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Deere Set to Lead in Road Construction with Wirtgen Buy

Zacks Equity Research

In its largest ever deal, Deere & Company DE, the world’s largest farm equipment manufacturer is acquiring world’s leading road-construction equipment maker Wirtgen, for 4.6 billion euros ($5.2 billion) in cash and debt. The acquisition of Germany-based Wirtgen will aid Deere’s North America-centric construction business expand to a global scale and also catapult it to the position of an industry leader in global road construction.

Shares at an All-Time High

Deere’s shares touched a new 52-week high of $125.98, an all-time high as well. Shares eventually closed a tad lower to end the day at $124.70, notching a daily gain of 1.83%. This deal provided further boost to Deere’s share price which was already on the rise owing to upbeat results and guidance so far in fiscal 2017.

The stock has gained 21.7% year to date, outperforming the Zacks categorized Machinery-Farm industry’s increase of 19.1%.

Deere & Company Price

Deere & Company Price | Deere & Company Quote

Financials of the Deal

The acquisition will be funded with a mixture of cash and new debt. As of fiscal second-quarter 2017 end, Deere had a cash balance of $4.53 billion and a debt-to-capital ratio of 38%. The company expects the transaction to close in first-quarter fiscal 2018. On conclusion, the company anticipates the Wirtgen acquisition to immediately boost earnings.

Wirtgen Brings a Complementary Product Portfolio

Wirtgen’s machines are used across the road construction sector from milling to processing, mixing, paving, compaction and rehabilitation. Wirtgen sells its machines under five premium brands across more than 100 countries through a large network of company-owned and independent dealers. It employs around 8,000 people. Following the acquisition, Deere plans to retain the Wirtgen’s brands, management, manufacturing footprint, employees, and distribution network.

Deere makes equipment for part of the road-building process – loaders and dump trucks to load rocks into crushers from quarries, earthmoving tools at construction sites, and dozers and motor graders that help grade roads. Wirtgen’s products are complementary to Deere's portfolio and the combined business will benefit from sharing best practices in distribution, customer support, manufacturing and technology as well as in scale and efficiency of operations.

Why Road Construction?

Expansion in road construction is a better choice given that spending on road construction and transportation projects has grown at a faster rate than the overall construction industry. Additionally, it also tends to be less cyclical. Further, there is long-term improvement potential as infrastructure improvements remains a priority globally with repair and replacement of roads and highways always commanding utmost importance.

Deere Poised Well for the Future

Deere's sales in the past few years had been dented by lower farm income that impacted farmers’ ability to spend on equipment. To combat the weak environment, the company had resorted to cutting back on production and layoffs. The scenario has improved of late and its net income of $1.5 billion in fiscal 2016 was the highest in the last ten years. Despite a weak global agricultural sector, the company benefited from the adept execution of its operating plans and disciplined cost management as well as the impact of a broad product portfolio.

Deere’s agriculture and turf business contributed about 73% to total revenue in the fiscal second-quarter 2017, while construction and forestry accounted for 18% of revenues. During second-quarter fiscal 2017 conference call, it raised equipment sales growth forecast to about 9% year over year for fiscal 2017 from the prior view of 4%. Segment wise, Deere estimates Agriculture and Turf equipment sales to increase about 8% in fiscal 2017. The company foresees global sales for Construction & Forestry equipment to be up about 13%. For fiscal 2017, Deere also increased net income guidance to $2.0 billion.
The company will benefit from recovery in the dairy market, and improving economic and political conditions in Brazil. Over the long term, the company is likely to gain from favorable trends, supported by increasing population and rising living standards.

Deere currently sports a Zacks Rank #1 (Strong Buy).

Other top-ranked stocks worth considering in the same sector are AGCO Corporation AGCO, Caterpillar, Inc. CAT and Parker-Hannifin Corporation PH. All the three stocks flaunt a Zacks Rank #1. You can see the complete list of today’s Zacks #1 Rank stocks here.

AGCO has an average positive earnings surprise of 40.39% in the trailing four quarters. Caterpillar generated an average positive earnings surprise of 40.25% in the past four quarters. Parker-Hannifin has an average positive earnings surprise of 14.94% in the last four quarters.

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