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DE > SEC Filings for DE > Form 10-Q on 28-Aug-2014All Recent SEC Filings

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Form 10-Q for DEERE & CO


28-Aug-2014

Quarterly Report


Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

RESULTS OF OPERATIONS

Overview

Organization

The Company's equipment operations generate revenues and cash primarily from the sale of equipment to John Deere dealers and distributors. The equipment operations manufacture and distribute a full line of agricultural equipment; a variety of commercial equipment, consumer equipment and products; and a broad range of equipment for construction and forestry. The Company's financial services primarily provide credit services, which mainly finance sales and leases of equipment by John Deere dealers and trade receivables purchased from the equipment operations. In addition, financial services offer certain crop risk mitigation products and extended equipment warranties. The information in the following discussion is presented in a format that includes information grouped as consolidated, equipment operations and financial services. The Company also views its operations as consisting of two geographic areas, the U.S. and Canada, and outside the U.S. and Canada. The Company's operating segments consist of agriculture and turf, construction and forestry, and financial services.

Trends and Economic Conditions

Industry sales of agricultural machinery in the U.S. and Canada are forecast to decrease about 10 percent for 2014. Industry sales in the European Union (EU)28 nations are forecast to decrease about 5 percent. South American industry sales are projected to decrease about 15 percent. Industry sales in the Commonwealth of Independent States are expected to be significantly lower in 2014, while Asian sales are projected to be approximately the same. Industry sales of turf and utility equipment in the U.S. and Canada are expected to be about the same to up 5 percent in 2014. The Company's agriculture and turf segment sales decreased 11 percent for the third quarter and 8 percent for the first nine months of 2014. These sales are forecast to decrease by about 10 percent for fiscal year 2014. Construction equipment markets reflect further economic recovery and higher housing starts in the U.S., as well as sales increases outside the U.S. and Canada. The Company's construction and forestry sales increased 19 percent in the third quarter and 8 percent for the first nine months of 2014. This segment's sales are forecast to increase by about 10 percent for fiscal year 2014. Net income attributable to Deere & Company for the Company's financial services operations is forecast to be approximately $600 million in 2014.

Items of concern include the uncertainty of the effectiveness of governmental actions in respect to monetary and fiscal policies, the global economic recovery, the impact of sovereign and state debt, eurozone issues, capital market disruptions, trade agreements and geopolitical events. Significant volatility in the price of many commodities could also impact the Company's results. Designing and producing products with engines that continue to meet high performance standards and increasingly stringent emissions regulations is one of the Company's major priorities.

The Company's results reflected moderating conditions in the global farm sector, which negatively affected demand for farm machinery. The construction and forestry and financial services segments had higher operating profit. For the balance of the fiscal year, the Company will scale back production in line with demand for its agricultural products. The Company's plans to expand market presence throughout the world are progressing. In addition, the Company believes it is well positioned to earn solid returns through the business cycle and to realize benefits from the world's growing need for food, shelter and infrastructure.


2014 Compared with 2013

Net income attributable to Deere & Company was $850.7 million, or $2.33 per share, for the third quarter of 2014, compared with $996.5 million, or $2.56 per share, for the same period of 2013. For the first nine months of 2014, net income attributable to Deere & Company was $2,513 million, or $6.79 per share, compared with $2,730 million, or $6.97 per share, last year. Worldwide net sales and revenues decreased 5 percent to $9,500 million for the third quarter this year, compared with $10,010 million a year ago, and decreased 4 percent to $27,102 million for the first nine months, compared with $28,345 million a year ago. Net sales of the equipment operations were $8,723 million for the third quarter and $24,918 million for the first nine months, compared with $9,316 million and $26,373 million for the corresponding periods last year. Net sales of the equipment operations declined 6 percent for the third quarter and the first nine months, compared with the same periods a year ago. Sales included price realization of 2 percent for the third quarter and first nine months. Additionally, sales included an unfavorable currency translation effect of 1 percent for the first nine months. Equipment net sales in the U.S. and Canada decreased 8 percent for the third quarter and 7 percent year to date. Outside the U.S. and Canada, net sales decreased 4 percent for the third quarter, including favorable currency translation effects of 1 percent, and decreased 3 percent for the first nine months, including unfavorable currency translation effects of 1 percent.

The Company's equipment operations reported operating profit of $1,135 million for the third quarter of 2014 and $3,387 million for the first nine months, compared with $1,443 million and $3,943 million for the same periods last year. The decline for the third quarter was due primarily to the impact of lower shipment volumes, higher production costs primarily related to engine emission requirements, and the unfavorable effects of foreign currency exchange. The year to date decline was largely due to the impact of lower shipment volumes, unfavorable foreign exchange effects, higher production costs and a less favorable product mix. The declines in both periods were partially offset by price realization. Net income of the Company's equipment operations was $680 million for the third quarter and $2,061 million for the first nine months, compared with $846 million and $2,324 million for the same periods in 2013. In addition to the operating factors mentioned above, a lower effective tax rate benefited both quarterly and year-to-date results.

The Company's financial services operations reported net income attributable to Deere & Company of $162.3 million for the third quarter and $452.2 million for the first nine months, compared with $150.0 million and $407.9 million for the same periods last year. The improvement for the quarter was due to growth in the credit portfolio, partially offset by a higher provision for credit losses and higher selling, administrative and general expenses. Nine month results improved as a result of growth in the credit portfolio and a more favorable effective tax rate. These factors were partially offset by lower crop insurance margins, higher selling, administrative and general expenses and a higher provision for credit losses.

Business Segment Results

Agriculture and Turf. Segment sales decreased 11 percent for the third quarter and 8 percent for the first nine months due largely to lower shipment volumes, and the previously announced sales of Landscapes and Water operations. Additionally, year to date sales were lower due to the unfavorable effects of currency translation. These factors were partially offset by price realization in both the quarter and first nine months. Operating profit was $941 million for the third quarter and $2,967 million for the first nine months, compared with $1,336 million and $3,684 million, respectively, last year. Lower results for the quarter were driven primarily by the impact of lower shipment volumes, higher production costs largely related to engine emission requirements, and the unfavorable effects of foreign currency exchange. The nine month decrease was mainly due to lower shipment volumes, unfavorable currency exchange, higher production costs and a less favorable product mix. The declines for both periods were partially offset by price realization.


Construction and Forestry. Segment sales increased 19 percent for the third quarter and 8 percent for the first nine months as a result of higher shipment volumes and price realization. Increased sales for both periods were partially offset by the unfavorable effects of currency translation. Operating profit was $194 million for the third quarter and $420 million for the first nine months, compared with $107 million and $259 million for the same periods in 2013. Third quarter operating profit improved primarily due to higher shipment volumes and price realization, partially offset by a less favorable product mix. Nine month results increased mainly due to higher shipment volumes, lower production costs and lower selling, administrative and general expenses.

Financial Services. The operating profit of the financial services segment was $249 million for the third quarter and $660 million for the first nine months of 2014, compared with $234 million and $629 million for the same periods last year. The improvement for the third quarter was due mainly to growth in the credit portfolio, partially offset by a higher provision for credit losses and higher selling, administrative and general expenses. Nine month results improved due primarily to growth in the credit portfolio, partially offset by lower crop insurance margins, higher selling, administrative and general expenses and a higher provision for credit losses. Total financial services revenues, including intercompany revenues, increased to $720 million in the current quarter from $647 million in the third quarter of 2013 and increased to $1,984 million the first nine months this year compared to $1,813 million last year. The average balance of receivables and leases financed was 13 percent higher in the third quarter and first nine months of 2014, compared with the same periods last year. Interest expense decreased 11 percent in the current quarter and 15 percent in the first nine months of 2014, primarily as a result of lower average interest rates, partially offset by higher average borrowings. The financial services consolidated ratio of earnings to fixed charges was 3.59 to 1 for the third quarter this year, compared with 3.09 to 1 in the same period last year. The ratio was 3.32 to 1 for the first nine months this year, compared to 2.82 to 1 for the same period last year.

The cost of sales to net sales ratios for the third quarter and first nine months of 2014 were 75.8 percent and 75.0 percent, respectively, compared to 73.4 percent and 73.3 percent in the same periods last year. The increase in the third quarter was due primarily to higher production costs largely due to engine emission requirements and the unfavorable effects of foreign currency exchange. The year to date increase was largely due to the impact of unfavorable foreign exchange effects, higher production costs and a less favorable product mix. The increases in both periods were partially offset by price realization.

Finance and interest income increased in the third quarter and first nine months this year due to a larger average credit portfolio, partially offset by lower average financing rates. Other income increased in the third quarter and the first nine months due primarily to higher crop insurance premiums and service revenue. Research and development costs increased in the third quarter primarily as a result of increased spending in support of more stringent engine emission requirements and decreased in the first nine months due primarily to the completion of certain product developments in 2014 compared to the same periods last year. Selling, administrative and general expenses decreased in the current quarter and first nine months due primarily to the deconsolidation of Landscapes (see Note 18) and sale of the Water operations (see Note 19). Interest expense decreased in both periods due to lower average borrowing rates, partially offset by higher average borrowings. Other operating expenses increased in both periods due primarily to higher depreciation of equipment on operating leases, higher crop insurance claims and the Water operation's sale and impairment (see Note 19).

Market Conditions and Outlook

Company equipment sales are projected to decrease about 6 percent for fiscal year 2014 and about 8 percent for the fourth quarter compared with the same periods a year ago. For the fiscal year, net income attributable to Deere & Company is anticipated to be approximately $3,100 million.


Agriculture and Turf. Worldwide sales of the Company's agriculture and turf segment are forecast to decrease by about 10 percent for fiscal year 2014, including a negative currency translation effect of about 1 percent. Although the agriculture economy remains in a relatively healthy state, falling commodity prices are contributing to a reduction in farm income. The decline is putting pressure on demand for farm equipment, especially larger models. At the same time, strength in the U.S. livestock sector is providing support to sales of mid- and smaller-size tractors. Based on these factors, industry sales for agricultural machinery in the U.S. and Canada are forecast to be down about 10 percent for the fiscal year. Fiscal year industry sales in the EU28 are forecast to decrease about 5 percent due to lower crop prices and farm incomes. In South America, industry sales of tractors and combines are projected to decrease 15 percent from strong 2013 levels. Market conditions in the Commonwealth of Independent States have deteriorated and industry sales are expected to be significantly lower for the year. Asian sales are projected to be about the same. Industry sales of turf and utility equipment in the U.S. and Canada are expected to be approximately the same to up 5 percent for 2014.

Construction and Forestry. The Company's worldwide sales of construction and forestry equipment are forecast to increase by about 10 percent for fiscal year 2014. The gain reflects further economic recovery and higher housing starts in the U.S. as well as sales increases outside the U.S. and Canada. Global forestry sales are expected to increase for the year due to general economic growth and improved sales in the European markets.

Financial Services. Fiscal year 2014 net income attributable to Deere & Company for the financial services segment is expected to be approximately $600 million. The outlook reflects improvement over last year due primarily to expected growth in the credit portfolio and a more favorable tax rate. These factors are projected to be partially offset by higher selling, administrative and general expenses, an increase in the provision for credit losses from the low level in 2013 and lower crop insurance margins.

Safe Harbor Statement

Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995: Statements under "Overview," "Market Conditions and Outlook," and other forward-looking statements herein that relate to future events, expectations, trends and operating periods involve certain factors that are subject to change, and important risks and uncertainties that could cause actual results to differ materially. Some of these risks and uncertainties could affect particular lines of business, while others could affect all of the Company's businesses.

The Company's agricultural equipment business is subject to a number of uncertainties including the many interrelated factors that affect farmers' confidence. These factors include worldwide economic conditions, demand for agricultural products, world grain stocks, weather conditions (including its effects on timely planting and harvesting), soil conditions (including low subsoil moisture), harvest yields, prices for commodities and livestock, crop and livestock production expenses, availability of transport for crops, the growth and sustainability of non-food uses for some crops (including ethanol and biodiesel production), real estate values, available acreage for farming, the land ownership policies of various governments, changes in government farm programs and policies (including those in Argentina, Brazil, China, the European Union, India, Russia and the U.S.), international reaction to such programs, changes in and effects of crop insurance programs, global trade agreements, animal diseases and their effects on poultry, beef and pork consumption and prices, crop pests and diseases, and the level of farm product exports (including concerns about genetically modified organisms).

Factors affecting the outlook for the Company's turf and utility equipment include general economic conditions, consumer confidence, weather conditions, customer profitability, consumer borrowing patterns, consumer purchasing preferences, housing starts, infrastructure investment, spending by municipalities and golf courses, and consumable input costs.


General economic conditions, consumer spending patterns, real estate and housing prices, the number of housing starts and interest rates are especially important to sales of the Company's construction and forestry equipment. The levels of public and non-residential construction also impact the results of the Company's construction and forestry segment. Prices for pulp, paper, lumber and structural panels are important to sales of forestry equipment.

All of the Company's businesses and its reported results are affected by general economic conditions in the global markets in which the Company operates, especially material changes in economic activity in these markets; customer confidence in general economic conditions; foreign currency exchange rates and their volatility, especially fluctuations in the value of the U.S. dollar; interest rates; and inflation and deflation rates. General economic conditions can affect demand for the Company's equipment as well. Government spending and taxing could adversely affect the economy, employment, consumer and corporate spending, and Company results.

Customer and Company operations and results could be affected by changes in weather patterns (including the effects of drought conditions in parts of the U.S. and drier than normal conditions in certain other markets); the political and social stability of the global markets in which the Company operates; the effects of, or response to, terrorism and security threats; wars and other conflicts and the threat thereof; and the spread of major epidemics.

Significant changes in market liquidity conditions and any failure to comply with financial covenants in credit agreements could impact access to funding and funding costs, which could reduce the Company's earnings and cash flows. Financial market conditions could also negatively impact customer access to capital for purchases of the Company's products and customer confidence and purchase decisions; borrowing and repayment practices; and the number and size of customer loan delinquencies and defaults. A debt crisis, in Europe or elsewhere, could negatively impact currencies, global financial markets, social and political stability, funding sources and costs, asset and obligation values, customers, suppliers, and Company operations and results. State debt crises also could negatively impact customers, suppliers, demand for equipment, and Company operations and results. The Company's investment management activities could be impaired by changes in the equity, bond and other financial markets, which would negatively affect earnings.

Additional factors that could materially affect the Company's operations, access to capital, expenses and results include changes in and the impact of governmental trade, banking, monetary and fiscal policies, including financial regulatory reform and its effects on the consumer finance industry, derivatives, funding costs and other areas, and governmental programs, policies, tariffs and sanctions in particular jurisdictions or for the benefit of certain industries or sectors (including protectionist, economic, punitive and expropriation policies and trade and licensing restrictions that could disrupt international commerce); actions by the U.S. Federal Reserve Board and other central banks; actions by the U.S. Securities and Exchange Commission (SEC), the U.S. Commodity Futures Trading Commission and other financial regulators; actions by environmental, health and safety regulatory agencies, including those related to engine emissions (in particular Interim Tier 4/Stage IIIb and Final Tier 4/Stage IV non-road diesel emission requirements in the U.S. and European Union), carbon and other greenhouse gas emissions, noise and the effects of climate change; changes in labor regulations; changes to accounting standards; changes in tax rates, estimates, and regulations and Company actions related thereto; compliance with U.S. and foreign laws when expanding to new markets; and otherwise; and actions by other regulatory bodies including changes in laws and regulations affecting the sectors in which the Company operates. Trade, financial and other sanctions imposed by the U.S., the European Union, Russia and other countries could negatively impact Company assets, operations, sales, forecasts and results. Customer and Company operations and results also could be affected by changes to GPS radio frequency bands or their permitted uses.


Other factors that could materially affect results include production, design and technological innovations and difficulties, including capacity and supply constraints and prices; the availability and prices of strategically sourced materials, components and whole goods; delays or disruptions in the Company's supply chain or the loss of liquidity by suppliers; the failure of suppliers to comply with laws, regulations and Company policy pertaining to employment, human rights, health, safety, the environment and other ethical business practices; events that damage the Company's reputation or brand; start-up of new plants and new products; the success of new product initiatives and customer acceptance of new products; changes in customer product preferences and sales mix whether as a result of changes in equipment design to meet government regulations or for other reasons; gaps or limitations in rural broadband coverage, capacity and speed needed to support technology solutions; oil and energy prices and supplies; the availability and cost of freight; actions of competitors in the various industries in which the Company competes, particularly price discounting; dealer practices especially as to levels of new and used field inventories; labor relations; acquisitions and divestitures of businesses, the integration of new businesses; the implementation of organizational changes; difficulties related to the conversion and implementation of enterprise resource planning systems that disrupt business, negatively impact supply or distribution relationships or create higher than expected costs; security breaches and other disruptions to the Company's information technology infrastructure; changes in Company declared dividends and common stock issuances and repurchases.

Company results are also affected by changes in the level and funding of employee retirement benefits, changes in market values of investment assets, the level of interest and discount rates, and compensation, retirement and mortality rates which impact retirement benefit costs, and significant changes in health care costs including those which may result from governmental action.

The liquidity and ongoing profitability of John Deere Capital Corporation (Capital Corporation) and other credit subsidiaries depend largely on timely access to capital to meet future cash flow requirements and fund operations and the costs associated with engaging in diversified funding activities and to fund purchases of the Company's products. If general economic conditions worsen or capital markets become volatile, funding could be unavailable or insufficient. Additionally, customer confidence levels may result in declines in credit applications and increases in delinquencies and default rates, which could materially impact write-offs and provisions for credit losses. The failure of reinsurers of the Company's insurance business also could materially affect results.

The Company's outlook is based upon assumptions relating to the factors described above, which are sometimes based upon estimates and data prepared by government agencies. Such estimates and data are often revised. The Company, except as required by law, undertakes no obligation to update or revise its outlook, whether as a result of new developments or otherwise. Further information concerning the Company and its businesses, including factors that potentially could materially affect the Company's financial results, is included in the Company's other filings with the SEC (including, but not limited to, the factors discussed in Item 1A. Risk Factors of the Company's most recent annual report on Form 10-K and quarterly reports on Form 10-Q).

Critical Accounting Policies

See the Company's critical accounting policies discussed in the Management's Discussion and Analysis of the most recent annual report filed on Form 10-K. There have been no material changes to these policies.

CAPITAL RESOURCES AND LIQUIDITY

The discussion of capital resources and liquidity has been organized to review separately, where appropriate, the Company's consolidated totals, equipment operations and financial services operations.


Consolidated

Positive cash flows from consolidated operating activities in the first nine months of 2014 were $682 million. This resulted primarily from net income adjusted for non-cash provisions, a change in net retirement benefits, a change in accrued income taxes payable/receivable, partially offset by an increase in trade receivables and inventories due to a seasonal increase and a decrease in accounts payable and accrued expenses. Cash outflows from investing activities were $1,567 million in the first nine months of this year, primarily due to the cost of receivables (excluding receivables related to sales) and the cost of leased equipment exceeding the collections of these receivables and proceeds from sales of leased equipment by $1,324 million and purchases of property and equipment of $641 million, partially offset by proceeds from sales of businesses of $340 million and proceeds from maturities and sales exceeding purchases of marketable securities by $133 million. Cash inflows from financing activities were $433 million in the first nine months of 2014, primarily due to an increase in borrowings of $2,516 million and proceeds from issuance of common stock of $139 million (resulting from the exercise of stock options), partially offset by repurchases of common stock of $1,631 million and dividends paid of $569 million. Cash and cash equivalents decreased $469 million during the first nine months this year.

Positive cash flows from consolidated operating activities in the first nine months of 2013 were $588 million. This resulted primarily from net income adjusted for non-cash provisions, a decrease in insurance receivables and a change in accrued income taxes payable/receivable. These items were partially offset by an increase in trade receivables and inventories due to a seasonal increase and higher overall demand and a decrease in accounts payable and accrued expenses. Cash outflows from investing activities were $2,903 million in the first nine months of last year, primarily due to the cost of receivables (excluding receivables related to sales) and the cost of leased equipment exceeding the collections of these receivables and proceeds from sales of leased . . .

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