Overview of company's operations
Deere's income and sales reached
all-time quarterly highs. Ag & Turf was the best performing
sector, but Construction and Forestry and Financial Services
also contributed to the record numbers.
In March, Deere expanded capacity at its tractor factory in
Waterloo, Iowa. The expansion will help Deere meet future demand.
When the latest expansation is complete in 2013, manufacturing
capacity for large tractors in Waterloo will have increased by more
than 50% since 2008. Factories in Brazil and China should start
production next year and ramp up in 2014.
Deere has a long-term project to improve its operating margin,
which is referred to internally as E700.
Deere introduced its Final Tier 4 engine emissions solution in
March. For Interim Tier 4/Stage IIIb, it added a smart exhaust
filter to its cooled EGR solutions. To meet Final Tier 4/Stage IV
compliance, it will add SCR to our cooled EGR and smart exhaust
filter. As a result, it expects to deliver the best fluid economy in
the industrry in many applications, better than the Interim Tier 4.
By the end of the year, Deere will have recovered most of its product
costs for Interim Tier 4 and nearly all of those costs will be
recovered by 2013. However, more spending is ahead going into Final
Tier 4, which occur around. 2014-2015.
The greater corn-on-corn acres, which is a growing practice, is a
positive for Deere. It results in more activity in the field, high
hours on the tractors, and the need for increased horsepower for the
combines. The current increase in acreage is also a positive for
Deere and reflects the strong fundamentals of the agricultural
equipment market.
Evaluation of markets
Crops.
CEO Sam Allen (who was not present at the call) has said that the
global farm economy is showing impressive strength and endurance. US
crop prices should remain strong through 2012, driven by global
demand and tight supply. This projection assumes a more normal
higher yield, although it is difficult to predict since weather in
the summer and fall have the most impact on crop yields. The south
central US still has dry weather and drought conditions are emerging
in the southeast.
Deere expects an increase in total planted acres this crop year,
and corn prices should remain at historical highs. The company
expects 4 percent more corn acres to be planted in the 2012-2013 crop
season. Continued exports to China are a factor in its expectation
for high corn prices.
Soybean plant area is expected to be flat. Soybean exports to
China are expected to increase due to strong demand and weather
problems in South America.
The company expects higher wheat acreage, due to higher domestic
demand and exports.
Poor weather in the southwest and Texas resulted in fewer cotton
acres planted and the cotton acres planted should go down in the
2012-2013 crop year. Demand for cotton remains strong, especially
from Asia.
AG& Turf business.
In Europe, there is strength in Ag sector with 2012 farm income
expected to remain at very attractive levels, supported by good
commodity prices. Equipment demand continues to be strong in northern
Europe where farm sizes are larger. Equipment demand is weak in the
south. Credit is still readily available in the European market.
The Northern European markets are stronger for Deere, and they remain
strong. The market is more negative in the south. There's been no
change in government commentary on Common Agricultural Policy (CAP)
(European agriculatural subsidies) reform, so the subsidies remain at
the same levels.
In Brazil, the 2012 value of Ag production is expected to increase
2.7 percent over the 2011 levels.
In the CIS region, sales are strong, particularly in Russia.
Deere is seeing increased demand of equipment purchases in the
United States, especially high horsepower/large Ag equipment. This
demand reflects positive conditions in the global farm economy and
low levels of used equipment. Used tractor and combine levels are
well below a year ago. It has also seen strength in Material
Handling, a lot of which is related to Ag activity. All sectors are
seeing pretty significant strength and farmers are having healthy
cash flows, which they are investing in equipment.
Forestry and Construction business.
Deere expects flat forestry markets 2012. Europe is weak, but
other international markets are improving. It is seeing strength in
independent rental companies and dealers investing in rental
activity. In construction, housing starts, while improving, are
still at very low levels. Deere is seeing some signs of life in that
area, though.
Financials.
Company-wide.
Net sales and revenues were up 12%. Total worldwide equipment
operations net sales increased 13% quarter over quarter. At comps
and exchange, sales were up 15%. Price realization in the quarter was
positive by 5 points. Deere forecasts net sales to increase about
25% compared to the third quarter of 2011 and 15 % for 2012. It
projects price realization for the year to be 4 points. All
geographies and regions are contributing to higher pricing.
Although Deere won't give forecasts for 2013, it notes that it is
bringing on capacity, projecting higher sales, general &
administrative expenses (SG&A), is building inventory and will
end the year with high inventory.
R&D increased 18% in the second quarter compared to the same
period last year. R&D expense are to increase up about 13% for
the year and will remain at high levels for the next few years as
Deere continues product launches with Interim Tier 4, and soon
thereafter, Final Tier 4 engines.
Deere raised its full year earnings forecast to $3.35 billion.
As to share repurchases, when the stock price is below what Deere
deems to be fair value, it will repurchase shares.
AG & Turf
Sales in Ag & Turf increased 11 percent. Deere expects 2012
worldwide sales of Ag and Turf equipment to increase about 15%, which
is broken down as follows: 10 percent increase in US and Canada,
flat to 5 percent increase in Europe, increase in Asia by a moderate
amount (though the tractor market in India is expected to decline
slightly) and a decline of 5 to 10 percent in South America, due to
uncertainty in Argentina and droughts in the area.
Production was lower in the second quarter than the outlook given
in the last conference call due to volumes in Argentina being much
lower than anticipated and lower than forecasted volumes in India and
China. Shipments in the second half should increase about 20%.
Over 60 percent of the current $2.3 billion in inventory will be used
to meet second half shipment schedules.
A higher than normal number of combines will ship in the second
half. 35 percent of combines typically ship in the first half, with
65 percent in the second half. This year the ratio is about 25/75
percent. The is due to Deere's move to Interim Tier 4.
Deere expects sales of turf and utility equipment in the US and
Canada to increase 5% in 2012. Due to the early arrival of spring,
sales of riding lawn and commercial mowing equipment have gotten off
to a strong start. It seeing continued favorable acceptance of its
new utility vehicles.
Operating margin in Ag & Turf division was 18 percent due to
higher shipping volumes and price realizations, although higher
production costs partially offset those increases. Deere expects
full year operating margin in Ag & Turf to be 15 percent. It
plans to increase marketing expenses due to favorable trends.
2011 US farm cash receipts were at record levels, about 14% higher
than the previous record in 2008. Deere expects 2012 cash receipts to
be slightly above last year’s level. Cash receipts are a function
of price and quantity. Right now, prices are down, but yield is up.
Current and prior year cash receipts are the primary driver of
equipment purchases in the US market.
Construction and Forestry
In the Construction and Forestry division, net sales increased 26%
in the quarter. C&F had a 7% operating margin and a 4%
incremental margin. There were 3 factors contributing to this
result.
1. There was a negative mix of product this quarter. Wheel
loaders and crawlers, two of the higher-margin products, converted
to Interim Tier 4 engines, resulting in the lines being down for a
time.
2. Production was unusually high in the same quarter last year
because of a software conversion in May 2011. Dealers placed
large orders early to avoid disruption due to the conversion.
Further, there is a lot of money being spent on growing in India,
China and South America, but few sales to offset the costs.
However, Deere is not slowing down the timing of its expansion in
those regions.
3. Finally, margins were impacted by high R&D costs
relating to new products. These factors impacted margins by
about 5 points and incremental margins by 22 points. The R&D
and growth expenses will continue through the remainder of the
year.
The eoconomic indicators do not point to a strong recovery in
Construction and Forestry. Economic growth is slow, although there
are encouraging signs that business is picking up. C&F continues
to benefit from improved sales to independent rental companies.
Deere expects full year operating margin in C&F to be 8 percent.
Deere has taken market share in the Construction and Forestry
industry over the last few years. It is the number 2 provider in
the United States and Canada on construction. It is closer to number
1 than number 3 on market share, but it won't give the actual
numbers. However, the unit sales numbers in the United States and
Canada are still at relatively low levels.
The full transcript of the conference
call can be found on Seeking Alpha at the following link:
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