Deere Q2 Earnings Beat, Lags Y/Y on Soft Farm Economy - Analyst Blog

Deere & Company’s DE second-quarter fiscal 2015 earnings declined around 23% year-over-year to $2.03 per share owing to slowdown in global farm economy. Earnings, however, beat the Zacks Consensus Estimate of $1.57, delivering an earnings surprise of 29%.

Deere & Company - Earnings Surprise | FindTheCompany

Operational Update

Deere’s worldwide total sales dipped 18% year over year to $8.12 billion. However, revenues surpassed the Zacks Consensus Estimate of $7.60 billion. Net sales of equipment operations (which comprise Agriculture and Turf, Construction and Forestry) were $7.4 billion, down 20% year over year, including a price realization of 2%, offset by a 5% unfavorable impact from currency translation. Region-wise, equipment net sales were down 14% in the U.S. and Canada, and 28% in rest of the world.

Cost of sales in the quarter decreased 17% year over year to $5.69 billion. Gross profit for the quarter came in at $2.48 billion, down 19.5% year over year. Selling, administrative and general expenses decreased 12.6% to $740 million. Operating profit declined 31% year over year to $1.09 billion.

Operating income from equipment operations plunged 39% year over year to $828 million due to the impact of lower shipment volumes, a less favorable product mix and unfavorable effects of foreign-currency exchange, partially offset by lower selling, administrative and general expenses and price realization.

Segment Performance

The Agriculture & Turf segment sales decreased 25% year over year to $5.8 billion due to lower shipment volumes and unfavorable effects of currency translation, partly offset by price realization. Operating profit of the segment slumped 48% year over year to $639 million as lower shipment volumes and less favorable product mix were partially offset by reduced selling, administrative and general expenses and price realization.

Construction & Forestry sales went up 2% year over year to $1.63 billion aided by higher shipment volumes and price realization. Operating profit in the segment surged 43% year over year to $189 million, driven by price realization and lower selling, administrative and general expenses, partially offset by negative impact of foreign currency exchange.

Net revenues at Deere’s Financial Services operations were $653 million in the reported quarter, up 14% year over year. The segment’s operating profit was $265 million, compared with $229 million in the prior-year quarter.

Net income in this segment was $169.8 million compared with $147.7 million in the year-ago quarter. The improvement stemmed from gain on the previously announced sale of the crop insurance business, partially offset by less favorable financing spreads.

Financials

Deere reported cash and cash equivalents of $4.36 billion at the end of second-quarter fiscal 2015 versus $3.08 billion in the previous quarter. The company generated $154.7 million in cash from operating activities for the period of six months ended Apr 30, 2015 compared with $831.9 million in the prior-year comparable period. As of the second-quarter end, long-term borrowings were $23.6 billion, compared with $23.2 billion in the second quarter of 2014.

On Mar 31, 2015, Deere divested its crop insurance unit to West Des Moines, IA-based Farmers Mutual Hail Insurance Company (FMH), as agreed upon in Dec 2014. The sale includes both John Deere Insurance Company and John Deere Risk Protection, Inc., which together made up the business unit. Deere will continue to design, manufacture and offer technology, equipment and services in its precision agriculture offerings.

Looking Ahead

Deere expects equipment sales to decrease around 19% year over year in fiscal 2015. For the third quarter of 2015, the company projected a 17% decline in sales compared with the year-ago period. Deere estimates its net income to be $1.9 billion for fiscal 2015, up from its previous guidance of $1.8 billion. In spite of continued weakness in the global agricultural sector, Deere hopes to remain solidly profitable in 2015.

Segment-wise, Deere estimates Agriculture and Turf equipment sales to decline 24% in fiscal 2015 due to lower commodity prices and falling farm incomes, which in turn will have a negative impact on agricultural machinery demand.

Region-wise, industry farm machinery sales in the U.S. and Canada are expected to be down 25% for 2015. In Europe, sales are projected to be decline 10% due to lower commodity prices and farm income as well as potential pressure on the dairy sector. In South America, industry sales of tractors and combines are expected to decline by 15% to 20% year over year due to economic uncertainty in Brazil and higher interest rates on government-sponsored financing.

Sales in the Commonwealth of Independent States are expected to deteriorate further, in part due to tight credit conditions and economic pressure. Sales in Asia are projected to be down slightly, with most of the decline centered in China and India. Deere expects sales growth of turf and utility equipment in the U.S. and Canada to range from flat to up 5%, benefiting from general economic growth.

The company foresees global sales for Construction & Forestry equipment to advance about 2% in 2015. The gain reflects further economic recovery and higher housing starts in the U.S. However, weakening conditions in the energy sector and energy-producing regions will continue to be a deterring factor. Global forestry sales are expected to hold steady with 2014 levels. Net income from Financial Services is estimated at around $630 million for the full year.

Our View

Agricultural equipment sales are expected to be lower due to weak farm income. Recently, USDA (U.S. Department of Agriculture) released its forecast for U.S. farm income in 2015, which stands at $73.6 billion, the lowest since 2009 and a 32% drop from 2014. This is mainly because of falling crop prices such as corn and soybean, which will affect farm income. This will restrain farmers from purchasing new agricultural equipment, thereby impacting Deere. However, Deere will benefit from the improvement in nonresidential construction sector as well as its cost cutting initiatives.

Given the increased global demand for food, shelter and infrastructure, we believe that the long-term outlook for Deere remains strong. Global trends based on population growth and rising living standards remain intact and are largely unaffected by periodic swings in farming economy. Meanwhile, Deere's plans to serve a larger global customer base are making progress, which will drive growth.

Moline, IL-based Deere is engaged in the production and distribution of agricultural and forestry equipment, construction equipment and engines worldwide. The company sells products in the U.S. and Canada via branch offices as well as distributors and operates through dealers to resell products internationally.

At present, Deere has a Zacks Rank #4 (Sell).

Stocks to consider in the construction sector are Albany International Corp. AIN, Allegion plc Ordinary Shares ALLE and AO Smith Corp. AOS. All of these stocks carry a Zacks Rank #2 (Buy).

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