Deere & Co. (DE) announced earnings on Wednesday, and the results weren’t pretty.
Deere cut its fiscal 2014 outlook, as declining grain prices have put a crimp in spending for many of its customers. DE stock has fallen 6.5% in 2014, lagging the market by more than 10 percentage points. Agriculture stocks in general have been looking very weak this year, down almost 2% year-to-date through August 12.
On the surface there appears to be very little to tempt investors into buying “ag stocks” at the moment. Deere stock and the rest of its peers are cyclical in nature, beholden to commodity prices. When prices are high and farmers are flush, that’s when combines and tractors get bought. But now is not that time, leaving ag stocks to twist in the wind. It’s simply the nature of the beast.
That said, I believe the following trio of ag stocks are worth holding for the long run. The recent weakness might be the perfect time for a contrarian buy.
Ag Stocks to Buy — Agco (AGCO)
Agco (AGCO) is the world’s third-largest manufacturer of agricultural machinery behind only Deere and CNH Global (CNH); its brands include Massey Ferguson, one of Canada’s most iconic names in agriculture.
CEO Martin Richenhagen appeared on Bloomberg TV during the U.S. Africa Leaders Summit in Washington, suggesting that although grain prices have dropped considerably, yields have been very healthy providing farmers with good incomes despite the short-term gyrations in prices. Long-term, there is no problem.
Just like Deere, AGCO had a lousy quarter, with earnings declining by 22% on a 9% drop in sales. Worst still, it cut its 2014 EPS estimate by 17% to $5 per share. Since its July 29 announcement, AGCO stock has lost about 5% of its value and is down 16% YTD — 14 percentage points worse than the rest of the ag stocks. Things are definitely looking bleak.
So why do I like AGCO stock?
Well, in a word … value. Its current enterprise value is 5.1 times EBITDA, which compares favorably to both DE and CNH stock at 10 and 8.6 times EBITDA respectively. But cheap doesn’t always translate into good.
What makes me so interested in AGCO stock is its financial position. At the end of June, it had $979 million in total debt with $323 million in cash on hand for net debt of $556 million, which is about half the amount of its trailing 12-month EBITDA of $1.09 billion. While AGCO doesn’t have financial services income like Deere and AGCO — the margins are very healthy — it does have the satisfaction of knowing its financial position allows it to weather any storm.
In the end, ag stocks are going to benefit from the world’s shortage of food. While AGCO stock is sputtering now, that won’t always be the case.
Ag Stocks to Buy – Valmont Industries (VMI)
In the second quarter of 2009, Valmont’s irrigation segment generated $101 million in revenue, or about 20% of its overall business. In this year’s Q2, irrigation revenues represent 25% of its overall business despite declining by 19% year-over-year. In its Q2 conference call CEO Mogens Bay suggested that last year’s record second quarter would have been tough to beat.
As far as its irrigation segment is concerned, it wasn’t a bad quarter despite the 19% sales decline. In fact, Bay commented that the quality of its operating income in the irrigation segment was actually quite good considering some of the headwinds it faces in several of its geographic markets. That’s the sign of a big-picture thinker.
Money manager Ron Baron had some nice things to say about VMI stock in his second-quarter letter to shareholders. He pointed out that VMI has 45% market share when it comes to center-pivot irrigation systems in North America, with that number expected to rise with the increasing acceptance of this type of watering system. He also remarked that VMI stock has achieved a compound annual growth rate of 16.6% over the past 21 years — 720 basis points better than the S&P 500.
Look, things are rough for ag stocks right now. There’s no getting around that. But Valmont is so much more than a simple agriculture stock, thanks largely to leadership that really understands the business.
At the end of the day, when you have a leader like Mogens Bay who states, “This company could survive for a long time without its CEO. It couldn’t last through lunchtime without its welders,” it’s not hard to want to own VMI stock in any market conditions.
Ag Stocks to Buy – Deere & Co. (DE)
How do you bet against the big green monster? You can’t.
AGCO stock might be better value in my opinion, but Warren Buffett’s belief that “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price,” is hard to argue. Deere (DE) is a wonderful company in every sense of the word.
The only question to answer is whether Deere stock is trading at a fair price or not.
If you look at Deere’s valuation from a historical perspective, I don’t think there’s any conclusion one can arrive at other than it’s currently trading below fair value. Sure, it’s within 15% of its all-time high of $99.80, but it’s also got an earnings yield of 10.6%, something very few companies possess at the moment. Its P/E is half the S&P 500 and lower than it has been since 2008, and its dividend yield is higher than its five-year average of 2%. I could go on and on.
The simple reality is that, despite weakness in ag stocks, Deere is still going to generate more than $3 billion in net income in fiscal 2014 — almost four times what it did in 2009. If it meets its profit estimates in 2014, it will have delivered its second-highest profit in corporate history.
It’s hard to bet against that, despite the temporary weakness.
As of this writing, Will Ashworth did not own a position in any of the aforementioned securities.