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Construction Markets, Wirtgen Buyout Aid Deere Amid Cost Woes

Zacks Equity Research

On Sep 23, we issued an updated research report on Deere & Company DE. Improved performance in the Construction & Forestry segment, backed by upbeat markets, will mitigate the impact of a weak agricultural sector on the company’s results. Acquisitions, introduction of advanced technologies in its products and efforts to expand in precision agriculture remain key growth drivers for the company. However, input cost inflation will likely continue to dent the company’s margins in the near term.  

Let's illustrate the factors in detail.

Construction & Forestry Segment to Buoy Fiscal 2019 Results

Low commodity prices, sluggish farm incomes and the trade war have affected U.S farmers’ equipment purchases. This continues to put pressure on Deere’s top line. Industry sales of agricultural equipment in the United States and Canada are thus anticipated to be flat compared with the prior year. Sales for the EU28-member nations will also remain flat from the prior year due to the ongoing uncertainty regarding Brexit. The South American industry sales of tractors and combines are projected to be flat to up 5% as strength in Brazil will be offset by weak performance in Argentina, thanks to political and economic uncertainty.  Sales in Asia are forecast to be flat to down slightly. Deere anticipates Agriculture and Turf equipment sales to increase a meager 2% in fiscal 2019.

However, stellar results from the Construction & Forestry segment will help negate the impact of a weak agricultural sector on Deere’s results. For fiscal 2019, U.S. GDP, total construction investments, housing starts and oil activity remain at supportive levels for equipment demand. Equipment-rental utilization remains high and rental rates are likely to trend higher in fiscal 2019. Global transportation investment is expected to be up about 5%, spurring demand for road construction equipment. With order books extending into the fourth quarter, the segment is poised for improved results for fiscal 2019. Deere projects global sales for Construction & Forestry equipment to rise 10% in fiscal 2019.

For fiscal 2019, Deere anticipates net sales to improve about 5% year over year, aided by price realization of 3% and the Wirtgen acquisition. Net income is expected at around $3.2 billion in the fiscal. Deere is assessing cost structure by reviewing organization efficiency and footprint assessment, which, in turn will help improve margins.

Wirtgen Acquisition — Key Growth Driver

The company acquired the world's leading road-construction equipment maker, Wirtgen, in December 2017. The buyout significantly enhanced Deere's exposure to global transportation infrastructure. Wirtgen's integration is on track. Deere updated its synergy target to EUR 125 million by 2022. It also completed the acquisition of PLA, which will assist it in providing innovative, cost-effective equipment, technology and services to customers.

Technologically Advanced Products Provide Competitive Edge

Deere will benefit from its concerted focus on launching products with advanced technologies and features, which provides it a competitive edge. The company remains focused on revolutionizing agriculture with technology, in an effort to make farming automated, easy to use and more precise across the production process. Consequently, Deere continues to invest in technology leadership and data analytics. Moreover, the company's efforts to expand in precision agriculture will be a game changer.

A Few Headwinds Remain

Deere’s results will continue to bear the brunt of higher raw-material costs on account of the implementation of tariffs. The company will be also affected by elevated expenses in fiscal 2019. It expects SA&G expense to flare up about 4% in the fiscal. R&D expenses are estimated to be up 6% in fiscal 2019 due to strategic investments in precision agriculture and next-generation new product-development programs for large agricultural product lines. Deere expects an unfavorable impact of 2% from foreign-currency translation in fiscal 2019.

Share Price Performance

Deere's shares have gained 9.2% over the past year, while the industry it belongs to grew 8.5%.

Zacks Rank & Stocks to Consider

Deere currently carries a Zacks Rank #3 (Hold).

Some better-ranked stocks in the Industrial Products sector are Albany International Corporation AIN, AGCO Corporation AGCO and UFP Technologies, Inc. UFPT. While Albany International sports a Zacks Rank #1 (Strong Buy), AGCO Corp and UFP Technologies carry a Zacks Rank of 2, at present. You can see the complete list of today’s Zacks #1 Rank stocks here.

Albany International has an estimated earnings growth rate of 33.85% for 2019. The company’s shares have rallied 40.1%, year to date.

AGCO Corp has a projected earnings growth rate of 11.2% for the current year. The stock has gained 18.4% so far this year.

UFP Technologies has an expected earnings growth rate of 8.10% for the ongoing year. The stock has appreciated 31.5% in the year-to-date period.

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