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Is Deere Entering a Fallow Period?
02/15/2012 3:58 pm EST
Despite an earnings beat, investors sold off the farm-equipment maker heavily today. But the long-term and short-term strategies for playing this move are very different, writes MoneyShow’s Jim Jubak, who also writes for Jubak’s Picks.
With a cyclical stock—even a cyclical stock such as Deere (DE) that’s riding a long-term, multi-decade upward trend in global demand for food—investors are always looking for signs that the cycle is near a top.
I think that explains the nearly 4% drop (as of 2:45 p.m. New York time today) for Deere’s shares after the company announced earnings for the first quarter of fiscal 2012. (Deere is a member of my long-term Jubak Picks 50 portfolio.)
The problem was the discrepancy between Deere’s big beat on earnings—the company reported $1.30 a share, versus the Wall Street consensus of $1.23—and its relatively tepid sales growth for the quarter of just 8% from the first quarter of fiscal 2011. The discrepancy continued in the company’s guidance for the rest of 2012.
The selling today is based on the big question raised by that discrepancy. Is this a top—a temporary top—in sales for Deere?
Answering that question got more urgency from Deere’s projection that farm cash receipts in the United States would be lower than the company previously forecast, at $371.9 billion for the 2012-2013 farm session instead of the earlier $374.2 billion projection.
For all of fiscal 2012, Deere increased its net income guidance by $75 million, to $3.275 billion (or $8.02 a share). That’s well above the Wall Street estimate of $7.81 a share.
But the company left its guidance for total sales growth at 15%, with higher pricing accounting for four percentage points of that growth. Slower sales growth eventually translates into slower earnings growth, and Deere gave analysts who were worried about that potential problem just enough to fret about.
Overall operating margins in agricultural equipment, for example, were a solid 12.2%, but the incremental margin—which is the margin on added sales in the quarter—fell to 5%. If incremental margins are falling, it’s sometimes a sign that a company is cutting deals with bigger discounts to keep sales growing. And that would be a sign that the best of the agricultural equipment cycle is behind Deere.
No one knows, based on this one quarter worth of data, whether or not the farm equipment cycle has peaked. But Deere’s stock price today is taking a beating because Wall Street thinks—if I can judge from analyst reports I’ve read in the last week or so—that the cycle is agricultural equipment is closer to a top than the cycle in trucks or mining or construction.
Deere’s own results added to that possibility, and the company noting that it expects its construction division to be its fastest growing unit in 2012 just adds weight to that belief.
My guess is that part of today’s selling is coming from Wall Street investors who are rotating out of Deere and into shares of companies such as Caterpillar (CAT) or Cummins (CMI), which are in equipment sectors that are seen as further from their peaks.
I don’t think any of this changes the long-term picture for Deere—it is still a stock to own for its exposure to the growing global demand for food (and protein in particular). But it does suggest that the stock may lie fallow for a while.
If you’re an active trader, you might want to follow the Wall Street rotation into Caterpillar and Cummins. If you’re more patient, you might want to use this fallow period for building up positions in Deere while the stock is relatively out of favor.
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