In this article, let's take a look at Deere & Company (DE, Financial), a $31.03 billion market cap company, which is the world's biggest producer of farm equipment, as well as a large maker of construction machinery and lawn and garden equipment with a brand name that has been in the industry for 175 years.
Strong position
Deere faces a fierce competition from CNH Global (CNH) and AGCO Corporation (AGCO, Financial), although none of them have the size of Deere. This giant is immersed in a cyclical industry because of the uncertainty of farming yields and crop prices. But unlike its competitors, the firm enjoys a considerable profitability during market downturns, due to its geographically diversification operations and well-established efficiency.
Deere focuses on hold its leadership position and so makes efforts in the equipment technology. As an example, the company has invested about 4% of its revenue in R&D annually during the past five years, compared with 3% at AGCO and CNH.
Key areas
The growth in population in countries such as China, India, and Brazil will require more agricultural equipment in order to improve crop yields. As a consequence, the company has launched several new tractor products in Brazil, enjoying a market share growth as well as gains.
Payment History
Since 1937, Deere has a dividend policy showing its commitment to return cash to investors in the form of dividends as it generates healthy cash flow on a regular basis. Although the current dividend yield is not too high, currently at 2.5%, it can improve in the future allowing higher shareholder´s returns.
Revenues, Margins and Profitability
Looking at profitability, revenues dropped by 8.8% and led earnings per share decreased in the most recent quarter compared to the same quarter a year ago ($2.65 vs $2.72). During the past fiscal year, the firm increased its bottom line by earning $9.08 versus $7.64 in the prior year. For the next year, Wall Street expects a contraction of 6.7% in earnings ($8.48 versus $9.08). This is a sign of weakness that should (should not) worry investors.
Finally, let´s compare the best measure of performance for a firm's management: the return on equity. The ROE is useful for comparing the profitability of a company to that of other firms in the same industry.
| Ticker | Company | ROE (%) |
| DE | Deere | 34.46 |
| CAT | Caterpillar Inc. | 18.21 |
| CNH | CNH Global NV | 15.26 |
| AGCO | AGCO Corp. | 14.89 |
| Ă‚ | Industry Median | 9.22 |
The company has a current ROE of 34.46% which is higher than the one exhibited by its peers and the industry median. In general, analysts consider ROE ratios in the 15-20% range as representing attractive levels for investment. It is very important to understand this metric before investing and it is important to look at the trend in ROE over time.
Relative valuation
In terms of valuation, the stock sells at a trailing P/E of 9.3x, trading at a discount compared to an average of 18.4x for the industry. To use another metric, its price-to-book ratio of 2.9x indicates a premium versus the industry average of 1.71x while the price-to-sales ratio of 0.9x is below the industry average of 0.97x.
As we can see in the next chart, the stock price has an upward trend in the five-year period. If you had invested $10.000 five years ago, today you could have $22.673, which represents a 17.8% compound annual growth rate (CAGR).
Final comment
In the upcoming years, this sub-industry will face a strong demand due to an increase of construction projects in emerging markets as well as government stimulus to develop urbanization in countries like China. As a consequence, Deere is investing hard to increase its market share in countries like Brazil where the value of agricultural production is expected to rise.
Moreover, the stock's relative valuation and the return on equity that tremendously exceeds the industry average make me feel bullish on this stock.
Hedge fund gurus like David Dreman (Trades, Portfolio), Steven Cohen (Trades, Portfolio), Scott Black (Trades, Portfolio), John Buckingham (Trades, Portfolio) John Keeley (Trades, Portfolio), Joel Greenblatt (Trades, Portfolio), Jean-Marie Eveillard (Trades, Portfolio) and Francisco Garcia Parames (Trades, Portfolio) added this stock to their portfolios in the first quarter of 2014.
Disclosure: Omar Venerio holds no position in any stocks mentioned
