AGCO - AGCO Corporation

[Lowlight]

I didn't see a thread on the board for AGCO so I thought I would start one to see whether anyone has taken a look at the company recently (if there is a thread already I apologize).  They are the #3 agricultural equipment manufacturer in the world (~$10 billion in revenue in 2014) behind Deere and CNH with approximately 75% of sales coming from overseas, primarily in Europe and South America.  Brands include Challenger, Massey Ferguson, Fendt, Valtra and GSI (a grain storage company they purchases in 2011).  The company has faced headwinds this year from depressed crop prices and weakness in almost all of their end markets.  They recently increased their share buyback authorization another $500MM for a total of $690MM at the time of announcement.  At current prices, they will acquire 15%+ of the outstanding shares over the next two years.  In addition, a board member who owns Tractors and Farm Equipment Limited (TAFE) based in India, has acquired ~12% of the company primarily through TAFE.  A few well known investors have made recent purchases including Third Avenue, Tweedy Browne, Snow Capital and FPA.  In 2013 operating income after tax was more than $600MM, which Third Avenue has said they view as normalized earnings for the company.  At a market cap just below $4 billion and an EV around $5.15 billion it doesn't seem like a strenuous valuation on the company, especially given the expectations for changing dietary needs leading to more sophisticated farming products throughout the world over the long-term.  Obviously Deere is superior in many ways, including capital allocation, but I think the valuation of .5x 2015 revenue seems overly punitive.  The company has guided to a significant decline in revenues and operating earnings in 2015 and it seems to me analysts are growing revenues from these depressed numbers as if they will be the new normal within the industry.  If the company can get back to 2013 operating earnings, I can see EV growing 50%+ from here.  Given the expected reduction in shares, this would equate to a share value in the high $70s, low $80s.  Would be interested in anyone's thoughts.

[Haasje]

The cross holding between TAFE and Agco is very interesting to me but I don't know what to make of it.

 

Mallika Srinivisan owns large part of TAFE and is board member at AGCO. She acquired 12% of AGCO but in agreement with AGCO promised not to acquire any more.

 

AGCO has a 23.5% stake in TAFE  (TAFE with 25% market share is 2nd tractor maker in India after Mahindra & Mahindra)

 

What is especially puzzling to me is why Srinivisan is allocating capital to AGCO when TAFE is growing so incredibly fast, perhaps there is just no opportunity to deploy more capital at TAFE.

 

 

[txlaw]

I have been following this one for a while and have even owned it off and on.  I don't own any at this point, though I continue to follow closely.

 

The reason I've followed this one with interest is because of all of the details mentioned above and then some. 

 

-Third largest ag equipment manufacturer in the world with strong brands like Massey Ferguson and the potential to really increase the strength of the umbrella brand. 

-Strong balance sheet. 

-Finance JV with Rabobank (50% ownership). 

-24% ownership in TAFE, which happens to hold approximately 11 million shares in AGCO and which has signed a standstill agreement with AGCO capping them at 12% ownership -- for now.  TAFE stake could be worth over $500 million, IMO, especially because TAFE Tractors is likely over capitalized (as evidenced by buying up of AGCO shares). 

-Manufacturing partnership with TAFE for India (and surrounding markets, presumably) is itself very valuable.

-AGCO Technology Solutions potentially represents a long-term growth business, though Richenhagen has previously indicated that they will be taking a strategy of technology services selling the equipment rather than the opposite approach (selling high margin services along with the low margin equipment).

 

The headwinds are obvious, though. 

 

-Cyclical top in ag machinery market appears to be behind us, which means that getting to their targeted 10% op margin was both highly unlikely and an overly optimistic target.  I think Richenhagen is a fine CEO, but he should have been more pessimistic about op margin goals. 

-Capex is a must in this industry, and I pessimistically think depreciation approximates or potentially under-represents full-cycle capital spending needed for "maintenance." 

-The ag market, like the other commodity markets, could be in for some major pain both because of cyclical top and global economic issues, which could make life difficult for the likes of AGCO and its competitors over the next couple of years.

 

Having said the above re: the headwinds, if I were a long term investor, AGCO would be the type of company I'd want to control to benefit from the "mechanization" of agriculture and the shift to "precision agriculture." Hence Mallika Srinivasan's interest, IMO. 

 

I think it's entirely possible that the Amalgamations Group (of which TAFE is a subsidiary) could be interested in taking control of AGCO to add to their portfolio of businesses.  That could mean a going private transaction where AGCO shares are taken into consideration when making a bid.  Or it could mean M&A with AGCO such that AGCO ended up owning TAFE with Amalgamations Group owning a large stake in a still-public AGCO.  Not saying that's what Srinivasan is planning, but these are possibilities.

 

TAFE is a fantastic company, btw.  Excellent return metrics.  Low leverage.  Huge growth market.  Excellent leadership.  Mallika Srinivasan is worth reading about and watching (see YouTube for interviews/videos -- e.g.,

).  She's a very savvy (and ethical) businesswoman who has made TAFE into the second leading Indian tractor co behind Mahindra.  She has a clear vision for agriculture in India, and she will point out how little "mechanization" there is in Indian agriculture right now in terms of market share. 

 

Like I said, I don't own right now.  Racemize convinced me that I should just wait until the cycle turns and shit ostensibly hits the fan in terms of market pricing.  I didn't wait until blood was on the streets with oil, and I'm regretting that now.  So I'm trying not to make the same mistake.

 

[Lowlight]

Good question regarding why Srinivasan would be allocating capital to AGCO if opportunities existed at TAFE (I presume they are relatively abundant).  And I hadn't given a lot of consideration to the possible value of the Technology Solutions division as a single line of business separate from ag equipment.  The GSI business should provide a little stability in this downturn but I don't think it will keep the company from posting pretty poor numbers in 2015.  I'm just shocked at the assumptions of analysts.  They think that revenues are 10% - 20% below 2013 numbers through 2017.  I'm not smart enough to determine whether this will occur but it seems to be a reasonable assessment of what I would consider the worst case over the next three years.  If global ag sales dropped this much for everyone, wouldn't it make further consolidation more attractive?  If so, I think AGCO would be the most attractive given their end markets, GSI and technology.

[txlaw]

Blue Harbour -- guys who are known as quiet activists similar to Valueact -- just filed a 13D on Agco.

 

My guess is they will talk to the company about plans for consolidation going forward.  The fact of the matter is that scale matters hugely in this business.  Operating margins are directly proportionate to unit sales.  Guys like Deere, CNH, and Kubota make double digit operating margins, while Agco and Claas make mid single digit operating margins that continue to trend downward to the mids.

 

I think M&A makes so much sense in this sector, just like it does in the auto sector. Heavy manufacturing has too many duplicative costs worldwide, and the bigger players are best positioned to take these costs out.

[Lowlight]

Blue Harbour -- guys who are known as quiet activists similar to Valueact -- just filed a 13D on Agco.

 

My guess is they will talk to the company about plans for consolidation going forward.  The fact of the matter is that scale matters hugely in this business.  Operating margins are directly proportionate to unit sales.  Guys like Deere, CNH, and Kubota make double digit operating margins, while Agco and Claas make mid single digit operating margins that continue to trend downward to the mids.

 

I think M&A makes so much sense in this sector, just like it does in the auto sector. Heavy manufacturing has too many duplicative costs worldwide, and the bigger players are best positioned to take these costs out.

 

Thanks for posting.  While obviously a positive development, I'm not sure where activism leads with AGCO.  Although I think the company is undervalued, I can't put my head around who the buyer might be.  I agree completely that consolidation makes sense for the industry as a whole but I'm not sure how attractive AGCO is to their competitors.  For some, AGCO would provide an easier entrance into more international markets and I certainly think this would be attractive.  Also, I can also see a scenario where AGCO sells off a brand or two to a competitor in an effort to rationalize the operations and focus on what might be considered the more core brands.  The current share repurchase authorization certainly shows that management thinks the company is significantly undervalued by the market.  TAFE's involvement also indicates that they see upside to AGCO in India. 

 

I've liked AGCO for a while and originally bought in when the stock fell back into the mid $40s in 2014.  On a normalized earnings basis, I think AGCO is worth $75+/share (using today's share count), and in a strategic sale, I can see a value north of $90/share (again normalizing earnings).  However, I am in the wait and see camp on whether activism will accomplish anything.  I really like AGCO's management.  I think they continue to be good stewards of capital given the hand they have been dealt recently.  My guess is that Blue Harbour's discussions and activism will just move any catalysts along a little faster than would otherwise be the case.  I look forward to seeing how this turns out.

[spark411]

I think a natural buyer is Caterpillar.  They have the construction side and by acquiring the agriculture side they can compete head to head against Deere.    I think an acquisition and selling off TAFE to the JV would make the acquisition affordable. 

[txlaw]

Blue Harbour -- guys who are known as quiet activists similar to Valueact -- just filed a 13D on Agco.

 

My guess is they will talk to the company about plans for consolidation going forward.  The fact of the matter is that scale matters hugely in this business.  Operating margins are directly proportionate to unit sales.  Guys like Deere, CNH, and Kubota make double digit operating margins, while Agco and Claas make mid single digit operating margins that continue to trend downward to the mids.

 

I think M&A makes so much sense in this sector, just like it does in the auto sector. Heavy manufacturing has too many duplicative costs worldwide, and the bigger players are best positioned to take these costs out.

 

Thanks for posting.  While obviously a positive development, I'm not sure where activism leads with AGCO.  Although I think the company is undervalued, I can't put my head around who the buyer might be.  I agree completely that consolidation makes sense for the industry as a whole but I'm not sure how attractive AGCO is to their competitors.  For some, AGCO would provide an easier entrance into more international markets and I certainly think this would be attractive.  Also, I can also see a scenario where AGCO sells off a brand or two to a competitor in an effort to rationalize the operations and focus on what might be considered the more core brands.  The current share repurchase authorization certainly shows that management thinks the company is significantly undervalued by the market.  TAFE's involvement also indicates that they see upside to AGCO in India. 

 

I've liked AGCO for a while and originally bought in when the stock fell back into the mid $40s in 2014.  On a normalized earnings basis, I think AGCO is worth $75+/share (using today's share count), and in a strategic sale, I can see a value north of $90/share (again normalizing earnings).  However, I am in the wait and see camp on whether activism will accomplish anything.  I really like AGCO's management.  I think they continue to be good stewards of capital given the hand they have been dealt recently.  My guess is that Blue Harbour's discussions and activism will just move any catalysts along a little faster than would otherwise be the case.  I look forward to seeing how this turns out.

 

I think there's plenty of potential buyers -- or possibly targets -- within the ag equipment space.  But I also could see a heavy industrial conglomerate getting into the picture as well.  You could just take a look at the CNH roadshow (when CNH merged with Fiat Industrial) to get an inkling of the possibilities.

 

Selling brands doesn't make sense, IMO.  It would actually be counterproductive to have less scale here.

[Lowlight]

txlaw and spark411 - I appreciate the thoughts and points to consider regarding possible acquirers.  I will take a look at the CNH roadshow.

[Phaceliacapital]

I think AGCO is the only Fortune 500 company with a german CEO, Martin, he is an incredible manager and an excellent steward of capital. AGCO is significantly cash flow generative in an industry where this is not so common, especially if you take into account that they do not consolidate the financing unit (JV with Rabobank) like the other two (Deere & CNH).

 

AGCO has many other good things going for it, emerging markets exposure, margins below the group (so some room to improve this), LT owner in the Indian tractor lady at 12% which immediately provides access to the growing Indian market. It's a good company and not that expensive, the problem ofcourse is that agricultural cycles tend to be very long and it's difficult to pinpoint where exactly we are right now..

 

I've been interested in CNH given Exor ownership, Marchionna as chairman etc but that company seems to have a history of only problems. The difference in performance after spinoff compared to Fiat is mindblowing.

 

edit: we have been long Agco since it went around 40.

[Guest Schwab711]

AGCO is relatively cheap because of fears of a farming bubble hurting near-term capex purchases. If you really think farm land is not as overpriced as folks think (my general view) then AGM is a lot cheaper with a lot more upside. ~100% upside if it returns to 1.4x - 1.6x P/B and it's the last remaining GSE.

 

It does seem like AGCO is generally well run, though margins are lower than the average agricultural-based distributor. They are definitely a price-taker and it's the reason I've stayed away from AGCO and DE in the past. I think the best value ag company right now is MON.

 

DE is engaging in an aggressive price war:

http://www.advfn.com/nyse/StockNews.asp?stocknews=DE&article=47320037

 

 

[RadMan24]

I would be surprised that Agco could pose a major problem to Deere in America with price cuts, their distribution is not nearly as strong. Deere in Brazil has a lot more upside potential, interesting to see what happens.

[Guest Schwab711]

I would be surprised that Agco could pose a major problem to Deere in America with price cuts, their distribution is not nearly as strong. Deere in Brazil has a lot more upside potential, interesting to see what happens.

 

AGCO only competes on equipment engineered for small farms. DE absolutely dominates large farm equipment/tractors, which is the future of the equipment industry.

[Phaceliacapital]

They also have a very interesting grain storage division, which I believe will grow considerably in given years (in several countries governments are incentivizing farmers to invest into grain storage to make them less dependent on year to year crop results).

[txlaw]

AGCO is relatively cheap because of fears of a farming bubble hurting near-term capex purchases. If you really think farm land is not as overpriced as folks think (my general view) then AGM is a lot cheaper with a lot more upside. ~100% upside if it returns to 1.4x - 1.6x P/B and it's the last remaining GSE.

 

It does seem like AGCO is generally well run, though margins are lower than the average agricultural-based distributor. They are definitely a price-taker and it's the reason I've stayed away from AGCO and DE in the past. I think the best value ag company right now is MON.

 

DE is engaging in an aggressive price war:

http://www.advfn.com/nyse/StockNews.asp?stocknews=DE&article=47320037

 

I don't think it's about a farm bubble as much as it is about the reversal of the agricultural equipment cycle. 

 

For years, farmers have been stocking up on ag equipment while the agricultural commodities pricing cycle was on the upswing. Now, the user base is going to be buying much less ag equipment on an annual rate, except perhaps in emerging markets. And if poor global macro conditions persist, emerging markets won't be the saving grace for these heavy manufacturing companies.

 

I believe the DE price war article is from over 4 years ago. Agco has actually been increasing prices to offset the downturn in units sold for a while now, even in the face of reduced pricing by some of its competitors. While I don't think it's at all right to say there is a price war going on, or that Agco is a price taker, it is definitely worth keeping an eye on whether they can increase prices at all for the next few quarters.

 

Regarding small farm equipment vs. large farm equipment, I think that your future of the equipment industry comment has a view that's biased towards developed markets, where consolidation continues to occur in the ag space. Small farms aren't going away anytime soon, and mechanization will continue across the board. Indeed, if you look at TAFE sales, you will exactly this phenomenon.

 

Finally, no opinion on GSEs or other ag-related businesses.

[txlaw]

And speaking of mechanization:

http://www.washingtonpost.com/blogs/the-switch/wp/2015/06/22/google-didnt-lead-the-self-driving-vehicle-revolution-john-deere-did/

[PullTheTrigger]

Tax law changes have had a big impact on equipment purchases. Previously farmers could take a maximum deduction of $500,000 for approved business purchases. Farmers could take their entire depreciation deduction in one year on many types of machinery, rather than taking it a little at a time over the term of an asset's useful life, which in some cases can be up to 39 years.

 

Under current law, the Section 179 maximum depreciation deduction is $25,000. I believe this started in 2015, but may have been phased in in 2014.

 

 

[txlaw]

Tax law changes have had a big impact on equipment purchases. Previously farmers could take a maximum deduction of $500,000 for approved business purchases. Farmers could take their entire depreciation deduction in one year on many types of machinery, rather than taking it a little at a time over the term of an asset's useful life, which in some cases can be up to 39 years.

 

Under current law, the Section 179 maximum depreciation deduction is $25,000. I believe this started in 2015, but may have been phased in in 2014.

 

You're referring to the bonus depreciation that got put in during the crisis, no?

 

Yes, that almost certainly has had some effect on NA sales -- and not just in the ag equipment sector. But I don't think that's the overarching reason for a downturn in sales.  I really do think it's because we're on the down-cycle for agriculture.

 

Now is the time that ag equipment companies have to get more efficient and where consolidation ought to be occurring. I've looked at DE, CNHI, and AGCO.  I think all are very interesting for various reasons.

 

DE -- Best of breed.  Will inevitably get stronger in the downturn. Focus on technology means potential growth in asset-lite business area.

 

CNHI -- A big dog that could be a best of breed company if management can drive efficiency gains (e.g., with WCM efforts) and be a consolidator. It doesn't hurt that Sergio Marchionne and Exor are involved with this one.

 

AGCO -- Pretty well run but small player that could easily be folded into a bigger manufacturing concern. Great partnerships with TAFE and Rabobank, which are IMO best of breed companies in the ag sector. 

[Jurgis]

Right, I was looking to buy some DE/AGCO during downturn, but with the market flying high, their stocks have not crashed so far. With Buffett & co. buying, we might not get a good opportunity unless the downcycle goes longer and/or market crashes.

 

The bear story is that every farmer and their dog bought combines/tractors/etc. in the last 10 years or so. So the equipment age is really low and there is no replacement market if downturn continues. I don't know how much this is true. This should affect DE more than AGCO. AGCO has its own issues in Europe and some emerging markets though.

 

Disclosure: small tracking AGCO position.