Did Robust Construction Demand Drive Deere’s Profits In Fiscal Q2?

by Trefis Team
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Deere (NYSE:DE) is slated to publish its fiscal second quarter 2019 results on May 17. Consensus estimates for the company’s net revenues for the second quarter are close to $10.2 billion, which indicate an increase of 4% year-on-year while adjusted EPS is expected to grow by 9% to $3.57. The company’s stock has plunged nearly 15% in the last two weeks on the back of renewed concerns around the U.S.-China trade war. However, new tariffs and heightened trade tensions won’t have hurt Deere’s Q2 results.

Per Trefis estimates, Deere’s shares have a fair value of $174 which is roughly 20% ahead of the current market price. We believe that these near-term headwinds do not take away from Deere’s long-term value. We have summarized our key expectations from the upcoming earnings announcement in our interactive dashboard – How Is Deere Likely To Have Fared In Fiscal Q2?  In addition, here is more Industrials company data here.

A Quick Look at Deere’s Revenue Sources

Deere reported $37.4 billion in Total Revenues for Fiscal 2018. This included 3 primary revenue streams:

  • Agriculture and Turf Equipment: $23.2 billion in FY 2018 (62% of Total Revenues). This segment primarily manufactures and distributes a full line of agriculture and turf equipment and related service parts, including: large, medium, and utility tractors, along with a broad line of associated implements and other outdoor power products.
  • Construction and Forestry Equipment: $10.2 billion in FY 2018 (27% of Total Revenues). This segment primarily manufactures and distributes a broad range of machines and service parts used in construction, earth-moving, road building, material handling and timber harvesting.
  • Financial Services: $3.3 billion in FY 2018 (9% of Total Revenues). This segment primarily finances sales and leases by John Deere dealers of new and used agriculture and turf equipment as well as construction and forestry equipment.

Besides these, a small proportion of Deere’s revenues (2% of Total) can be attributed to various unconsolidated equipment affiliates.

Key Factors To Watch for In Q2 Results

Construction Segment Will Continue To Drive Deere’s Growth

  • Deere’s Construction and Forestry segment delivered solid performance in Q1, with sales surging by nearly 31% y-o-y to $2.3 billion. Higher revenues were driven by strong demand for construction and forestry equipment, the full-period contribution from the Wirtgen acquisition (vs. one month in Q1 fiscal 2018) and higher shipment volumes, although higher production costs and a less favorable product mix hurt profits.
  • We expect this growth trajectory to have continued in Q2, with strengthening U.S. economic conditions driving growth in housing demand – in turn leading to robust construction spending. Moreover, the economic environment for construction, forestry and road building industries remains solid and continues to support demand for new and used equipment. Taking all this into account, we expect this segment to grow in the low double-digits range in the near future.

Market Uncertainty Likely To Weigh On Agricultural Segment

  • The Agriculture and Turf segment, which accounts for nearly two-thirds of Deere’s total revenues, grew by around 10% y-o-y in Q1 led by higher shipment volumes and price realization which more than made up for negative foreign exchange changes. However, operating profit for the segment contracted almost 10% due to increased production costs, higher warranty expenses, less favorable product mix and a step-up in research and development expenses.
  • Deere lowered its margin forecast for the segment from 12.5% to 12%, citing trade uncertainty and unfavorable markets conditions. Even though the underlying fundamentals remain solid in many areas, uncertainty is likely to weigh on farmer sentiment throughout the year. With many U.S. farmers putting their equipment investment decisions on hold in light of market uncertainty, there has been a reduction in demand for agriculture equipment. However, this is likely to be offset by strong replacement demand. Taking all this into consideration, we expect Deere’s agriculture and turf segment to grow in the low single-digits in the near term.

Trefis Price Estimate

Based on our forecast, Deere’s EPS for full-year 2019 is likely to be around $11.23. Using this figure with our estimated forward P/E ratio of 15.5x, this works out to a price estimate of $174 for the company’s shares, which is about 20% ahead of the current market price.

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