Diversification is a good strategy for investors as it helps to reduce risk. To that end, I've recently been looking into AGCO Corp. (AGCO, Financial) as a potential way to diversify my portfolio. AGCO offers two forms of diversification: geographic and sectoral. The company operates worldwide. For full fiscal 2021, 54% of net sales came from the Europe/Middle East region, 24% were from North America, 12% from South America and 10% from the rest of the world.
Investors in companies with international exposure should recognize that currency fluctuations or longer-term variations can hurt or help their returns. For example, chairman, president and CEO Eric Hansotia noted in the third-quarter 2022 news release, “Our solid operational performance and continued strong pricing overcame ongoing supply chain challenges, inflationary pressures and significant currency headwinds.”
AGCO operates in the agricultural industry. According to its 10-K for 2021, the company manufactures and distributes agricultural equipment and replacement parts. It offers what it calls a "full range" of agricultural equipment. That includes tractors, combines, self-propelled sprayers, hay tools, forage equipment, seeding and tillage equipment, grain storage and protein production systems. Brand names include Challenger, Fendt, GSI, Massey-Ferguson and Valtra.
The biggest contributor to net sales is its tractor lines, which accounted for 57% of net sales in 2021. These range from compact tractors with less than 40 horsepower to machines with up to 650 horsepower.
Based in Duluth, Georgia, AGCO has a market cap of $10.10 billion and Morningstar (MORN, Financial) analysts forecast 2022 revenue of $12.497 billion.
Cyclicality and seasonality
An agricultural stock also brings other issues to investors: cyclicality and seasonality. This U.S. Department of Agriculture chart shows how domestic agricultural prices (for crops and livestock) varied by month over the past 10 years:
We can expect to see similar cycles for the agricultural industry in other countries as well. AGCO notes in its annual report that agriculture is a cyclical industry, driven by many factors. One of those factors is farm income, which obviously will rise and fall with the prices that farmers receive.
As the chart above shows, prices are relatively and absolutely high now, so this might not be a good time to invest in AGCO as we could be in for a cyclical downturn soon. Of course, prices depend on many different events and circumstances. So, for example, if the war in Ukraine and resulting economic uncertainty continue, AGCO shareholders might tap into more capital gains.
The USDA has predicted that farm incomes in 2022 will be 15.1% higher than in 2021. Hansotia is also optimistic about 2023, noting in the company's earnings results, “Global market conditions remain positive as favorable farm economics are allowing farmers to upgrade and replace their aging fleets. At the same time, our smart technology product lines are in strong demand and are helping to drive meaningful productivity improvements for our customers through both retrofitting their current equipment and in our new product offerings.”
Turning to seasonality, AGCO noted in its annual report:
“Generally, retail sales by dealers to farmers are highly seasonal and largely are a function of the timing of the planting and harvesting seasons. To the extent possible, we attempt to ship products to our dealers and distributors on a level basis throughout the year to reduce the effect of seasonal retail demands on our manufacturing operations and to minimize our investment in inventory. Our financing requirements are subject to variations due to seasonal changes in working capital levels, which typically increase in the first half of the year and then decrease in the second half of the year.”
AGCO's fundamentals
The company receives a good mark for its GF Score at 88 out of 100:
It carries a substantial amount of debt, which might be expected of a company that carries expensive inventory through until payment is received or financed by dealers.
Still, it has a healthy interest coverage ratio of 40.99, as well as a strong debt-to-revenue ratio (short- and long-term debt is $2.207 billion, while revenue is $11.908 billion, all on a trailing 12-month basis). Its Altman Z-Score is 3.56, which is well within the safe zone.
Its margins are above average for the farm and heavy construction machinery industry. At the same time, its return on equity (24.75%) and return on assets (8.9%) are industry-leading. It has been profitable for each of the past 10 years.
AGCO has good growth momentum for its revenue, Ebitda and earnings per share without non-recurring items. In particular, it turned around its EPS without NRI, starting in the third quarter of 2020:
Free cash flow started off in the same direction as earnings, however, it took a downturn:
For full-year 2022, the company reported in its investor presentation that it expects free cash flow of $400 to $500 million, compared to $390 million in 2021.
AGCO pays a modest dividend of $0.24 per quarter or $0.96 annually. Currently, that works out to a yield of 0.68%.
However, the company also paid a special dividend of $4.50 in May 2022 and a special dividend of $4.00 per share in 2021. For 2021, the sum of the two dividends divided by the Jan. 20, 2023 closing price of $137.09 produces a yield of 3.98%.
Share buybacks have also helped increase the value of its shares. Repurchases have occurred in most of the past 10 years and the number of shares outstanding has shrunk by an average of 3.17% per year.
Valuation
Turning to valuation, the GF Value chart assesses AGCO’s intrinsic value at $134.95, just cents less than the Jan. 20 closing price of $137.09 and making the stock "fairly valued."
The GF Value chart is based on historical multiples, a proprietary adjustment based on past returns and growth and an estimate of future business performance.
Looking at the 10-year price chart, it appears the stock price growth has surpassed the trendline, which could indicate overvaluation:
Conclusion
I believe AGCO is a solid option for investors seeking to diversify with agricultural and international holdings. It has a robust set of fundamentals, and its special dividend has been a bonus for shareholders. Getting those positive metrics will cost you, though, as AGCO appears to be fairly valued at the current price.
