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Deere Me

Posted: Nov 28, 2008 10:13 AM by Eugene Bukoveczky

Tickers in this Article: AG, TEX, BUCY, CAT, DE

Things aren't looking too good down on the farm these days. After hitting all-time highs earlier this year, the prices of agricultural commodity staples have all tanked in dramatic fashion over the last few months. Corn, wheat and soybean prices are now less than half their peak values of the summer. (For more on investing in these areas, be sure to read our article Grow Your Finances In The Grain Markets.)

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Ag will Sag in 2009
U.S. farm incomes estimates for this year, which in August had been estimated to hit an all time high of $95.7 billion by the U.S. Department of Agriculture, have now been knocked back by about 9%. The USDA also warned that next year's incomes could fall, following several years of steady gains, but has deferred providing a specific number until next February. However some analysts are already prepared to offer their own forecasts, predicting a plunge of as much as 42%. With such a potential decline in farm income, its no surprise that the Federal Reserve Bank of Kansas City recently reported that lenders where tightening their standards to the agriculture sector and that further reductions in available funding were now in the cards.

Deere Reports Lower Income and Guidance
None of this is good news for Deere & Co. (NYSE:DE), the world's largest maker of farm equipment. Already suffering from a drop in demand for its construction equipment due to the U.S. housing market collapse, the prospect for reasonably strong ag sector sales had been the silver lining in an outlook already darkened by the recessionary conditions in North America.

So, it came as somewhat of a surprise when investors bid Deere shares up by more than 8% when the company reporting a fall in fourth quarter profits, to 81 cents per share compared with 94 cents a share a year earlier. Analysts had been expecting a 5 cent increase in profits. The company also issued somewhat gloomy guidance as well.

While the company still expects sales to hold steady in fiscal 2009, it did concede that further deterioration in the U.S. housing market would result in a 6 % and 12% drop in commercial and construction equipment sales, respectively, and it now expects agricultural sales to Europe to be off by up to 10% and South American sales to be down by as much as 20% as a result of tight credit conditions in Brazil and drought conditions in Argentina. Currently, more than 50% of the company's agricultural equipment sales are from outside North America. The company's profit outlook 2009 also got trimmed back, to $1.9 billion, or about $4.45 per share. That's 13% lower than the $22.2 billion that analysts had been expecting. (Explore the controversies surrounding companies commenting on their forward looking expectations in Can Earnings Guidance Accurately Predict The Future?)

Analyst Cuts Earnings and Price Target
That prompted at least one analyst downgrade. Analyst Andrew Casey of Wachovia now expects 2009 and 2010 revenue to be flat and down 8% respectively, with EPS in those years trending lower from $4.65 in 2009 to $4.50 the following year. He also cut his price target to $35-$38 from a range of $55-$58.

Industry Gloom Prompts Acquisition Speculation
The tough industry conditions that are now dimming Deere's outlook have also taken their toll on other big U.S. capital goods makers like Caterpillar (NYSE:CAT), Bucyrus (Nasdaq:BUCY), Terex (NYSE:TEX) and AGCO (NYSE:AG) some of which have seen their shares tumble by as much as 80% from their earlier highs.

These reductions in value recently prompted some analysts to reflect on the prospects for a round of takeover activity in the industry, with Caterpillar, Deere, and Paccar viewed as potential buyers. Others discount the possibility citing limited capital availability and lack of appetite for expansion on the part of the companies mentioned. (To find little companies with big prospects, read Trademarks Of A Takeover Target.)

The Final Word
While there are few who dispute the fact that Deere is operationally one of the best companies in the U.S., and therefore a good candidate for inclusion in a long-term portfolio, the bursting of the agriculture bubble has dimmed its growth prospects over the next couple of years making the stock at best a 'hold' at this juncture.

By Eugene Bukoveczky

Eugene Bukoveczky is a freelance writer and investment researcher. He holds a CFA designation and has spent several decades working in the investment business in places like Toronto, New York, London and Dubai. He currently resides in Nova Scotia, where, when not writing, he devotes his time to chopping wood, growing his own vegetables, riding his bike to the store, and thinking about other ways to reduce his carbon footprint.

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