In this article, let's take a look at Deere & Company (DE, Financial), a $30.49 billion market cap company that 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.
Agricultural leader
The company generates 80% of sales from agricultural equipment and more than half of sales from the farm equipment market in North America. Almost everyone knows that the brand “Deere” is an industry-leading brand, but this doesn´t mean it doesn´t face competition. Companies such as CNH Global (CNH, Financial) and AGCO Corporation (AGCO, Financial), bring strong competition, although none of them have the size of Deere.
The firm continues focusing on equipment technology. As a matter of fact, it has invested about 4% of its revenue in R&D annually in the past five years, compared with 3% at AGCO and CNH.
One important factor of risk is the cyclical industry where it operates 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 diverse operations and well-established efficiency.
We think that growing populations 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.
Dividend policy
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. The current dividend yield is starting to increase, currently at 2.6%, it can improve in the future allowing higher shareholder returns.
Revenues, margins and profitability
Looking at profitability, revenues dropped by 5.1% and led earnings per share decreased in the most recent quarter compared to the same quarter a year ago ($2.23 vs $2.56). During the past fiscal year, the company increased its bottom line. It earned $9.08 versus $7.64 in the previous year. For the next year, Wall Street is expecting a contraction of 7.7% in earnings ($8.39 versus $9.08).
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 | 32.80 |
| CAT | Caterpillar Inc. | 19.92 |
| ATU | Actuant Corp. | 15.15 |
| AGCO | AGCO Corp. | 13.78 |
| Ă‚ | Industry Median | 7.85 |
The company has a current ROE of 32.80% which is higher than the one exhibit by its peers – Caterpillar (CAT, Financial), Actuant (ATU, Financial) and AGCO – 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 9.6x, trading at a discount compared to an average of 19.9x for the industry. To use another metric, its price-to-book ratio of 2.8x indicates a premium versus the industry average of 1.72x while the price-to-sales ratio of 0.9x is below the industry average of 1.08x.
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 $21,093, which represents a 16.1% compound annual growth rate (CAGR).
Final comment
We continue to believe that, in the coming 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 industryaverage make me feel bullish on this stock.
Hedge fund gurus like Jim Simons (Trades, Portfolio), Ray Dalio (Trades, Portfolio), Tom Gayner (Trades, Portfolio), Joel Greenblatt (Trades, Portfolio), Paul Tudor Jones (Trades, Portfolio), David Dreman (Trades, Portfolio) and John Buckingham (Trades, Portfolio) added this stock to their portfolios in the second quarter of 2014, as well as Manning & Napier Advisors, Inc.
Disclosure: Omar Venerio holds no position in any stocks mentioned
