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Deere: Undervalued and Set to Benefit From Equipment Renewal Cycle

The company is poised to benefit from an equipment renewal cycle once supply chain bottlenecks subside

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Sep 23, 2021
Summary
  • Deere to facilitate the 60% second-hand equipment shortage once supply chain disruptions subside.
  • The stock is undervalued.
  • Credit Suisse slaps a $440 price target on the stock.
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There has been a nearly 60% decline in used agriculture equipment inventories over the past seven years, which could bolster the need for equipment updates. Upgrades are also a possibility as new artificial intelligence-driven technology has come to prominence.

The market has priced in supply chain bottlenecks and Deere & Co. (

DE, Financial) stock has suffered as a consequence, dropping more than 8% over the past six months, which is a lot considering it has a beta of only 1.06.

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Source: Zacks Investment Research.

I think the time for investors to buy the stock is now; you don't want to get in after the supply chain issues have been resolved, as the stock would most likely have reacted by then. If you're averse to taking speculative bets, you could find comfort in the fact that Deere's just increased its quarterly dividend by 17%, resulting in a forward dividend yield of 1.23%.

Monster earnings growth and outlook

Deere's revenue, Ebitda and return on equity growth have outpaced its five-year averages by 258.57%, 298.30% and 346.60%.

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According to Chairman and CEO John C. May, "Looking ahead, we expect demand for farm and construction equipment to continue benefiting from favorable fundamentals. We are, at the same time, excited by the growing engagement with our digital platform, the John Deere Operations Center, as well as the continued adoption of precision technologies, which unlock greater value for our customers."

Dividends and valuation

I expect the company to start increasing dividend payouts at a regular interval. Suppose you look at the paying capacity of Deere. In that case, you'll notice that its payout ratio is 67.15% below its five-year average, the dividend coverage ratio is 75.63% better off than its five-year average and the net income margin is 70.96% wider than its five-year average.

I did a quick price multiple and price target, followed up by a Gordon growth valuation. A justified forward price-earnings ratio indicates the stock could reach the $435 handle by October 2022, while the Gordon growth model suggests Deere's intrinsic value is $626.87.

Going by these estimates, investors can expect an upside worth 24% to 78%, which is in line with Credit Suisse's price target of $440 that was assigned last month.

Final word

I have covered Deere before, and I've long thought of it as a gem, but systemic risks have restricted its upside for now. As soon as the supply chain issues lessen, the stock could see exponential upside. This upside could be worth 24% to 78%, depending on the amount of dividends it is set to pay.

Disclosures

I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
The views of this author are solely their own opinion and are not endorsed or guaranteed by GuruFocus.com
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