Can Clear Dominance Make Deere & Company (DE) a Buy?

The USDA also currently expects lofty crop prices through the 2012-13 growing season as a result of continued shortages. Deere’s management recently noted that sales should remain robust in 2013 because of positive pricing actions, new product launches, and further farmer spending.

However, continued difficult European economic sentiment, difficult year-over-year comparisons following several strong years in the U.S., and the potential for lower farm cash receipts have me slightly more cautious on the top line in both 2013 and 2014.

Still, strong operating margins in the near term due to solid cost control, aforementioned price actions, and higher deliveries of large farm machinery. Deere’s midcycle margins at about 11% is expected. While lower than near-term trends (and management’s goal of 12%), this metric is above historical averages due to improved efficiency and continued price increases that offset raw material cost escalation.

Notably, this performance is still better than the competitors AGCO and CNH, owing to Deere’s narrow economic moat rating and recent success with new products in South America (where Deere has enjoyed share gains). I still believe that global farm equipment markets will present a long-term opportunity for equipment manufacturers.

Bottom line points:

• As economies in Brazil, India, and China develop, their wealthier populations will demand higher-quality food. To keep pace, farms in these countries will require more advanced forms of agricultural equipment.
• Corn-based ethanol continues to be used as an alternative form of fuel in the U.S., creating a floor for corn demand that bolsters farmers’ incomes.
• Deere’s finance arm has typically required a substantial down payment on new equipment sales, and John Deere machinery generally holds its secondhand value well. As such, I don’t expect Deere Credit to face meaningful write-offs, even as the agricultural equipment market has weakened.
• Russia holds 8% of the world’s arable land, but only 25% of this acreage uses modern farming techniques as found in North America, creating a sizable growth opportunity for advanced equipment manufacturers such as Deere.

Ahsan Aslam Khan has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Ahsan is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.

The article Can Clear Dominance Make Deere a Buy? originally appeared on Fool.com is written by Ahsan Aslam.

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