We also evaluate how a company performed during the last recession to assess the safety of its dividend. Deere’s sales fell by 19% during fiscal year 2009, and its reported earnings per share plunged by more than 50%. Deere’s stock also dropped by almost 60% in 2008 and trailed the S&P 500 by over 20%. Deere’s business is clearly sensitive to the economy and needs to be managed more conservatively than some other types of businesses that are less cyclical.
Source: Simply Safe Dividends
While Deere’s business must always be ready for the ups and downs of its markets, the company’s free cash flow generation has been nothing short of excellent. As seen below, Deere has generated free cash flow in each of the last 10 years.
The company has consistently improved the profitability and flexibility of its manufacturing plants to quickly respond to industry downturns as well – Deere’s free cash flow increased over the last few years despite the steep drop in demand for its agricultural equipment.
Source: Simply Safe Dividends
Another factor we look at when it comes to dividend safety is the return on invested capital a company earns. Higher quality, more reliable businesses tend to healthy and stable returns on capital.
Deere has earned good returns in the high-single to low-double digits throughout most of the last decade. Despite the capital intensity of its operations and the volatility of its end markets, Deere’s pricing power and efficient operations have helped it create economic value consistently.
Source: Simply Safe Dividends
Whenever we analyze a cyclical dividend stock, we pay very close attention to its balance sheet. If a company has taken on too much debt right before demand unexpectedly falls, its dividend could be jeopardized.
Looking at Deere’s balance sheet is a bit complicated because of its Financial Services segment, which provides financing to dealers. This segment financed the purchase of half of the new equipment sold by Deere last year, so it’s very important to the company’s business.
Practically all of Deere’s debt is related to its Financial Services segment. The loans are backed up by the company’s equipment. If a customer defaulted on their payments, Deere would reclaim its equipment and could presumably resell it somewhat easily given its high quality.
Importantly, Deere has run this segment very conservatively over the years. Despite the tough agriculture markets today, credit losses amounted to about $1 per $1,000 of loans in 2015, highlighting the good credit quality of Deere’s end customers. While we will keep an eye on this metric going forward, we aren’t too concerned about the company’s loans because of Deere’s long-term track record of conservatism.
Source: Simply Safe Dividends
Deere’s dividend has a lot of strengths going for it. The company maintains healthy payout ratios, generates consistent free cash flow, and is conservatively financed. Despite the prolonged downturn in agricultural markets, Deere appears to be reasonably well positioned to keep paying its dividend.
