Soft Agriculture Segment Showing Waters Down Deere’s Fiscal Q2 Results

Deere (NYSE:DE), the world’s largest agricultural-equipment maker delivered a mixed performance for its fiscal second quarter. The company reported adjusted earnings of $3.52 per share which missed the consensus estimate of $3.57 by a margin of 2%. Notably, though, the reported figure represents an improvement of 12% from the adjusted EPS figure of $3.14 for the prior-year period even as net sales from the company’s equipment operations rose 5% year-on-year to $10.3 billion. The revenue gains were primarily driven by higher shipment volumes and price realization, partially offset by the negative impact of currency translation.

Per Trefis estimates, Deere’s shares have a fair value of $168 which is roughly 15% ahead of the company’s current share price. We have summarized our full-year expectations for Deere based on the company’s guidance and our own estimates in our interactive dashboard – How Did Deere Fare In Fiscal Q2 And What’s The Outlook For Full-Year 2019?  In addition, here is more Trefis Industrials data.

A Quick Look at Deere’s Revenue Sources

Deere reported $37.4 billion in Total Revenues in 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, earthmoving, 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 segments, a small proportion of Deere’s revenues (2% of Total) comes from various unconsolidated equipment affiliates.

Key Takeaways From Deere’s Q2 Results

 Construction Segment Continued Its Strong Showing

• Deere’s Construction and Forestry segment reported an 11% jump in sales y-o-y to $2.9 billion. The segment’s operating profit surged by 34% to $347 million, as increased price realization, shipment volumes and a lower impact of working purchase accounting more than made up for the negative impact of higher production costs and a less favorable product mix for the quarter.
• We expect this growth trajectory to continue in FY2019, with strengthening U.S. economic conditions driving growth in housing demand – in turn leading to robust construction spending. Further, the economic environment for construction, forestry and road building industries remains supportive and should continue to drive the demand for new and used equipment. Moreover, global transportation investment in 2019 is projected to increase at about 4%. This should further aid the segment’s top-line growth. Taking all this into account, we expect this segment to report strong growth in the near future, as summarized in the charts below.

Outlook for Agriculture & Turf Segment Looks Bleak

• The Agriculture and Turf segment, which accounts for nearly two-thirds of Deere’s total revenues, grew by around 3% y-o-y in Q2 led by higher shipment volumes and price realization. However, operating profit for the segment contracted by 4% due to higher production costs, the unfavorable effects of foreign currency exchange and a step-up in research and development expenses.
• While unfavorable forex movements aren’t likely to be a cause for concern going forward, Deere lowered its margin forecast for the segment from 12% to 11% citing unfavorable movements in volume and mix, as well as the impact of the lower production schedules. In fact, a decline in demand for agricultural machines has forced the company to lower its production by roughly 20% at two of its large factories in North America.
• Further, the company also slashed its sales guidance for the segment from 4% to 2% over concerns about the impact of the escalating trade war between the United States and China on the exports of key commodities from the U.S. coupled with weakening agricultural market and delayed planting season in North America. Taking all this into consideration, we expect Deere’s agriculture and turf segment to grow in the low single-digits in the near term.

Full-Year Outlook

• For fiscal 2019, the farm equipment giant slashed its total sales guidance from 7% to 5% citing trade uncertainty and unfavorable markets conditions. Moreover, Deere now expects net income for the fiscal 2019 to be around $3.3 billion compared with its earlier expectation of $3.6 billion.
• Based on our forecast, Deere’s EPS for full-year 2019 is likely to be around $10.45. Using this figure with our estimated forward P/E ratio of 16x, this works out to a price estimate of $168 for the company’s shares, which is about 15% ahead of the current market price.

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