DBRS Confirms Deere & Company at “A” and R-1 (low), Trends Stable

DBRS has today confirmed the Issuer Rating and Senior Unsecured Debt of Deere & Company (Deere or the Company) and its subsidiaries at “A.” The Commercial Paper rating is confirmed at R-1 (low). All trends are Stable. Deere continues to benefit from a superior business profile characterized by strong and profitable market positions in a broad range of product categories in North America and other continents, backed by top market shares in agricultural and forestry equipment, and strong positions in construction equipment. Deere’s financial profile remains commensurate with the “A” rating, reflective of the Company’s superior coverage ratios, reasonable debt levels, strong balance sheet position and superior access to large and varied sources of liquidity. The Guaranteed Medium-Term Notes matured in 2012 and as such the rating has been discontinued.

DBRS expects that Deere will continue to benefit from elevated crop pricing and increased global agricultural activity, the housing recovery in the U.S. and an increase in product introductions to extend positive sales momentum throughout fiscal 2013. Although Company sales growth will likely be below recent trends, Deere’s top-line is also nonetheless expected to benefit from its expansion in South America and the Commonwealth of Independent States (CIS), augmented by Deere’s recent opening of sales financing branches in those regions. Increased diversity of sales by geography and product will also help mitigate economic uncertainty in U.S. and Canada, the softness prevailing in the in European market and the softer construction industry in China.

Operating results of Equipment Operations were strong in 2012 and sales increased due to stronger pricing and volumes, but were negatively impacted by foreign currency impacts. Sales in the agricultural and turf equipment segment rose 13% compared to fiscal year 2011 (ending October 31, 2011), backed by strong farm incomes in the U.S. (despite widespread U.S. drought), as well as increased tractor and combine shipments in the Brazilian market, with Deere’s tractor share rising throughout the year. Sales in the construction and forestry segment climbed 18.7% compared to 2011, reflecting the U.S. housing recovery. Sales in U.S. and Canada rose 20%, while sales outside of those regions expanded 5%, reflecting weak sales in Europe and South and Central Americas (outside Brazil). Sales in Europe continued to be impacted by the overall negative economic environment, as well as weak crops due to poor weather in the U.K. and southeast EU. Argentina was negatively impacted by the economic deceleration and decreased government spending. DBRS-calculated operating profit margin of 11.7% in 2012 was an all-time high and generally reflects Deere’s enhanced cost position as a result of increased cost discipline. In fiscal year 2012 (ending October 31, 2012), cost of sales decreased to 72.6% of revenue from the range of 74% to 76%, and selling, general and administrative costs dropped to under 9% of revenue, from the range of 9% to 10% in recent history. Deere’s solid operating earnings and strong cash flow generation helped maintain interest and cash flow-to-debt coverage metrics consistently at or above the “A” range.

The Company finished fiscal 2012 with cash balances exceeding $6 billion, $5 billion of which was held at Equipment Operations. The larger-than-usual cash balance as a percent of total assets, reflects management’s prudence surrounding uncertainty in financial markets at year-end, largely characterized by the fiscal cliff. As a result, adjusted debt-to-capitalization jumped to 36.8% from 29.3%, although DBRS notes that on a net debt-to-capitalization basis, the ratio is materially lower at 14.4%. With some of the uncertainty now subdued, and with substantial liquidity available under its credit lines and additional available funding sources, such as notes, conduits and commercial paper programs, Deere could potentially manage down the cash balance to a level commensurate with historical experience. DBRS also notes that given improved operating performance in 2012, Deere’s dividend and share repurchase programs have been increasing, but that this is manageable given the Company’s substantial balance sheet flexibility. Deere’s financial profile will likely continue to be firm throughout 2013, noting that Deere’s rating can likely withstand low- to mild-sized adverse operating performance impacts.

Deere’s superior business profile is characterized by its leading position in the North American market, which continues to be a backbone in the overall enterprise. The Company’s incumbent position and strong dealer system in U.S. and Canada allow delivery of existing products and the launch of new innovative products, which the brand has come to represent. Deere has consistently managed to supply the market with new products and updates on existing ones, which has allowed the Company to maintain or grow its market share and sustain pricing momentum. In 2012, Deere launched its most extensive product expansion in history with the introduction of more efficient engines, remote monitoring technologies and generally more machines across most segments and price points. DBRS expects that Deere will maintain its dominant position in agriculture and defend its number two position in construction as a result of these efforts.

Aside from enhancing product diversity and entrenchment in its home market, Deere is also targeting international markets. In some of these markets, such as Brazil, the Company already has a significant presence; but in other regions, the Company is anticipating growth in more fragmented markets. Consistent with this mission, Deere has increased production, financing, sales and marketing presence globally as evidenced by seven new production facilities and the opening of multiple offices. The combination of increased product diversity and complementary sale finance locations internationally, should serve to increase Deere’s share in those areas; although this is not something that will have immediate payoff and will likely pay dividends in the mid to long term (five to ten years).

Nonetheless, increased geographical penetration and market-specific products and pricing should help Deere gain critical mass in new markets, some of which are likely not contributing as positively as the Company’s core North American market. As such, operating profit margin in 2012 outside of Canada and the U.S. was only 5.4% in 2012, as Deere is only starting to gain size in key emerging markets and positions for future growth. Complementary to these expansion efforts are the Company’s sales financing operations, which remain key in markets, such as the CIS, where lack of access to financing for farmers makes equipment purchasing more difficult. Increased financial services presence on the ground should not only drive a multiplicative sales effect for top-line growth, but also provide some downside protection to overall Company sales volatility.

In 2013, several developments should benefit Deere’s positive momentum in equipment sales growth. In the U.S., the housing market recovery, elevated farm incomes, low crop inventories, enhanced tax incentives for farmers and elevated crop prices, as a result of the recent drought, should help sustain equipment purchasing activity. In Brazil, record crop production due to favourable weather conditions, government subsidies and a weaker real are positive catalysts for crop expansion and Deere should continue to benefit from these developments given its strong market share in combines and tractors. Additionally, with elevated pricing of crops, there will be some pressure on the rest of South America, Europe and the CIS to increase production.

Partially offsetting the favourable outlook is the ongoing uncertainty and slowdown in the euro zone, as well as softness in the Chinese construction market. Some softness is also expected from the dairy and meat farmers who remain challenged due to elevated input costs and moderating dairy and meat pricing. Additionally, the overall equipment industry had a strong 2012, with many products showing strong sales increases and elevated yearly equipment unit sales. Some of the purchasing activity in the U.S. is potentially attributable to fears of tax incentive expiration as well as fiscal cliff concerns. In Brazil, preparation for record crops could be credited with healthy unit sales. For these reasons, Deere is not expected to show dramatic improvement in top-line volume growth.

Although Deere remains subject to cyclicality and remains subject to economic swings, Deere’s financial profile is expected to remain solid throughout 2013, as the Company’s solid balance sheet and liquidity position is well positioned to withstand any slowdown and low- to medium-sized sales and operating profit impacts. As such, Deere’s financial profile is expected to remain unchanged through 2013, with its superior business profile continuing to underpin the current rating. The Company remains well positioned to benefit in the long term from fundamentals supporting agricultural and construction product demand, such as growth in global food consumption, biofuel usage, urbanization and infrastructure demand.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The John Deere Credit Inc. name was changed to John Deere Financial Inc. in 2012.

The applicable methodology is Rating Companies in the Industrial Products Industry (June 2011), which can be found on our website under Methodologies.