witnessed in its last quarter. But the company is working hard to resolve these issues and expects to get on track soon. Only, inventories that piled up as a result of lower sales in the last quarter seem a concern, and might take months to clear. Nevertheless, it looks like Deere should be able to take care of it without much difficulty. I am not reading much into these temporary issues, as the lineup should be able to add significant value to the company. The bigger picture, anyway, interests me more.
Two keys of hope
Europe is weak, India’s rainfall level is well below normal, and China remains soft. Yet, Deere expects its fourth quarter and full-year agriculture equipment sales to be up by around 13% each. Interestingly, peers appear equally confident. What drives this optimism?
According to industry reports, more than 80% of farmers in the U.S. have crop insurance tucked safely in their drawers, which means farm receipts (which largely drive demand for farm equipment) this year might not really be as bad even if crop yields are low. This factor leads CNH Global to believe that drought won’t really be a major setback, encouraging it to stick to its previous (though not too exciting) full-year forecast of revenue growth above 5%. AGCO (NYSE: AGCO) went a step further by raising its full-year earnings guidance to $5.75 per share from $5.50.
If insurance will take care of things at home, soaring crop prices should drive crop plantings in Latin America, which is just stepping into its spring season. Fertilizer companies are also banking on this region for business for the rest of the year. Deere’s share in Brazil is improving, having risen to 20% last year from 9% around 5-6 years ago. It’s a critical market, and all eyes are on its spring now. Likewise, Canada -- another important market for Deere -- is thankfully untouched by weather disasters and is looking forward to a good harvest.
I feel the foundation for Deere’s high agricultural equipment sales for the full year had already been set early in the year when farmers were flush with cash as they stepped into 2012 and invested heavily in farm equipment. With its construction business looking even better, Deere’s year can’t be bad.
Support to wheels
As I had expected, Deere’s construction and forestry segment performed better than its core agriculture business in terms of top line growth. Thanks to strong demand from the U.S. markets, the division’s third-quarter revenue climbed an impressive 23% from the year-ago period.
Going forward, a strong North American construction market should help offset tepid sales from regions like China and Brazil. The entire industry is brimming with optimism, so much so that construction-equipment king Caterpillar (NYSE: CAT) is targeting record sales and profits this year, and Terex (NYSE: TEX) raised its full-year earnings guidance range significantly to $1.95 to $2.05 per share from the earlier $1.65 to $1.85 per share. Manitowoc (NYSE: MTW) too expects sales in its crane division revenue to grow in the range of 10% to 15% for the full year. All three companies reported stellar last-quarter numbers.
As for Deere, it expects construction equipment sales to rise by 17% for the full year, which is good considering it derives more than 20% of total revenue from it. Also note how the expected sales growth is more than what the company is expecting for its ag division.
Green thumbs up to the green king
Deere is now expecting its full-year earnings to be around $3.1 billion – that’s down from $3.28 billion projected earlier. Is that a reason to be wary? I don’t think so, because that would still mean a record year for Deere. And when a company has its eyes set on record profits in one of the most difficult years, I can’t help but be positive. In any case, Deere won’t fail you when it comes to dividends, and the stock’s also looking pretty cheap at a forward P/E of under 9. I am positive, what about you? Shoot your comments below, and click here to add Deere to your personalized stock watchlist.
Neha Chamaria has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. 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.If you have questions about this post or the Fool’s blog network, click here for information.