Higher-Than-Expected SG&A Expenses Have Confused Deere's Investors

| About: Deere & (DE)

Today, Deere (NYSE:DE), the world's largest manufacturer farm equipment, reported its earnings for the fourth quarter. The company topped the revenue estimates but missed the earnings estimates. The miss came from higher-than-expected production and SG&A costs. The impairment charge of John Deere Water was another reason for missing the EPS estimates. However, the investors were delighted to hear that DE posted a higher quarterly profit as compared to the same quarter previous year. According to Reuters, the strong sales in the North American market offset the weak demand in the international market.

Earnings Highlights

The company has a network of operations all around the world. Therefore, the currency fluctuations matter a lot to it. In many cases, the unfavorable currency translation spoiled the figures for different segments of the company.

The following graph shows the revenue geography of DE:

Click to enlarge images.

Worldwide net sales and revenues improved by 14% for the fourth quarter. The net income improved by 8%. Throughout the year, the company introduced new products in China, Brazil and India. In the U.S., the company made capacity enhancements for the production of tractors, sprayers, and cylinders.

The company reported an increase of 26% in the revenues from the U.S. operations. The revenues from the Canadian operations also rose by 20%. However, the international sales saw a year-over-year decline of 2% for the quarter. Weak global economy and the currency translation effects were claimed to be the reasons behind the decline. The company gets its revenues from three segments:

Agriculture & Turf and Construction & Forestry together form the equipment division. The company projects the equipment sales to increase by 5% for the next year -- i.e., FY 2013. It also expects the equipment division to post a 10% year-over-year increase in the revenues for the first quarter of 2013. The company is confident that despite a weak global economic environment, it is well-placed to carry out its growth plans.

Agriculture & Turf

This segment posted a 16% rise in revenues. The sales were driven by higher volume shipments and price realization. However, the operating margin stood at 12.6%, lower than the last year's margin of 13.7%. The margin was squeezed by high SG&A expenses.

The sales for the segment are expected to increase by 4% in 2013. High commodity prices and strong farm incomes are expected to drive the demand for its products. The sales are also expected to get a boost through international expansion and introduction of new products in 2013.

Discussing on a regional basis, the sale of agricultural machinery in the U.S. region is expected to remain flat in 2013. Strong demand for large equipments (like high-horsepower tractors) is expected to be offset by a weak demand from dairy and livestock sectors.

The sales in EU27 are expected to be flat to down 5% due to the continuing weakness in the European economy and a poor harvest in the U.K. Sales in Commonwealth of Independent States are expected to be modestly higher on a year-over-year basis.

The South American region is expected to display strong growth in the next year due to high commodity prices and a thriving plantation industry. The sales in Asia are expected to remain flat given a slower than expected growth in the emerging economies like India and China.

The forecasts mentioned above were for agricultural machinery only. The sales of turf equipment are expected to go up by 5% for the next year.

Construction & Forestry

This segment posted a 7% rise in the revenues on a year-over-year basis. The operating margin came out to be 7.3%, more than the last year's margin of 5.6%.

The overall sales for this segment are expected to go up by 8% for FY 2013. The international sales of forestry equipment are expected to remain flat as a weak European economy is expected to offset the growth in the North American market. An important indicator of the construction activity in the U.S. is the ABI index. ABI rose to 52.8 in October, above the September's score of 51.6. The following graph shows the trend:

A rise in ABI after June has sent positive signals to the market.

Financial Services

The income for this segment is expected to grow to $500 million in the next year, almost 9% more than the current figure of $460 million. The management expects the crop insurance claims to decline and the credit portfolio to grow.


A weakness in the Agriculture & Turf margins will be a huge concern for the investors. It will be interesting to see what the reason was behind higher than expected SG&A expenses in the last quarter that squeezed the margins. The management is expected to answer that question during the earnings conference call. Also, a weakness in the livestock sector is expected to be a drag in FY 2013 (lower margins).

The stock is trading at a cheap multiple of 10 times (below the average multiple of 11 times of a company belonging to the industrials sector). The sell-side expects the earnings to grow by 10% per annum for the next five years. The company has no debt-related problem and is generating positive operating cash flows. Above all that, the stock also pays a dividend yield of 2.1%.

Except for the questions cited above, apparently there seems to be no other problem with the stock. Therefore, with cheap valuations and a healthy dividend yield, I recommend the stock as a buy.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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