Business Context and Reporting Period
Company: DEERE & CO
Filing Type: Form 10-Q (Unaudited)
Reporting Period: Three months ended January 31, 2006
Business Overview: The Company operates primarily through Equipment Operations (agricultural, commercial/consumer, and construction/forestry equipment) and Financial Services (credit and leasing). The health care operations were sold in February 2006 and are reported as discontinued operations.
Key Financial Metrics
| Metric (in millions, except per share) | Q1 2006 | Q1 2005 |
|---|---|---|
| Net Sales and Revenues | $4,202.1 | $3,934.5 |
| Net Income | $235.9 | $222.8 |
| Diluted EPS (Net Income) | $0.99 | $0.89 |
| Operating Profit (Equipment Ops) | $261.0 | $262.0 |
| Cash and Cash Equivalents | $1,477.2 | $2,865.5 |
| Total Debt (Short-term + Long-term) | $18,731.6 | $14,926.5 |
| Net Cash Used in Operating Activities | ($962.9) | ($405.7) |
Note: Total Debt calculated as Short-term borrowings ($6,530.2M) + Long-term borrowings ($12,201.4M) for Q1 2006.
Material Changes vs. Prior Period
- Revenue Growth: Total net sales and revenues increased 7% to $4,202.1 million, driven by a 20% increase in Commercial and Consumer equipment sales and an 18% increase in Construction and Forestry sales. Agricultural equipment sales declined 6%.
- Profitability: Net income rose 6% to $235.9 million. Income from continuing operations increased 4% to $223.9 million. Income from discontinued operations (health care) increased 50% to $12.0 million.
- Cash Flow: Net cash used in operating activities increased significantly to $962.9 million (from $405.7 million usage in 2005), primarily due to a $629.2 million increase in inventories and a $519.3 million decrease in accounts payable.
- Debt Levels: Total borrowings increased substantially, with short-term borrowings rising to $6,530.2 million and long-term borrowings to $12,201.4 million, reflecting growth in the credit portfolio and higher borrowing rates.
Guidance, Outlook, and Risks
Management Guidance
- Full-Year 2006 Net Income: Forecast at approximately $1.65 billion.
- Q2 2006 Net Income: Forecast in the range of $675 million to $700 million.
- Sales Outlook: Company equipment sales projected to increase 3-5% for the full year. Agricultural sales expected to be flat to down 2%; Commercial/Consumer up 10-12%; Construction/Forestry up 8-10%.
- Special Items Impacting Guidance:
- Health Care Sale: Expected to add ~$225 million after-tax to Q2 and full-year earnings.
- Canada Plant Closure: Expected after-tax charge of ~$40 million over the year.
- Debt Tender Offer: Expected after-tax charge of ~$50 million in Q2.
Risks and Contingencies
- Accounting Changes: Adoption of FASB Statement No. 123(R) resulted in an additional $42 million pretax expense ($26 million after-tax) in Q1 2006 for share-based compensation.
- Restructuring: Closure of the Woodstock, Ontario forestry facility expected to cost ~$60 million pretax over 12-18 months.
- Market Risks: Exposure to raw material costs (natural gas, petroleum, steel, rubber), foreign currency fluctuations, and global farm fundamentals (commodity prices, weather, subsidies).
- Legal: Various unresolved legal actions regarding product liability, asbestos, and intellectual property, though management does not expect a material effect.
Investor Verification Checklist
- Inventory Build: Verify the rationale for the $597 million seasonal inventory increase and its impact on future cash flows.
- Debt Servicing: Review the impact of rising interest rates on the Financial Services segment, where interest expense increased 50% year-over-year.
- Discontinued Operations: Confirm the timing and final accounting treatment of the $500 million health care sale proceeds and associated gains.
- Restructuring Costs: Monitor the execution of the Canada plant closure and the associated $60 million cost estimate.
- Share-Based Compensation: Assess the ongoing impact of the new FASB 123(R) standard on future earnings, with $97 million of unrecognized compensation cost remaining.