Why it’s Time to Take Deere for a Ride
Maxwell is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Deere (NYSE: DE) is synonymous with farming and there is a reason for that. The company has been around since 1837. It all started with a steel plow. Since then, it has built a name for itself by keeping its focus on all things to do with the land. Deere offers products in agriculture, construction, turf and forestry equipment. Complementing these business, Deere also has its proverbial hand in power systems, parts services, and financial services. In other words, it has a diverse portfolio but its businesses are heavily interrelated.
For instance, one of the biggest drivers of growth for Deere is population increases. When the number of people go up, demand for Deere’s products rise as well. On the one hand, there is the base increase of the population. Right now, there are just over 6 billion people in world. By 2050, that number is expected to be closer to 9 billion, with most of that growth coming from emerging countries thanks to higher incomes there, which leads to healthier diets, better healthcare and higher life expectancies. All these people are going to need food, fiber and fuel – each of which Deere equipment is used to cull.
On the other hand, the percentage of people living in the world’s cities is increasing. In 2010, around 50% of the world’s population lived in cities; that number is expected to increase to 70% by 2050. These people will need housing, roads, bridges, etc. which Deere products are used in. This will also leave a relatively smaller labor pool in the more rural areas. In order to keep up with the demand from the urban areas, manual labor will need to be replaced by more productive equipment solutions. Deere is in a great position to take advantage of all of this – and that is to say nothing of the demand increases that come as the economy improves.
Deere recently traded at $82.93 on a mean one-year target estimate of $94.59 – an increase of over 14%. In addition to the upside, the company pays a $1.64 dividend (2% yield), which means that, if analysts are right, investors buying stock now can expect to gain over 16% on their investments in the next year. The company actually raised its dividend by almost 12% recently; it is the tenth increase the company has given since 2004. Plus, Deere is priced low, trading at just 9.80 times its forward earnings.
According to Yahoo Finance, analysts estimate that Deere’s earnings will increase by just 10.83% a year on average over the next five years, versus 17.73% for its industry and expectations of 10.38% for the market in general. Looking a bit closer at the numbers, most of that growth is coming this year – analysts expect Deere’s earnings will go up by 21% this year then just 6.20% next year. This puts the company’s intrinsic value at $85 a share, meaning it is undervalued by roughly 2.5%. Competitor Kubota (NYSE: KUB) isn’t nearly as well-positioned. Analysts expect Kubota’s share price will fall over 8% in the next 52 weeks. It recently traded at $49.11 on a mean one-year target estimate of $45.01. The company does pay a 79 cents dividend (1.60%), but that doesn’t even touch the downside – and its outlook going forward isn’t much better. Analysts predict that Kubota’s earnings will grow by 9.50% a year on average over the next five years – not only does this miss industry expectations, it is even less than expectations for the market at large. Analysts say that Kubota’s earning could increase by as much as 25.00% this year and 7.30% next year. At those rates, Kubota has an intrinsic value of just $10.26, suggesting the stock is dramatically overpriced right now. Deere is positioned much better. It also has a lot to be optimistic about.
However, in spite of the strong numbers, Deere’s reports spurred some sell off. The decrease came after the company reported that the prices for some crops, especially corn, wheat and soybeans, would be lower, lowered its outlook and announced that its sales grew at a just 8% – some saw this as a concern, but the company was still able to beat last year’s numbers for sales and revenue by 11%, not to mention increase its net income by 4% and raise its diluted EPS by 8%. But, I don’t think so. Lower crop prices do not mean that the sales of Deere’s equipment will fall off, nor do modest sales. I see it this way – Deere is still projecting its net income this year to come in at $3.28 billion, which is over 17% higher than its net income last year and it still expects 15% sales growth in 2012.
The future is bright for Deere – it all starts with reinvestment. The company is undergoing a $70 million plan to expand large tractor production at its Waterloo, Iowa factory. The planned improvements are expected to increase capacity there by over 10% by the middle of 2013. And, that is just the beginning. The company is spending another $32 million to expand its production capacity in Orenburg, Russia, where it transfer its existing operations to a larger facility. The move will increase Deere’s production capacity there by 600 percent. Deere is also planning to build eight new factories over the next few years, including one in India.
Deere also recently announced several new strategic alliances that also have to be considered. So far in 2012, there have been two such unions announced. In late January, the company announced that it established an agreement with MacDon Industries that will allow it to serve its windrower customers better. The windrower product line will continue to be supported by Deere but MacDon will manufacture select models for Deere. Then, in late February, Deere announced a strategic relationship with Topcon Positioning Systems. The alliance will allow Deere to factory install Topcon’s grade control systems on its dozers and motor graders.
The Motley Fool has no positions in the stocks mentioned above. StockCroc1 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.
