John Deere (NYSE:DE) can do no wrong. That's pretty much how investors must see it right now as the stock continues to post all-time highs. Moreover, Wall Street analysts rushed to raise their price targets after a very strong set of first-quarter earnings results. Here's what happened and why the stock can go even higher in the future.
Deere's smart farming solutions are leading to higher average selling prices for its large agricultural equipment sales. Image source: Getty Images.
1. Raised guidance
Before getting into the details, investors should pause and reflect on the startling hike in full-year 2021 guidance given on the earnings call. This sort of thing can often happen with highly cyclical companies like Deere, where earnings surprise on the upside on the way up and then on the downside on the way down.
|
Full Year 2021 Guidance |
Current |
At November |
|---|---|---|
|
Net income |
$4.6 billion to $5 billion |
$3.6 billion to $4 billion |
|
Effective tax rate |
24%-26% |
26%-28% |
|
Net operating cash flow |
$4.6 billion to $5 billion |
$3.8 billion to $4.2 billion |
Data source: Deere presentations.
2. Strength across all segments
Having formerly reported out of two segments, namely agriculture and turf and construction and forestry, Deere has split the agriculture and turf segment and created two new segments as a consequence. The good news is that all of Deere's segments are improving, so the company is not overly reliant on any one segment or business line.
In the table below, I have the old agriculture and turf segment for easier comparison. It shows how the two new segments compare to guidance from the older segment
|
Sales Growth Guidance |
Current |
At November |
|---|---|---|
|
Production and precision ag |
$15.5 billion to $16.5 billion |
N/A |
|
Small ag and turf |
$10.5 billion to $11.5 billion |
N/A |
|
Agriculture and turf (total) |
$26 billion to $28 billion* |
$24.6 billion to $25.7 billion |
|
Construction and forestry |
$10.5 billion to $11 billion |
$9.4 billion to $9.8 billion |
Data source: Deere presentations, author's analysis.
Focusing on the construction and forestry segment for the moment, Deere's manager of investor communication, Brent Norwood, cited the strength in the U.S. housing market as the main reason for an improvement in earthmoving and compact equipment sales as well as " a modest recovery from trough conditions in the oil and gas sector." Meanwhile, a recovery in lumber demand has boosted prospects for forestry-related sales.
3. Deere proved the doubters wrong on the cycle
There's been plenty of debate around the question of just where Deere is in the cycle of peaks and troughs in spending on agriculture equipment.
However, given the earnings and guidance upgrade, it's clear that Deere isn't about to hit a peak anytime soon. Indeed, management thinks it's just above the mid-cycle for large agriculture equipment.
It's been a long time coming, but it appears that Deere's large agriculture equipment sales are finally starting to come through. Indeed, Director of Investor Relations Joshua Jepsen said the strong order book is "a good indicator of the replacement demand that we've been expecting and have thought we would see over the last couple of years coming to fruition here."
As such, investors in Deere can hope that the upswing in the cycle will at least extend into 2022.
4. Deere's smart farming solutions
In addition to replacement demand kicking in, Deere's large agriculture equipment sales are also receiving a boost and growth in profitability due to its growing range of precision agriculture, or smart farming, solutions. These are digital technologies that use real-time data points to help farmers make the right decisions on everything from preparing the soil and seed planting to nurturing and harvesting.
Integrating these smart technologies is helping to differentiate Deere's equipment offerings, and it's also helping to increase the average selling prices of Deere's large agriculture equipment, according to Jepsen. Moreover, CFO Ryan Campbell outlined that the adoption of smart technologies meant that Deere was selling relatively more software as a share of equipment sales. That's something likely to push margins higher.
5. Precision agriculture will grow worldwide
Finally, Deere is very far from reaching a stage of maturity with its precision agriculture sales. There's a growth opportunity through increasing the adoption rate in North America, and the rest of the world is highly likely to follow the lead in adoption. Jepsen highlighted the "potential impact of regulatory environments" on demand in Europe.
Image source: Getty Images.
In addition, Deere is far from finished developing smart farming solutions for farmers. For example, the company recently bought farm profitability software company Harvest Profit in order to increase the range of its offerings.
Looking ahead
Putting it all together paints a picture of a company still in the mid-cycle of an upswing. Deere is seeing an increase in sales and margin through the cycle as a result of proprietary technology that's providing direct use to its customers. That's something that could drive the stock still higher in 2021.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.
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