AGCO’s share price has soared by 22% during this quarter. Shares are now trading for 26 times 2016 expected earnings.
There seems to be a consensus by market participants that demand for agricultural farm equipment has bottomed out. Recently, AGCO’s major competitor Deere released a trading statement beating market expectations hinting to a recovery in farmer spending.
In AGCO’s case earnings per share (EPS) have declined by almost two thirds from a cycle top of USD 6.0 in 2013 to a 2016 target EPS of USD 2.3. The decline comes despite a substantial share buyback that has reduced share count by more than 20% since 2013. When I made the investment in June 2014, it seemed to be clear that the industry was facing headwinds but nothing like 20% to 30% decline in revenue as it turned out to be the case. Overall, it speaks for the industry dynamics and management capabilities that the company has remained profitable during the cycle so far.
Apart from that, AGCO is an international company with roughly 70% of revenues coming from abroad. Hence, AGCO might profit from Donald Trump’s proposed reduction of corporate taxes on cash repatriation from foreign affiliates. In the meantime, the current USD strength is rather counterproductive to AGCO’s earnings.
There is also room for consolidation in the farm equipment industry with AGCO being one of the most prominent potential targets. The company is relatively small compared to peers like Deere and CNH and can therefore spend less capital on product development. Consequently, given that this is a capital intense industry there is a risk that AGCO will not be able to keep track with larger peers over the longer term. An indication of a competitive disadvantage results from relatively lower margins compared to Deere over an extended period of time.
I think that AGCO’s share is currently fairly priced. There will be some room for the intrinsic value to go higher, if it turns out that normalized earnings are north of USD 4.0 per share. That is likely. However, I think I am not getting paid enough to take the risk.
I sold my position on Friday, December 9th 2016, for a volume weighted average price of USD 60.3 per share. That is just a couple of bucks higher than at the time of my investment. However, including currency gains and dividends this investment returned a healthy total return of 40.0% and an IRR of 14.9% over a holding period of two and a half years.
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