Deere & Company — Q2 FY2017 Form 10-Q
Business context and reporting period. The unaudited quarter ended April 30, 2017, and the six-month period covered 13-week quarters. Deere’s equipment operations comprise agriculture and turf and construction and forestry; Financial Services finances equipment sales and leases. Comparisons are with the quarter ended May 1, 2016 and the corresponding six months.
Financial performance
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Net sales | $7.260 billion | $7.107 billion | $11.958 billion | $11.876 billion |
| Total net sales and revenues | $8.287 billion | $7.875 billion | $13.912 billion | $13.400 billion |
| Net income attributable to Deere | $802.4 million | $495.4 million | $996.2 million | $749.8 million |
| Diluted EPS | $2.49 | $1.56 | $3.10 | $2.36 |
| Operating cash flow, consolidated | Not separately stated for the quarter | $(175) million | $(312) million |
- Quarterly net sales rose 2% and total revenues rose 5%; for six months, net sales rose 1% and total revenues rose 4%. Higher other income, including the SiteOne gain, contributed significantly to the larger increase in total revenues.
- Q2 operating profit by segment: Agriculture and Turf $1.003 billion versus $614 million; Construction and Forestry $108 million versus $74 million; Financial Services $160 million in both periods. For six months, segment operating profit was $1.215 billion, $143 million and $328 million, respectively.
- Equipment cost of sales was 75.0% of net sales in Q2 and 77.3% year to date, compared with 77.8% and 78.9%. Management cited price realization and favorable mix, with foreign exchange helping the quarter; higher warranty costs and separation-program expenses were offsets.
Liquidity, debt and cash flow
- At April 30, cash and cash equivalents were $4.526 billion and marketable securities were $546 million. Worldwide credit lines totaled $6.954 billion, of which $4.450 billion was unused. Management said it expected sufficient global funding and liquidity.
- Balance-sheet borrowings were $7.964 billion short term, $4.225 billion short-term securitization borrowings and $23.253 billion long term. Financial Services accounted for most borrowings; its external interest-bearing debt was $30.644 billion, with debt-to-equity of 7.7:1. Equipment Operations interest-bearing debt was $4.797 billion, with debt-to-total-capital of 38%.
- Consolidated operating cash use of $175 million reflected seasonal increases in sales receivables and inventories; inventory-related cash use was $1.090 billion. Investing activities provided $301 million and financing activities provided $72 million. Cash increased $190 million to $4.526 billion.
- Financial Services’ funding relies on commercial paper, term debt, securitizations, equity and intercompany funding. The filing reports $4.225 billion of short-term securitization borrowings; related restricted assets and repayment depend on collections from securitized receivables.
Changes, outlook and material items
- Net income attributable to Deere increased 62% in Q2 and 33% in the first six months. Management attributed stronger equipment results to pricing, favorable mix, higher shipment volumes and, in Q2, favorable currency effects. Financial Services’ year-to-date income declined, principally due to less favorable financing spreads and higher selling and administrative costs.
- SiteOne sales generated a $176 million pretax ($111 million after-tax) gain in Q2, recorded in Agriculture and Turf other income. Deere received the $184 million proceeds in Q3; it retained about 5% ownership. The gain is a significant nonrecurring contributor to reported results.
- Management forecast FY2017 equipment sales up about 9%, total net sales and revenues up about 9%, and net income attributable to Deere of about $2.0 billion. Q3 equipment sales were forecast up about 18%. FY2017 Agriculture and Turf sales were forecast up about 8%, Construction and Forestry up about 13%, and Financial Services net income at approximately $475 million.
- Market assumptions included U.S./Canada agricultural machinery industry sales down about 5%, EU28 sales flat to down 5%, and South American tractor and combine sales up about 20%. Management cited low crop prices and farm incomes, global economic and policy uncertainty, currency and commodity volatility, interest rates, used-equipment pricing, and geopolitical risks.
- On May 31, 2017, after quarter-end, Deere agreed to acquire substantially all of Wirtgen’s business. The estimated transaction value was about €4.6 billion (approximately $5.2 billion), including assumed net debt and estimated fees. Deere expected to fund it with cash and new debt; closing was expected in Q1 FY2018, subject to regulatory and other conditions.
- Voluntary employee-separation programs carried approximately $113 million of pretax expense, including $94 million in Q1 and $5 million in Q2 FY2017; the company estimated approximately $70 million of savings in FY2017. Legal proceedings are in the ordinary course; management said reasonably possible additional losses were not expected to materially affect the financial statements.
Key investor verification points
- Assess earnings excluding the SiteOne gain and confirm its cash-flow and tax treatment.
- Track whether the FY2017 $2.0 billion net-income outlook and equipment-sales forecasts are achieved, given the mixed regional market outlook.
- Monitor seasonal receivables and inventory growth, operating cash flow, and liquidity needs across equipment and finance operations.
- Review Financial Services’ financing spreads, credit-loss provisions, delinquencies, lease residual values and funding costs.
- Verify Wirtgen approval, closing, final purchase economics, funding mix and resulting leverage.
- Review the detailed risk factors and commitments, including securitization exposures, guarantees, warranties and unresolved litigation; the filing states that additional legal losses are not expected to be material.