Deere (DE, Financial)’s third quarter results showed significant growth for the company. Worldwide net sales and revenue increased 32% to $10.308 billion. Equipment net sales increased 36% to $9.3 billion due in part to strength in key markets. This helped to push net income to $2.78 per share, which is 41% higher than in the same period of the previous year and represented a record third quarter performance from the company.
The strong performance of the company in the third quarter means that it is on target to meet guidance for the full year. It expects net sales and revenues for fiscal 2018 to be around 26% higher than in the previous year. Net income for fiscal 2018 is forecast to be $2.36 billion.
Buoyant market
Since the release of its third-quarter results, Deere's stock price has risen 7%. This takes its gain in the last 12 months to 26%. During the same time period, the S&P 500 has risen by around 18%.
The strength of Deere’s markets could prove to be a positive catalyst on its financial performance. Replacement demand for products in its agricultural markets is being pushed higher by farmers seeking to invest in new technologies. In many cases, they help to improve their operational efficiency, which can produce significant economic benefits for their businesses. Examples include telematics, digital solutions and precision hardware, with take-up rates of such products being above 50% in some cases. With farmers likely to continue to seek productivity improvements over the medium term, demand for the company’s new technology could remain robust.
Deere is also benefiting from high demand from the construction industry. The strength of the U.S. economy is supporting demand for new and used equipment within the construction, forestry and road-building industries. U.S. housing demand has been robust, with housing starts forecast to be around 1.3 million units in 2018. This suggests that sales of earth-moving equipment may remain high. Demand for new equipment in the oil and gas sector may also grow due to a higher oil prices. With global transportation investment expected to rise by 6% and construction investment in the U.S. forecast to increase by 3.8% this year, the overall outlook for the company’s key markets seems to be strong.
Competitive advantage
In addition to buoyant end markets, Deere’s financial outlook may be boosted by its acquisition activity. The purchase of Blue River Technology has provided it with improved competency in artificial intelligence. This could allow it to develop a competitive advantage over sector peers in what may be an area of increasing demand over the long run. For example, Blue River’s spray technology that identifies and selectively sprays weeds instead of spraying the whole field could lead to significant productivity and efficiency improvements for farmers. Although not released yet, the technology could be a positive catalyst in future years.
Similarly, the acquisitions of Monosem, Hagie, Mazzotti and King Agro have provided Deere with a dominant position in a number of different segments. They have also enabled the company to combine existing products with new opportunities in order to further extend its position within precision agriculture. This could lead to improving sales and profitability in what remains a fast-growing marketplace across the globe.
Potential threat
The outlook for crop prices remains mixed. In 2018, U.S. farm cash receipts are estimated to be around $375 billion, which is roughly the same level as in the previous year. This is due to softness in the soybean market having the potential to offset firmer prices in corn and wheat. Livestock receipts in the U.S. are also expected to show no growth in 2018 versus 2017, while the agricultural economic outlook for the EU remains mixed. This could mean that profitability across the industry fails to rise significantly. In turn, this could impact demand for new and replacement products in the short run.
Despite this, overall arable farm profitability in the EU is only slightly behind long-term averages. Favorable wheat prices are also contributing to improved margins in some key markets. Overall conditions in other areas such as Brazil also support resilient farmer confidence due in part to higher prices for soybeans. With Deere’s agricultural machinery demand being more closely linked to replacement demand rather than being a result of rising crop prices, its performance may prove to be relatively robust even if crop prices fail to rise significantly in the medium term.
Verdict
Deere’s outlook is set to be boosted by continued growth in a number of key markets. Replacement demand in agriculture and resilient growth in the construction markets could positively impact its financial performance, while increasing demand for technological improvements may help to push its stock price higher. Recent acquisitions seem to have strengthened the company’s outlook in this area. Although crop prices could fail to rise, the overall outlook for the business seems to be positive. Therefore, it could offer investment appeal after beating the S&P 500 in the last year.
