U.S. Markets closed

Edited Transcript of AGCO earnings conference call or presentation 30-Oct-18 2:00pm GMT

Q3 2018 AGCO Corp Earnings Call

DULUTH Dec 4, 2018 (Thomson StreetEvents) -- Edited Transcript of AGCO Corp earnings conference call or presentation Tuesday, October 30, 2018 at 2:00:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Andrew H. Beck

AGCO Corporation - Senior VP & CFO

* Greg Peterson

AGCO Corporation - Director of IR

* Martin H. Richenhagen

AGCO Corporation - Chairman, President & CEO

================================================================================

Conference Call Participants

================================================================================

* Andrew Millard Casey

Wells Fargo Securities, LLC, Research Division - Senior Machinery Analyst

* Anthony J. Toro

Vertical Research Partners, LLC - Analyst

* Benjamin J. Burud

Goldman Sachs Group Inc., Research Division - Research Analyst

* Chad Dillard

Deutsche Bank AG, Research Division - Research Associate

* Emily Gretchen McLaughlin

RBC Capital Markets, LLC, Research Division - Associate VP

* Erika Mary Jackson

UBS Investment Bank, Research Division - Equity Research Associate and Generalist

* Lawrence Tighe De Maria

William Blair & Company L.L.C., Research Division - Co-Group Head of Global Industrial Infrastructure

* Stephen Edward Volkmann

Jefferies LLC, Research Division - Equity Analyst

* Themistoklis Davris-Sampatakakis

Crédit Suisse AG, Research Division - Research Analyst

* Thomas Marc Alfred Simonitsch

JP Morgan Chase & Co, Research Division - Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Good morning. My name is Thea, and I will be the conference operator today. At this time, I would like to welcome everyone to the AGCO 2018 Third Quarter Earnings Release Conference. (Operator Instructions) Thank you.

At this time, I would like to turn the conference over to Greg Peterson, Head of Investor Relations. Please go ahead, sir.

--------------------------------------------------------------------------------

Greg Peterson, AGCO Corporation - Director of IR [2]

--------------------------------------------------------------------------------

Thank you, Thea, and good morning. Welcome to all of you joining us for AGCO's Third Quarter 2018 Earnings Call. We will refer to a slide presentation this morning that's posted on our website at www.agcocorp.com. The non-GAAP measures used in the slide presentation are reconciled to GAAP measures in the appendix of that presentation.

We'll also make forward-looking statements this morning, including demand, product development and capital expenditure plans and the timing of those plans; acquisition, expansion and modernization plans and our expectations with respect to the costs and benefits of those plans and timing of those benefits; production levels, share repurchases, dividend rates and our future revenue, price levels, earnings, cash flow, tax rates and other financial metrics. We wish to caution you that these statements are predictions and that actual results may differ materially. We refer you to the periodic reports that we file from time to time with the Securities and Exchange Commission, including the company's Form 10-K for the year ended December 31, 2017. This document discusses important factors that could cause the actual results to differ materially from those contained in our forward-looking statements. We disclaim any obligation to update any forward-looking statements, except as required by law. We will have a replay of this call available on our corporate website later today.

On the call with me this morning are our Chairman, President and Chief Executive Officer, Martin Richenhagen; and Andy Beck, our Senior Vice President and Chief Financial Officer.

With that, Martin, please go ahead.

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [3]

--------------------------------------------------------------------------------

Thank you, Greg, and good morning. We appreciate everyone joining us on the call today. I'll begin my remarks on Slide 3, where you'll find a summary of our third quarter and year-to-date results.

Solid operational performance across our regional business units and constructive market developments are driving sales and earnings growth. Our third quarter sales and adjusted earnings per share grew double digits compared to the third quarter of 2017, with higher sales and operating income across all our regions.

Price increases and focused cost control efforts helped to offset most of the trade-related material cost inflation. We delivered improved results in our South America business, progressing on our technology transition and benefiting from improved levels of demand with increased sales and production levels. I'm pleased to tell you, we are continuing to invest in initiatives that will drive long-term benefits and raise the efficiency of our factories, improve our service levels and strengthen our product offering.

Also I'd like to highlight the announcement we made last Friday concerning Eric Hansotia, our new Chief Operating Officer. Eric has made significant contributions to AGCO's success over the past 5 years, particularly in the areas of precision agriculture, Fuse, and harvesting product offerings, IDEAL. Eric will be fully in charge of all operations, all regions, GSI, manufacturing, purchasing and materials and research and development. We all look forward to working closely with Eric on our initiatives to achieve growth and improved returns. You will hear from Eric at our December analyst meeting.

Slide 4 details industry unit retail sales results by region for the first 9 months of 2018. Global crop production for 2018 is expected to be up modestly from healthy levels in 2017. Record harvests in North America are being offset by lower output in the European Union, Argentina and Australia due to dry conditions in those areas. Global industry sales of farm equipment in the first 9 months of 2018 were mixed across AGCO's key markets, with future demand depend on factors such as commodity price development and government trade and farm support policy.

In North America, replacement demand from row crop farmers is stimulating equipment sales after years of weaker demand. North America industry sales were up in the first 9 months of 2018 compared to the same period in 2017. Industry retail sales in Western Europe were up modestly in the first 9 months of 2018, with improved economics for the dairy segment, the primary driver. However, industry sales slowed in the first quarter as the impact of the hot, dry summer and resulting weak wheat harvest negatively impacted demand.

Industry sales growth in the U.K., Scandinavia and Italy was partially offset by declines in Germany and France. Industry retail sales in South America decreased modestly during the first 9 months of 2018. Weak industry demand in Brazil in the first half of 2018 improved in the third quarter after more positive terms for the government financing program were announced. Industry sales declined in Argentina in response to weak first harvest and weak economy conditions.

AGCO's 2018 schedule for factory production, and you see that on Slide 5. The total company production was up by about 6% for the third quarter versus the same period of 2017. Production increased most significantly in Europe and North America. For 2018, we are forecasting an increase of approximately 8% in AGCO's total production.

Globally, our order board for tractors was approximately flat at the end of September compared to the year 2017. Orders were higher in South America and approximately flat in North America and lower in Europe.

I will now turn the call over to Andy Beck, who will provide you more information about our third quarter results.

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [4]

--------------------------------------------------------------------------------

Thank you, Martin, and good morning. I'll start on Slide 6, which looks at AGCO's regional net sales performance for the third quarter and first 9 months of 2018.

AGCO's sales increased approximately 17% compared to the third quarter of 2017, excluding currency translation, which negatively impacted sales by approximately 6%. Acquisitions accounted for approximately 3% of the net sales increase in the third quarter of 2018 compared to the third quarter of 2017. The Europe/Middle East segment reported an increase in net sales of approximately 17%, excluding the negative impact of currency translation compared to the third quarter of 2017. Excluding acquisition-related sales and currency impact, EME sales were up about 14%.

Sales growth was the strongest in Germany, the U.K. and France. Sales in North America increased approximately 14%, excluding unfavorable impact of currency translation compared to the levels experienced in the third quarter of 2017. Precision Planting, which was acquired in the third quarter of 2017, contributed approximately 3% of the sales growth in the third quarter. Increased sales of hay tools, sprayers and grain storage and handling equipment provided most of the organic growth.

AGCO's third quarter 2018 net sales in South America increased approximately 33% compared to the third quarter of 2017, excluding negative currency translation impacts. Strong growth in Brazil provided most of the increase.

Net sales in our Asia-Pacific/Africa segment increased about 7% in the third quarter of 2018 compared to '17. Excluding the negative impact of currency translation and the benefit of acquisitions, increases in Australia and the smaller Asian markets contributed to most of the growth.

Part sales were approximately $346 million for the third quarter of 2018 and were up about 1% compared to the same period in 2017, excluding the negative impact of currency translation.

Slide 7 examines AGCO's sales and margin performance. AGCO's adjusted operating margins improved modestly in the third quarter of 2018 compared to the same period last year. The benefits of higher sales and production and sales -- and price increases were offset by trade-related material cost increases, additional labor costs associated with supplier constraints and the transactional impact of currency -- currency transactional impacts.

Our third quarter results were highlighted by improved operating income in all regions. Operating income grew $3.3 million in South America in the third quarter of 2018 compared to the same period in 2017. Progress on our technology transition and improved market demand drove most of the improvement. The Europe/Middle East segment reported an increase of about $11.7 million in operating income for the third quarter of 2017 resulting from the benefit of higher sales and production. North American operating income increased modestly in the third quarter.

Sales and production growth were mostly offset by higher steel and other material costs. The material cost increases were most significant in GSI's grain storage business, where steel makes up a significant percentage of cost of goods sold.

Sales and operating income in our Asia-Pacific/Africa region both showed modest improvement compared to the third quarter of 2017.

Slide 8 details GSI's net sales by region and by product. GSI sales increased about 3%, excluding currency impacts in the first 9 months of 2018 compared to the same period of 2017. Globally, grain and seed sales grew approximately 12%, while protein production sales declined approximately 8% on a constant currency basis.

Grain and seed equipment sales grew across all regions, with the most significant growth in North and South America. The largest decline in sales of protein production equipment occurred in the North America and Asia-Pacific/Africa region. The global trends toward growing population and increased protein consumption should make our GSI business an attractive source of profitable growth for AGCO in the years ahead.

Slide 9 looks at investments through both capital expenditures and research and development. We're continuing to make strategic investments to refresh and expand our product lines, upgrade system capabilities and improve our factory productivity. We intend to increase the level of investment in 2018 to execute our product development plan and meet new emissions requirements in both Brazil and in Europe. Our spending plan in 2018 is needed to maintain our competitiveness and to support the long-term growth of our business.

Slide 10 addresses AGCO's free cash flow, which represents cash used in or provided by operating activities less capital expenditures. Our seasonal requirements for working capital are greater in the first half of the year, and thereby resulted in negative free cash flow for both the first 9 months of 2017 and '18. AGCO generated $137 million in free cash flow in the third quarter of 2018, up significantly from last year.

Third quarter inventory levels were above 2017 due to higher production as well as continued supplier constraints. After covering spending on our strategic investments and regulatory changes, we are targeting another strong free cash flow year for 2018.

At the end of September 2018, our North American company and dealer inventories were lower than a year ago. The dealer month supply on a trailing 12-month basis was improved for tractors, hay equipment and higher for combines.

Losses on sales receivables associated with our receivable financing facilities, which are included in other expense net, were approximately $6.7 million during the third quarter of 2018 compared to $10.3 million in the same period of 2017.

As we focus on our return for share -- of our share -- for our shareholders, we expect to make cash distributions an important component of our long-term capital allocation plan. Over the past 4 years, we've executed share repurchases of over $1 billion, which has had the effect of reducing our share count by nearly 20%. We've had an -- we have an existing $300 million program currently authorized. Through September 30 this year, we have completed about $84 million in share repurchases and retired over 1.2 million shares. We're also committed to responsibly growing our dividend in the coming years as we've demonstrated with the increase in the first quarter of this year. We expect to continue our share repurchases in the fourth quarter.

Our 2018 outlook for the 3 major markets is captured on Slide 12. With one quarter to go, the year-to-date trends aren't expected to change materially. Our projection for North America industry tractor sales is to be up modestly compared to 2017, with larger equipment driving the increase. Industry retail sales in Western Europe are expected to be approximately flat compared to 2017.

Industry retail sales in South America were under pressure in the first half of 2018 but improved in the third quarter and are expected to be relatively flat for the full year compared to 2017. Higher retail sales in Brazil are expected to be offset by lower sales in Argentina due to the impact of lower crop production and the peso devaluation.

Slide 13 highlights the assumptions underlying our 2018 outlook. The priority for 2018 continues to be managing our cost, pricing raw material cost increase pressures and also investing in our products and business improvement opportunities. Our 2018 forecast assumes relatively stable industry demand across all regions. Our plan includes market share improvement with price increases ranging from 1.5% to 1.75% on a consolidated basis. At current exchange rates, we expect currency translation to have a minor impact on 2018 sales. Acquisitions are expected to increase sales by about 2.5%.

In 2018, engineering expenses are expected to run about 4% of our sales, which amounts to an increase of approximately $45 million compared to 2017.

Operating margins are expected to improve due to higher sales levels and the benefits of our productivity and purchasing initiatives, partially offset by the investments we're making in long-term programs and higher material costs.

We are targeting an effective tax rate of 35% to 36% for 2018. Consistent with last year, the tax rate is not uniform across the quarters.

Slide 14 lists our view of selected 2018 financial goals. We are projecting 2018 sales to be in the $9.3 billion range. We expect growth in operating margin to be improved from 2017, reflecting positive impact of higher sales volumes and cost reduction efforts, partially offset by investments in our strategic initiatives. Based on these assumptions, our 2018 adjusted earnings per share target is approximately $3.75. We expect capital expenditures to increase approximately $50 million compared to 2017 levels and free cash flow to be in the $225 million range after covering inventory builds associated with new emissions regulations in Europe and in Brazil.

With that, operator, we're ready to take questions.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) The first question will come from Seth Weber with RBC Capital Markets.

--------------------------------------------------------------------------------

Emily Gretchen McLaughlin, RBC Capital Markets, LLC, Research Division - Associate VP [2]

--------------------------------------------------------------------------------

This is Emily on for Seth. I'm just wondering how much of the production increase for the full year relates to transition inventory, related to Tier 3 versus demand related or share gains.

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [3]

--------------------------------------------------------------------------------

Yes. We're expecting to have inventory of about $100 million that relates to both -- some accumulation of engines for our European market and fully built tractors in our South America market to allow us to transition into Tier 5 in Europe and Tier 3 in South America for certain models.

--------------------------------------------------------------------------------

Emily Gretchen McLaughlin, RBC Capital Markets, LLC, Research Division - Associate VP [4]

--------------------------------------------------------------------------------

Okay. And then just in North America, is there any update on U.S. farmer sentiment, given tariffs and the trade situation?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [5]

--------------------------------------------------------------------------------

Well, I think that the situation we described last quarter is pretty much the same. You have some real demand requirements because of replacement demand where farmers had delayed purchases for 4 to 5 years from our last peak sales period. And as a result, farmers want to start replacing equipment. They feel from a standpoint of protecting their quality of the equipment, the uptime that they need along with managing maintenance cost, it's a real demand driver right now. Offsetting that to some extent, as you mentioned, is some concerns in terms of sentiment around some of the trade issues, government policies as well as, obviously, lower commodity prices and their income and margin levels right now.

--------------------------------------------------------------------------------

Emily Gretchen McLaughlin, RBC Capital Markets, LLC, Research Division - Associate VP [6]

--------------------------------------------------------------------------------

Got it. And just one more follow-up. On operating margin improvement, are you guys still looking for 50 bps for the year? Or are some of these cost items you called out going to squeeze little bit?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [7]

--------------------------------------------------------------------------------

We're still -- our top-end goal would be about 50 bps. But I think we're probably going to fall maybe 10 bps a little short of that right now.

--------------------------------------------------------------------------------

Greg Peterson, AGCO Corporation - Director of IR [8]

--------------------------------------------------------------------------------

(Operator Instructions)

--------------------------------------------------------------------------------

Operator [9]

--------------------------------------------------------------------------------

The next question will come from Chad Dillard with Deutsche Bank.

--------------------------------------------------------------------------------

Chad Dillard, Deutsche Bank AG, Research Division - Research Associate [10]

--------------------------------------------------------------------------------

So can you talk about your progress towards normalizing U.S. dealer inventories? And what's your confidence in being able to produce the retail demand as we enter 2019?

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [11]

--------------------------------------------------------------------------------

I think we are best in class when it comes to dealer inventory management in the U.S., but I hand over to Greg for more details.

--------------------------------------------------------------------------------

Greg Peterson, AGCO Corporation - Director of IR [12]

--------------------------------------------------------------------------------

Right. So Chad, we've talked about reducing our production this year by about 8% to 10%, and we're on track to do that. We've been underproducing relative to that demand, and we'll continue to do that through the end of the year. So our target would be right-sized by the end of the year. In Andy's comments, you did see that we are making progress. Our tractor inventory is down from last year. So I'm looking for that improvement by the end of the year.

--------------------------------------------------------------------------------

Chad Dillard, Deutsche Bank AG, Research Division - Research Associate [13]

--------------------------------------------------------------------------------

Great. And then over to Brazil. That segment came in better than what we were expecting from a profitability basis. And I just want to get a sense for how far along you are in reversing the technology transition headwinds that you've been encountering this year? And maybe you can walk us through how that progress builds as we enter 2019?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [14]

--------------------------------------------------------------------------------

Yes, I think we're making good progress, but we've still got a long ways to go. As we mentioned, the technology transformation of our product line and moving to Tier 3 is only halfway done. 2019, all the equipment under 100 horsepower will be converted to Tier 3. So we still have a number of new models that we need to continue in this path to upgrading and changing technology. In terms of improvement in margins, you can see that happening. And so I think from a standpoint of what we see working with our suppliers and improving the cost of the products as well as incremental pricing is starting to show up in the results.

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [15]

--------------------------------------------------------------------------------

In the higher horsepower professional segment for both tractors and combine harvesters, we are pretty much on track. And Massey Ferguson and Valtra will offer the most advanced technical solutions completely localized in Brazil.

--------------------------------------------------------------------------------

Operator [16]

--------------------------------------------------------------------------------

The next question will come from Jamie Cook with Crédit Suisse.

--------------------------------------------------------------------------------

Themistoklis Davris-Sampatakakis, Crédit Suisse AG, Research Division - Research Analyst [17]

--------------------------------------------------------------------------------

This is actually Themis on for Jamie. Just a question on the order book. I think you noted that it was lower in Europe. So could you give us more color on what drove that? And do you think that the drought in the north part of Europe is creating any risks for 2019? And also in North America, I think, the order book went from being up double digit in Q2 to flat in Q3. So are you noting a slowdown there? Just trying to get a sense of your level of confidence for 2019 as we sit here today.

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [18]

--------------------------------------------------------------------------------

When it comes to Europe, order book is slightly down. The year is not over yet. So I don't expect the drought having a big impact, and it's a mix like always. So the drought or the weather conditions, which were bad in the -- on the bigger crop operations were pretty good for vineyards where, for example, Fendt has a leading position in special tractors. So that means overall, I think you will see the European order book being strong also next year.

--------------------------------------------------------------------------------

Greg Peterson, AGCO Corporation - Director of IR [19]

--------------------------------------------------------------------------------

And then also in terms of comparisons, the order board last year in Europe started to build as we got into the back half of last year. So the comps were definitely tougher and will be as we go through this year.

--------------------------------------------------------------------------------

Themistoklis Davris-Sampatakakis, Crédit Suisse AG, Research Division - Research Analyst [20]

--------------------------------------------------------------------------------

Got it. And any comments on North America? I think there the order book went from being up double digit in Q2 to flat in Q3?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [21]

--------------------------------------------------------------------------------

Yes. I think, there was some new products that we had out that we got through earlier in the year that helped that order book. I don't think there's been meaningful changes in our market outlook or sentiment. What we're seeing year-to-date, we think, will continue for the balance of the year. And our orders are strong, and we feel comfortable with that order book carrying us through the quarter. Our order book typically is 2 or 3 months of orders, so we really don't have many orders for 2019 yet. So we really can't comment on that.

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [22]

--------------------------------------------------------------------------------

And we don't want to either.

--------------------------------------------------------------------------------

Operator [23]

--------------------------------------------------------------------------------

The next question will come from Larry De Maria with William Blair.

--------------------------------------------------------------------------------

Lawrence Tighe De Maria, William Blair & Company L.L.C., Research Division - Co-Group Head of Global Industrial Infrastructure [24]

--------------------------------------------------------------------------------

As it relates to the tariffs and the global series platform that, obviously, you guys are sourcing out to China, can you just discuss what you're doing? If there's any -- has been an issue that's permeated through the results thus far? And if we should expect any friction in the results going forward given the tariffs and where you produce those?

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [25]

--------------------------------------------------------------------------------

No problem for us because the global platform was a concept where we basically wanted to be in a position to build those tractors wherever it's needed close to the customers, and we have a solution also identified for the imports from China to the United States. So we are moving production around all the time. So some will move from Europe to China, some will move from China to Brazil and so on.

--------------------------------------------------------------------------------

Lawrence Tighe De Maria, William Blair & Company L.L.C., Research Division - Co-Group Head of Global Industrial Infrastructure [26]

--------------------------------------------------------------------------------

Okay. So no material impact to you guys going forward, I guess?

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [27]

--------------------------------------------------------------------------------

Exactly.

--------------------------------------------------------------------------------

Lawrence Tighe De Maria, William Blair & Company L.L.C., Research Division - Co-Group Head of Global Industrial Infrastructure [28]

--------------------------------------------------------------------------------

And then, I guess, the one thing, European incrementals were a bit soft. Sorry -- I don't know if you touched on this already, but can you just discuss what the puts and takes to the European margins were in the quarter and how to think about the fourth quarter?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [29]

--------------------------------------------------------------------------------

Sure. In terms of Europe, as you mentioned, margins were -- incrementals were a little lower in the third quarter. We had higher level of expenses related to some initiatives. We were demonstrating our new IDEAL Combine, had additional marketing cost there. We had some new system introductions that also increased and also some increased distribution development costs. So number of the initiatives that we talked about earlier in the year, we had additional costs.

Also impacting margins slightly in Europe were higher manufacturing costs. As we mentioned in our prepared remarks, we are still battling supplier issues where component supply is not on a consistent basis, and that's causing us to have additional productivity -- additional labor costs in our plants in order to rework equipment, et cetera, because of late arriving components. So we're still getting the products out. It's not affecting our revenue, but it is to some extent impacting our costs. So into the fourth quarter, we hope to get some of that improved and show improved margins.

--------------------------------------------------------------------------------

Lawrence Tighe De Maria, William Blair & Company L.L.C., Research Division - Co-Group Head of Global Industrial Infrastructure [30]

--------------------------------------------------------------------------------

And that should be fine going into next year. I'll leave it there, and also best of luck, Eric.

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [31]

--------------------------------------------------------------------------------

Yes, next year still working on all of those issues. In terms of supplier disruptions, I would say that it is improving, but it's still an issue for us and we're continuing to manage that.

--------------------------------------------------------------------------------

Operator [32]

--------------------------------------------------------------------------------

The next question will come from Steve Volkmann with Jefferies.

--------------------------------------------------------------------------------

Stephen Edward Volkmann, Jefferies LLC, Research Division - Equity Analyst [33]

--------------------------------------------------------------------------------

Just maybe kind of a broader question. Historically, your incremental margins overall have been sort of mid-teens, maybe even a little better than that sometimes. And this year we're kind of running 6%, 7%, 8% over the first 3 quarters. And I'm just curious, maybe this is for Andy, kind of how that looks going forward over the next couple of years. Is it sort of possible to get back to the mid-teens? Or you're spending quite a bit on new product development and so forth and just sort of conceptually how you're thinking about that.

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [34]

--------------------------------------------------------------------------------

Yes, Steve. I certainly believe that our incremental margins performance in the future should be better than what you're seeing right now. I mean, we're getting squeezed a little bit on these -- the ramp-up of material cost and getting kind of caught with pricing not keeping pace at this point. I mentioned some additional operating expenses for some of these initiatives that we have in place. And then we're also getting hit a little bit on currency transactional impacts, as we mentioned, and those are also impacting our incremental margin. So as we move forward, we're really focused on controlling our costs. We get the pricing caught up. We'll get those incremental margins pushed back up.

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [35]

--------------------------------------------------------------------------------

And we will talk more about this in December.

--------------------------------------------------------------------------------

Stephen Edward Volkmann, Jefferies LLC, Research Division - Equity Analyst [36]

--------------------------------------------------------------------------------

Fair enough. And just a quick follow-up then. I'm thinking about potentially a fairly chunky price increase for 2019 when you add the cost of the new technologies and emissions to the normal -- well, higher-than-normal inflation that we're seeing now. Do you think that there's a chance that you'll see sort of prebuys ahead of these price increases and that things may fade a little bit as we get into 2019 because of that?

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [37]

--------------------------------------------------------------------------------

Not really. I think the demand right now is -- it's not caused by any future potential price increase. And so, therefore, we're also optimistic that we will have a good year when it comes to sales next year.

--------------------------------------------------------------------------------

Operator [38]

--------------------------------------------------------------------------------

The next question will come from Jerry Revich with Goldman Sachs.

--------------------------------------------------------------------------------

Benjamin J. Burud, Goldman Sachs Group Inc., Research Division - Research Analyst [39]

--------------------------------------------------------------------------------

This is Ben Burud on for Jerry. So we're hearing in the channel that used combine inventories are starting to inch up. Can you provide some color as to what you all are seeing? And on the same subject, what you're asking on...

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [40]

--------------------------------------------------------------------------------

Yes, this is not us. You need to ask these questions to our peers. So we don't have a problem there.

--------------------------------------------------------------------------------

Benjamin J. Burud, Goldman Sachs Group Inc., Research Division - Research Analyst [41]

--------------------------------------------------------------------------------

Understood. And can you provide some color as to what you're seeing on the technology adoption side of things? Are you seeing any tech offerings driving a meaningful acceleration in your ASPs?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [42]

--------------------------------------------------------------------------------

So yes, I would say, technology has been a huge part of our new product offerings really for the last decade. And specific examples for us are, Fendt 1000 -- our Challenger 1000 platform in the U.S. has definitely led to ASP increases. When you look at the technology that our new Precision Planting capabilities bring, certainly there's new sales associated with those. We've launched our global series globally now, and there's -- that's helped us be not only competitive with small tractors but also some price increases there.

So I'd say, kind of virtually across all parts of our product offering. And then next year, as we launch the IDEAL Combine, that will also -- which is technology rich, that will also lead to average retail price increases. So yes, I'd say, across our whole product spectrum, technology is driving price increases for us.

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [43]

--------------------------------------------------------------------------------

And the Fendt plant we launched here in the U.S. is also very successful so far.

--------------------------------------------------------------------------------

Operator [44]

--------------------------------------------------------------------------------

The next question will come from Ann Duignan with JPMorgan.

--------------------------------------------------------------------------------

Thomas Marc Alfred Simonitsch, JP Morgan Chase & Co, Research Division - Analyst [45]

--------------------------------------------------------------------------------

This is Tom Simonitsch on for Ann. Just going back to your production forecast, I see that the 2018 market outlook is essentially unchanged, but you're increasing your production hours forecast by 2% for a second consecutive quarter. And sorry, if I missed this before, but what has changed since the Q2 call? And if you could just give more color on the regional production variance.

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [46]

--------------------------------------------------------------------------------

Yes. As we mentioned, we have increased volume -- sales volumes slightly. You can see that our sales forecast remained unchanged, but the amount of currency uplift that we're expecting is now -- that now from -- I think, up 1% or so now down to being neutral. So there has been some increased sales volume, particularly in North America and in Europe in order to offset that impact.

--------------------------------------------------------------------------------

Thomas Marc Alfred Simonitsch, JP Morgan Chase & Co, Research Division - Analyst [47]

--------------------------------------------------------------------------------

Okay, that's helpful. And also if you could just talk more about your grain storage business in North America, given current fundamentals and pretty limited commercial capacity?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [48]

--------------------------------------------------------------------------------

Yes. So the grain storage business in North America is starting to improve. We've seen some improvement, particularly, in the farm sector, the farm market, whereas the commercial side of things has remained relatively flat. And -- but there are some signs that commercials could start to improve now. In terms of grain storage, it does move kind of in the same line as what we see with high horsepower tractors and combines. It's tied a lot to farm income, it's a fairly sizable investment for farmers. And so at these income levels, we're still seeing hesitation from farmers to invest even though there is a real need right now because of their desire to store more crops and delay selling their crops because of some of these trade issues that we see.

--------------------------------------------------------------------------------

Operator [49]

--------------------------------------------------------------------------------

The next question will come from Andrew Casey with Wells Fargo Securities.

--------------------------------------------------------------------------------

Andrew Millard Casey, Wells Fargo Securities, LLC, Research Division - Senior Machinery Analyst [50]

--------------------------------------------------------------------------------

Just a couple quick questions. There is higher production in Q4 based on your guidance. I'm just looking to understand why did the guidance imply about 6% earnings growth at the midpoint after Q3 grew about 15% on 6% unit production growth? And looking at if the incremental headwind that you expect is all tax related? Or if you can provide any other puts and takes on that?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [51]

--------------------------------------------------------------------------------

Sure. I mean, what we're looking at is margin improvement -- sales and margin improvement in the fourth quarter. We do have quite a substantial hit on currency because of the weaker euro. And so that's a headwind. And as you pointed out, our tax rate will be much higher than it was a year ago where we had kind of a favorable discrete item. And so we'll be up on operating, but some of that will be offset from a tax standpoint.

--------------------------------------------------------------------------------

Andrew Millard Casey, Wells Fargo Securities, LLC, Research Division - Senior Machinery Analyst [52]

--------------------------------------------------------------------------------

Okay. And on the pricing outlook, it's relatively flat compared to prior guidance. Hearing about competitors raising prices 4% to 5% for 2019 delivery for high horsepower equipment, just wondering if you've seen those levels of increases given that we're kind of ending the fiscal year for some competitors at this point and if you have any initial view on potential price increases in 2019.

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [53]

--------------------------------------------------------------------------------

We're hearing same types of numbers. I think some of that pricing is starting to be announced, but most of it is still to come. Most of our pricing announcements will be here relatively soon for our model year pricing for -- particularly, for North America. And our intent is to price with the market and to recover some of these higher material costs that we're seeing.

--------------------------------------------------------------------------------

Andrew Millard Casey, Wells Fargo Securities, LLC, Research Division - Senior Machinery Analyst [54]

--------------------------------------------------------------------------------

Is the goal still to being neutral on that? Or are you looking to kind of now that the cost ramp has flattened out a little bit, are you looking to ramp up the pricing to kind of adjust pricing for the long term and recoup that?

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [55]

--------------------------------------------------------------------------------

Normally, we are very aggressive when it comes to pricing, and we will do the same also in 2019.

--------------------------------------------------------------------------------

Operator [56]

--------------------------------------------------------------------------------

The next question will come from Joe O'Dea with Vertical Research.

--------------------------------------------------------------------------------

Anthony J. Toro, Vertical Research Partners, LLC - Analyst [57]

--------------------------------------------------------------------------------

This is TJ on for Joe. Just on production to follow up on an earlier question, what implications does this have for 2019?

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [58]

--------------------------------------------------------------------------------

We don't talk about 2019 yet. So -- but for 2019, we basically start in very good shape, low inventories, low dealer inventories and very solid order book. So therefore, you will see us produce in a very structured manner.

--------------------------------------------------------------------------------

Anthony J. Toro, Vertical Research Partners, LLC - Analyst [59]

--------------------------------------------------------------------------------

Got it. And then secondly, on tax. Fully appreciating that tax rate is not going to be uniform across quarters, but it kind of has come in below guide the past year. So I'm just curious what is driving that?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [60]

--------------------------------------------------------------------------------

Well, we're starting to see some improvement in our North America results. And when that happens, because we are not benefiting our losses in North America, and so as the income improves in North America, it will by that nature improve our tax rate. So as we continue to recover, the market improves in North America and our income improves in North America, that will drive our overall tax rate down. And so that's been the main change during the year.

--------------------------------------------------------------------------------

Anthony J. Toro, Vertical Research Partners, LLC - Analyst [61]

--------------------------------------------------------------------------------

Got it. And one more quick one, just to follow up on the tax question. If North America continues to improve, it sounds like there might be some room for that 35% to 36% effective tax rate to continue to move lower going forward. Is that a fair theory?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [62]

--------------------------------------------------------------------------------

Yes, that's correct.

--------------------------------------------------------------------------------

Operator [63]

--------------------------------------------------------------------------------

The final question will come from Steven Fisher with UBS.

--------------------------------------------------------------------------------

Erika Mary Jackson, UBS Investment Bank, Research Division - Equity Research Associate and Generalist [64]

--------------------------------------------------------------------------------

This is Erika Jackson on for Steve Fisher. I know you talked about your order book overall earlier. But I was just wondering if you could touch on how your combine orders have been trending over the last few months? And then since I know the IDEAL Combine isn't fully rolled out, maybe just if you have any perspective on how industry combine orders are trending or just general demand for combines currently?

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [65]

--------------------------------------------------------------------------------

I think, you can see in our numbers that the combine market is stronger than where it was a year ago. Again, I think, it's around the replacement demand driving a need to...

--------------------------------------------------------------------------------

Martin H. Richenhagen, AGCO Corporation - Chairman, President & CEO [66]

--------------------------------------------------------------------------------

And new products.

--------------------------------------------------------------------------------

Andrew H. Beck, AGCO Corporation - Senior VP & CFO [67]

--------------------------------------------------------------------------------

And new products. We're really not taking -- we're just starting to take some orders on IDEAL Combine. So that will be more a next year story. So what we're focused on this year is finishing out the year strong, having a good retail fourth quarter of our existing portfolio of products.

--------------------------------------------------------------------------------

Operator [68]

--------------------------------------------------------------------------------

There are no further questions at this time. I would like to turn the conference back over to Greg Peterson for any closing comments.

--------------------------------------------------------------------------------

Greg Peterson, AGCO Corporation - Director of IR [69]

--------------------------------------------------------------------------------

Thank you, Thea. And thanks to everyone for participating. And if you do have follow-up questions, I will be available the rest of the day to address those. Have a great day, and thanks, again, for your participation.

--------------------------------------------------------------------------------

Operator [70]

--------------------------------------------------------------------------------

Ladies and gentlemen, thank you for participating in today's conference call. You may now disconnect.