Why Did Buffett Buy This Boring Company?

Shmulik is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Berkshire Hathaway (NYSE: BRK-A), the famous holding company of Mr. Buffett, disclosed a stake in Deere & Company. (NYSE: DE), the world’s largest maker of agricultural equipment. Deere, founded in the year 1837, provides products and services primarily for agriculture and forestry worldwide. In particular, Deere is actually a 'one stop shop' for farmers, providing them with everything from initial business financing to heavy land machinery.

Why Deere?

Deere presents a classic Buffett-like investment, for the following reasons:

  1. It has an excellent moat: Deere is THE leader in anything that concerns agriculture and farming. This field normally presents high barriers to entry due to intense capital expenditures required. This high barrier to entry makes Deere's position even more protected. Not only that but Deere is an iconic company: it was listed among 50 most-admired companies by Fortune magazine and ranked as one of 100 best global brands by a leading brand consulting firm.
  2. The firm is shareholder friendly: The company understands that investors wish to see some their capital back in the form of dividends. Since 2007, the company has been increasing its annual dividend payout at an average pace of 13%. In addition to dividends, the company also decreased its outstanding share count by buying $20 million worth of stock, only in latest fiscal year alone.
  3. Outstanding track record: Deere is highly profitable and it can prove it. The company is able to attain a return on equity exceeding 40%. That is a remarkable figure which shows that the company knows how to properly maintain the balance between debt and equity.

Why now?

  1. The trend is its friend: as population keeps growing, food becomes an issue. In the words of Deere's management:

"By 2050, the world's population is expected to expand to 9 billion people. We're at more than 7 billion today. That growth will come mostly from emerging economies, such as China and India, where incomes are increasing, and diets improving. An increased demand for food, fuel, and fiber will require an approximate doubling of agricultural output in that timeframe." 

You should also count in the constant migration from rural parts to cities. This ongoing change removes manual labor from the fields and supports the trend towards more mechanized equipment.

    2.   The price is right. Trading at a cheap forward P/E of only 10, Deere's shares are very cheap, especially when considering it is a world dominator in the farming field. It also has a low PEG of 1.1, which means that you are not paying much for all of that future growth. Add to that the 2.2% dividend yield and you get yourself a nice bargain.

In good company

Deere is not Berkshire's first consumer stock. It is now officially joining a very respectable portfolio of consumer stocks with brand names such as The Coca Cola Company (NYSE: KO) and Procter and Gamble (NYSE: PG).

It is worth noting that Coke and P&G are currently not cheap by Berkshire's criteria. They are both currently trading at earnings multiples of 19x, with a Price/Book ratio of 3.5 and 3, respectively. Nevertheless, both companies are still able to maintain a profit margin of approximately 20%. This might explain why both companies are a "hold" in Berkshire's portfolio: both of them make a good investment but not in today's prices, whereas Deere is profitable AND also cheap.

The Foolish bottom line

Deere's deal is Buffett's way of gambling on the superiority of agriculture and farming. Buffett is well known for favoring yielding companies over metals such as gold and silver that do not produce anything, bear no yield and pay no dividends to their holders. By buying into Deere, Buffett is able to add another consumer stock to his already rich portfolio of mega names, while at the same time positioning himself to benefit from this farming macro trend. I am willing to bet the farm that Buffett will eventually end up right.

 

 


shmulikarpf 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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