Q3 2019 Earnings Call

Good morning, welcome to John Deere Company third quarter earnings Conference call. Your lines have been placed on listen only until the question and answer session of today's conference I would now like to turn over the call to Mr., Josh Jepsen director of Investor Relations. Thank you you may begin.

Good morning.

Although we hope they are Ryan Campbell, our Chief Financial Officer, Chandler, Chief economist and rental it manager Investor Communications.

Today, we'll take a closer look at our third quarter earnings then spend some time talking about our markets and our current outlook for fiscal 2019 after that we'll respond to your questions.

Please note that slides are available to complement the call. This morning, they can be accessed on our website at John Your Dot Com flush earnings.

First a reminder, this call is being broadcast live on the Internet and recorded for future transmission and use by gearing company any other use recording or transmission of any portion of this copyrighted broadcast without the expressed written consent of deere strictly prohibited participants in the call, including the Q and a session agree that their lightness and remarks in all media may be stored views as part of the earnings call.

This call includes forward looking comments concerning the company's plans and projections for the future that are subject to important risks and uncertainties additional information concerning factors that could cause actual results to differ materially is contained in the company's most recent form 8-K, and periodic reports filed with the Securities and Exchange Commission.

This call May also include financial measures that are not in conformance with accounting principles generally accepted in the United States of America or GAAP.

Additional information concerning these measures, including reconciliations to comparable GAAP measures included in the release and posted on our website at John Deere Dotcom, SESH, earning under quarterly earnings and event.

Brent.

John Deere completed the third quarter with results, reflecting a higher degree of uncertainty over the agricultural sector in North America.

Concerns over market access near term demand for commodities and weather continued to challenge the industry and half partially overshadowed a heightened outlook for farm incomes in the U.S.

Meanwhile, some foreign markets such as Brazil has shown continued signs of strength as strong crop production and increased exports have been had benefited the local industry.

In construction and forestry.

End market demand remained strong resulting from broad based industry drivers such as GDP growth oil and gas activity.

And infrastructure investments with order books, extending through most of the fourth quarter. The division is on track for a solid finish to the year.

Now.

Let's take a look let's take a closer look at our third quarter results beginning on slide three.

Net sales and revenue were down 3% to $10 billion.

Net income attributable to Deere the company was $899 million for $2.81 per diluted share.

The results included a favorable benefit to the provision for income taxes due to us tax reform.

Excluding this item adjusted net income was $867 million or $2 or 71 cents per diluted share.

On slide four total worldwide equipment operations net sales were down 3%.

To $8.969 billion.

Price realization in the quarter was positive by three points, while currency translation was negative by two points.

Turning to a review of our individual businesses, starting with agriculture inter on slide five.

Net sales were down 6% in the quarter over quarter comparison, primarily driven by lower shipment volumes and the negative impact of currency translation, partially offset by positive price realization.

Operating profit was $612 million, resulting in a 10.3% operating margin for the division.

The year over year decline was due to lower shipment volumes higher production costs.

And the unfavorable effects of foreign currency exchange, partially offset by positive price realization.

At this point I'd like to welcome to the call our Chief Economist Lou Chandler to discuss the fundamentals affecting the AG business loop.

Thanks, Brian Good morning, all.

29 thing is proving to be a mixed used for global agriculture.

Increasing demand some higher prices and government support programs are helping to offset the uncertainties caused by trade disputes weather setbacks and disease disruptions.

As shown on slide six global stocks of major grain and oil phase of forecast the full 3% in 2019 20.

Major pharma, calling me it's around the world are expected to be mostly on par or slightly improved in 2019 year over year, while ongoing market access issues have been detrimental to north American farmer confidence increased export opportunities emerge for farmers in other parts of the world, notably, Brazil and Argentina.

Turning now to take a closer look at some of the key agricultural economies around the world.

Beginning with the United States, where 29 thing has been a volatile one for farmers, particularly those in the corn belt.

The us ROI prospect the start of the year with the USPI, focusing cone ending stocks at the highest level in over 30 years, so even ending stocks at near record levels and the smallest amount of wheat acreage planted in us history as the planting season for cigarettes cold spring temperatures and the wettest 12 month period in U.S history growth flooding and WRECO planting delays across major corn and soybean growing regions.

The result was heightened uncertainty around road crop production.

This uncertainty was reflected in the US the latest estimates released this past Monday, which surprised the market, particularly the full cost of national corn production.

It is worth remembering that there is quite a lot of time remaining in the growing season.

In addition to some improvement in prices earlier in the summer the USPI in May of 2019 announced the second round of the market facilitation program or MSP, which includes up to $14.5 billion in direct payments to us promise.

Hi levels of uncertainty regarding the final planted and harvested acreage yields and MSP details have contributed to wide swings in pharma sentiment throughout the season.

Looking ahead to the rest of the crop season trade uncertainty continues to dampen sentiment across the U.S farm economy.

That said the impact of the second round of MSP payments lifts the forecast the us farm cash receipts in 2019.

As shown on slide seven although the full benefit of higher risk based on industry demand might be somewhat delayed or dampened by the current uncertain environment.

Up north of the border with Canadian Farm economy continues to be challenged by lower farm income in 2018, and the overhang of an ongoing trade dispute with China.

Wait prices continue to be pressured by abundant global supplies supplies, while canola growers fights ongoing John age restrictions on imports.

As a result, Canadian major crop area and cash receipts are expected to decline yet again this year and Canadian farmers are proceeding cautiously with new equipment investments, even those balance sheets remain solid.

On a positive note. This year's crop is benefiting from light season ratings. After a dry start to the season modestly improving the need term farmer sentiment.

Moving down to South America as shown on slide eight the 2018 19 season marked a record year for combined corn and soy production.

Rising global demand for grains and oil phase is also driving the export forecast the record high levels encouraging prospects for next season as well.

In Brazil, the 29 same value of production in local currencies, the K grains, and oilseeds and sugar cane is expected to be nearly 10% higher than last year. Brazilian farmers are seeking to capitalize on expanded trade opportunities not only in soybean, but also in make products with exports of beef pork and poultry all tracking higher on a year over year basis.

From an equipment demand perspective, the budget shortfall to the Moderfrota credit line caused industry demand earlier in the year. However, the budget has since been replenished for the new crop year. Overall. The 29 same 20 harvest plan is viewed as supportive for the AG sector and equipment demand.

Meanwhile, Argentinian pharmas, sorry, Meanwhile, Argentinian farm conditions have rebounded strongly from last season's historic drought. The value of 29 same production is expected to be over 30% higher year over year, while AG fundamentals remain solid political uncertainties.

Uncertainty creates a challenging environment for Arjun time financial markets more generally.

Filling the southern hemisphere widespread drought in Australia continues to be the dominant issue by sort of shaping the farm economy down on them.

On the East Coast drought is expected to result in a third consecutive below average winter grain crop.

We'll be itself and growing regions have improved from last year.

Cotton production is also expected to be significantly lower this year due to constrained water allocations.

Conditions on the West coast as held up much better in racing season, and pharmacy, we will be looking for spring rains to finish off this season wintergreen crop.

In the Aipu the macroeconomic outlook remains clouded by ongoing uncertainty regarding Brexit and whether there will be rates between the UK and the Aipu before the October 30 Onest deadline.

In the EU agricultural economy conditions, a mixed across Europe with growing production expected to recover from last season's drought affected crop.

QST isolated forecast says wait production up over 10%, 10% despite challenges like excessively high temperatures and a lack of rainfall in pubs.

Core AG markets like France are expected to rebound as a result of the although the outlook has been tempted by the ensuing lower prices.

Looking at the important you'd dairy sector farm incomes, which was strained lost GE in drought conditions are expected to benefit from a combination of largely stable prices and lower freight costs in 2019.

Moving over to the Black Sea region. The current harvest outlook is more favorable than last year with production forecast to be up 3.5% in Russia, and nearly 16% in the Ukraine.

Wrapping up while we did see some improvement in farm economies in most major producing regions in 2019, the backdrop of continued high uncertainty and volatility is expected to why on the outlook for them AG machinery sector.

By region at 29, Sane AG and turf industry outlooks are summarized on slide nine.

AG industry sales in the us and Canada, a forecast to be flat to 2019 with the decrease in guidance, reflecting the previously mentioned the uncertainty in the market.

Moving to the Eutwenty eight and the industry outlook is offer also forecast to be flat in 2019 as the production recovery is tempered by somewhat lower small grain prices.

In South America industry sales of tractors and combines a project to be flat to up 5% for the year with strength in Brazil balanced by slowness in Argentina due to the previously mentioned political and economic uncertainty shifting to Asia industry sales are expected to be flat to slightly down as key markets.

As growth its market and growth sorry, as key growth market slow modestly lastly industry sales of turf and utility equipment in the U.S and Canada are projected to be flat to up 5% in 2019 based on solid macroeconomic factors, notably continued consumer confidence I will now turn the call back to Brent node Brent.

Thanks, Luke before moving to the 2019 AG inter forecast I'll provide an update on the first phase of our 2020 planter and sprayer earlier program.

As Luke already mention planting was significantly delayed this season as persistent rain kept farmers out of the field for weeks.

As a result, placing was still underway during the first phase of our early order program, which negatively impacted early sales progress.

Consequently, we believe this year's phase one results are less indicative of the overall program since many sales may push to phases, two or three.

Given that context phase one orders for planters exceeded our expectations with units flat compared to last year.

Importantly, the overall sales value is higher due to an uptick on take rates for our most advanced technology in larger planners, both driving increased equipment prices.

More than ever this season underscored the mid value speed and precise placement of speed while planting.

Anecdotally, we heard many examples of customers who were able to plant thousands of acres over at times three day window due solely to the use of our exact emerge planter. These anecdotes combined with the increased take rates from our early order program demonstrate customer willingness to make investments when the value proposition is strongest.

As for the Phase one results of our Sprayer program orders varied significantly between the us in Canada and the programs overall order book ended down double digits in the first phase compared to last year.

As previously mentioned conditions in Canada remain challenged due to adverse weather conditions, both last season, and this season as well as FX with net weakness and trade barriers on canola.

With the skew of Canadian equipment mix towards larger highly featured machines its impact on the first phase was significant.

Springer volumes were also down in the us, but to a lesser extent than in Canada.

The U.S. results were negatively impacted by a tough year over year comp to 2018 and delayed spraying. This season. It's important to note that customers were just beginning to spray near the end of phase one of our early order program driving customers to defer order activity until gaining further clarity on this year's crop.

Moving onto our AG and turf forecast on slide 10.

Fiscal year 2019 sales of worldwide AG and turf equipment are now forecasted to be up approximately 2%.

Which include a negative currency impact of about two points.

Our full year operating margin forecast is now 10.5% to reflect the previously discussed uncertainty lingering in the us as well as the broadly on favorable market conditions in Canada.

Additionally, the negative margin impact of currency is about a point for the year.

Now lets focus on construction and forestry on slide 11.

Net sales of about $3 billion were up 1%, primarily due to positive price realization for the quarter, partially offset by the negative impact of currency translation.

Operating profit was $378 million benefiting from increased price realization and a lower impact of Birkin purchase accounting, partially offset by a less favorable product mix.

Moving to slide 12.

The economic drivers for the division continue to remain supportive of equipment demand for the year for 2019, while growth in total construction investment in housing starts as slowed both remain at overall supported the levels for equipment demand.

Meanwhile, oil and gas activity continues at solid levels with oil prices firmly in the Fiftys in 16.

And infrastructure investments are continuing at the state and local level.

Furthermore, equipment rental utilization rate remains high while rental rates continue to grow into 2019.

Importantly, capex budgets from the independent rental companies continue at levels supportive of further equipment demand.

Lastly, global transportation investment this year is forecasted to grow at about 5% so growth rates vary by market.

The overall positive economic indicators are reflected in a healthy order book, which now extends through most of the fourth quarter.

Moving to the Cnf outlook on slide 13.

Here's construction and forestry 2019 sales are now forecast to be up about 10% compared to last year, driven by strong demand for equipment as well as an additional two months of ownership of working.

Perkins' 2019 sales are forecasted to be about $3.2 billion as certain geographies have slowed in recent months.

The global Forestry market forecast is expected to be flat to up 5% with growth coming primarily from Katrina linked products in Europe and in Russia.

Cnf full year operating margin is projected to be about 11% with Merck in margins in line with the overall position.

Let's move now to our financial services operations.

Slide 14 shows the provision for credit losses, as a percentage of the average owned portfolio.

The financial forecast for 2019 shown on the slide contemplates a loss provision of about 18 basis points.

The current forecast puts loss provisions below the 10 year average and below the 15 year average as well.

Moving to slide 15 worldwide financial services net income attributable to Deere in company was $175 million in the third quarter.

For the full year in 2019 net income forecast is now $620 million compared to previous guidance of 600 million.

The higher forecast contemplates a lower tax rate.

Slide 16 outlines receivables and inventories.

For the company as a whole receivables and inventories ended the quarter up what about $1.1 billion.

In the Cnf Division the third quarter increase is the result of a higher order book and production schedule, while the full year rise is largely attributable to a historically low fuel inventory position at the start of 2019.

It's worth noting that our forecasted inventory to sales ratio is in line with historic averages.

For AG the quarter increase is due to recent weakness in Canada and deferred retail demand into Brazil as customers anticipated the new fund Ami program by the end of year, we forecast a $100 million increase in inventory and receivables for the division.

Moving to slide 17.

Cost of sales for the third quarter was 77% of net sales in our 2019 guidance is about 77% inline with 2018 results.

R&D was up about 4% in the third quarter and forecasted to be up 6% in 2019 or 5% when excluding Virgin.

The year over year increase in 2019, primarily relates to strategic investments in precision AG as well as next generation large AG products.

As sandy expense for the equipment operations was down 2% in the quarter and projected to be up about 4% for the full year.

The decrease in guidance relates in part to a decrease in incentive compensation.

Turning to slide 18.

The third quarter included eight.

The third quarter included a $24 million benefit to the provision for income taxes, resulting in a 21% tax rate for the period.

The full year effective tax rate is now projected to be between 23 and 25%.

Slide 19 shows our equipment operations history of strong cash flow.

Cash flow from the equipment operations is now forecast to be about $3.4 billion in 2019.

The reduced guidance reflects a potential 300 million voluntary contribution to our OPEB plan.

Companys financial outlook is on slide 20.

Our full year outlook now calls for net sales to be about 4%, which includes about three points of price realization and one point related to an additional two months of work in Ownerships.

On the negative side, we expect currency to be about a two point headwind for the full year. Finally, our full year 2019 net income is now forecast to be at.

Now forecast to be $3.2 billion.

I will now turn the call over to Ryan Campbell for closing comments Brian .

Thanks Brent.

Before we respond to your questions I'd first like to discuss our use of cash priorities and then provide some perspective on our financial performance given the persistent uncertainty in the market.

Despite near term fluctuations in end markets, our use of cash priorities remain the same and we continue to generate strong cash flow throughout the cycle importantly, our capital allocation decisions continue to further support our a rating while also ensuring that we effectively fund operating and growth needs.

Next we'll maintain a dividend payout ratio that target is 25% to 35% of mid cycle earnings and can be sustained through the cycle note that we've increased our dividend by 25% over the last two years and that further increases will be under consideration as we demonstrate progress to our increased profitability goals.

Lastly, during the quarter, we repurchased $400 million of stock and we'll continue to buy when we can create value for long term shareholders.

Now regarding our financial performance, it's important to note that we've significantly invested in next generation large AG products and accelerated our precision AG initiatives.

All the while diversifying our construction and forestry division through the Virgin acquisition.

Additionally, we increased our infrastructure spending to gain efficiencies and modernize systems that enhance our dealer and customer engagement.

Beginning in 2017 momentum has built in our AG business and the initial part of our 2019 early order program, which occurred in the summer of 2018 indicated an acceleration of replacement demand as such we took the steps required to meet the projected incremental demand.

Unfortunately, north American customer sentiment.

Sentiment has since deteriorate.

And impact of African swine fever, as these challenges persist. We're now beginning more aggressive action on our cost structure to create a more efficient and nimble organization.

These actions, which will involve organizational efficiency of footprint assessment and an increased focus on investments with the most opportunity for differentiation.

Our in support of our aspiration to achieve 15% structural operating profits by 2022 and will position us to capitalize upon the resumption of replacement demand growth.

Thanks, Ryan now we're ready to begin the Q and a portion of the call. The operator will instruct fuel deploying procedures in consideration of others and hope to allow more of you to participate in the call. Please limit yourself to one question. If you have additional questions. We ask that you rejoin the queue.

Angela.

Thank you we will now begin the question and answer session I would like to ask a question. Please press star one and record your name clearly to withdraw your question. Please press Star two our first question comes from Rob Wertheimer with Meli US Research. Your line is open.

Thanks, Hey, it's Rob can you hear me.

Yes, we can hear you, Rob I'm, sorry, sorry about that at the wrong button.

Question is really just as you look into your potential cost savings plan. You've also had a nice focus on innovation and maybe a spending pause on innovation. So could you talk about the next.

Really two or three years on R&D I mean are you seeing more and more projects that can generate a good return for you and therefore, maybe keep that's been high and the customer and other areas or maybe just balance.

You know that aspect thanks.

Yes. Thanks, Rob This is Josh I'll start I mean, I think as we think about this and as Ryan noted.

We'll see a continued focus on those things that we can drive the most differentiation and most value creation for our customers and you've really seen so that over the last few years as we've been.

Investing in things like Blue River technology and features that we've been bringing out over the last couple of years.

Yes on the precision side, whether its exact a merger exact apply which Brent mentioned earlier things like comedy advisor. So I think the ability to focus and prioritize their will will be a key kind of how we operate going forward and Rob is Ryan we have made significant investments in the building blocks to be able to deliver incremental value to our customers through the use of technology and precision agriculture, and we'll continue to do that what I would say we're early we're we're delivering measurable value today, but the opportunity the more we work on it the opportunity.

In our minds continues to grow so we'll continue to have that be oh, a priority for us at the same time, we're going to look at our global customers and work to find more efficient ways to deliver our products and services. So that we can satisfy their needs as well.

Thanks, Rob will go ahead and go to our next question.

Next question comes from Seth Weber with RBC capital markets. Your line is open.

Hey, good morning, everybody.

Josh <unk> last quarter, you guys talked about potentially taking production down about 20% and some of the larger facilities can you just kind of recalibrate us work, where you're at you know kind of where third quarter was and then what you're thinking for fourth quarter.

Relative to the third quarter. Thanks.

Yeah, and maybe just to kind of clear up I think that was probably not as clear that as it could have been as we think about.

The back half of the year that comment was back half of the year versus back half of 2018.

So we continue to expect that we will produce less.

Right and then that we did in 2018 it similar to what we commented a quarter ago I think importantly, maybe for a little more clarity is as we think about large tractors.

We will we will underproduce retail demand for large tractors.

In the North America by a mid single digit so no no significant change to where we were a quarter ago, but.

That's so that continues to be our expectation.

All right. Thank you said, we'll go ahead and go to our next question.

Next question comes from Jerry Revich with Goldman Sachs. Your line is open.

Yes, hi, guys. Good morning, everyone and I'm wondering if you could talk about how much of the cost improvement initiatives that you're looking for improving.

Supply chain performance and on time deliveries and just update us if you wouldn't mind on how the expediting fees costs that shook out this quarter compared to what we had seen.

Earlier this year.

So from a supply perspective, we've definitely seen the challenges the disruptions delinquencies have have come down significantly were better better shape. There. So operating more more effectively and efficiently I think you've seen as it relates to premium freight we talked about some acute issues, we have seen on small tractors.

As we had noted we expect those to carry into the third quarter, which they did but but they have abated and we don't.

Do not expect to see those as we go forward I think by and large the situation you are much improved.

As you think about cost savings moving forward I think the opportunities there are as we move from getting part then which was a significant challenge as we ramp in 18.

Into its early 19 really shift to how can we spend more time on on structural material cost reduction, which we typically have overtime.

Thanks, Jerry will go ahead and go to our next question.

Next question comes from Jamie Cook with Credit Suisse. Your line is open.

Hi, Good morning, I guess two questions you know just based on what you guys said about.

Good I just comment on how you're feeling about channel inventory and specifically on the large AG side as we approach 2020, and whether we'll be in a position and 20 <unk> 20 to produce in line with retail demand given the underproduction in the back half of the year.

And then I guess my second question just well. The then the numbers on construction are obviously, good this quarter and it sounds like you have good visibility, but there are some concerns that there is excess inventory on the construction side too. So can you just talk about what you're seeing from your perspective. Thanks.

Yes, so field inventory overall I think is really a question I mean as you think about large AG in North America, we're talking about I. Just mentioned you know the the mid single digit under production for large tractors.

I think what what we expect is particularly in the U.S. So what were the actions. We're taking will would allow us to produce huge retail demand Canada noted there is a little more weakness there. So that's a that's a spot that we need to work through.

Further so that wouldn't maybe a bit of it take a bit longer but in the U.S.. We would say we're positioned to do so if you think about where were at from a.

Field inventory perspective in construction.

As as Brent mentioned, we still got ill on average a couple of months of order coverage.

Which is really aligned with where we traditionally run those replenishment times have shortened and that's we think that's a positive thing.

Which also helped in our ability to react to changing market dynamics. So we still intend to build fuel inventory during the year as as we've talked about coming off of historical lows.

But that the ability to be quicker on our replenishment. It allows us to be adjusting more more quickly as needed. So we'll continue to watch that market.

And make changes while we while we go forward.

So thank you.

Well go ahead and jump to our next question.

Our next question comes from Steven Fisher with UBS. Your line is open.

Thanks, Good morning, guys.

What do you do you see as the biggest changes that are driving the the $100 million.

Net income guidance reduction.

And then I think your sales guidance suggests a Q4 sales growth year over year.

Both in AG and construction and can you talk about kind of what what would be driving actual growth in the fourth quarter.

Yes, so if we think about AG in the fourth quarter.

Really the biggest biggest impact there is in South America, and Brazil in particular, as we see some some growth in that market, particularly as we start to prepare for one use of free season in Brazil in one Q.

There is a little bit of a small tractors.

As well just from a year over year perspective, where last year, we were trying to build inventory and we had a stronger three view in a little bit weaker fourq you in 19, its little bit flatter. So those those two areas and then there is there is a little bit of impact as you as you think about cash receipts, improving and some some MSP payments that we talked about.

Where we could see some some incremental demand we don't think that large by any means but but could be could be beneficial.

On the Cnf side.

It's a I'd say, it's more yeah, we've got the build in inventory that we expected to see in a planned for throughout the year that that drives the up from a from a fourth quarter perspective, there and this is Ryan Berney, you're thinking about the guide down by 100 million. There's a there's some volume in there both in both divisions.

There's also a little bit of incremental discount spend, particularly as it relates to the Canada market, but what I would say about that is overall, we're still expecting a 3% price realizations. So those are really some of the moving pieces.

That took us from 3.3 to 3.2.

Thanks, Steve.

Go ahead and go to our next question.

Our next question comes from Anne Dykeman with JP Morgan Your line is open.

Yes, Hi, HM you know that's higher losses on your operating rates, where they go in the quarter and also other assets on the balance sheet on the Piccolo rose 33% year over year.

Suggesting the more used equipment is being returned onto your books.

Meantime, you're talking about 3% pricing on new equipment. So can you talk about whether new pricing is getting wiped out of those farmers by used equipment, they're not willing to pay for technology or even vice versa. They are willing to pay for technology on the used market, but that's just cannibalizing use values on equipment that doesn't have technology I mean, what's going on there and are we really talking about a 20% gross price. If you take in the losses on operating with it goes into account.

Yes, so I think I mean, if you think about used values in particular for large AG as we are seeing them be pretty stable and I think maybe importantly.

You know good condition late model here are actually paying a premium and there continues to be a demand for technology, whether its new you know as we mentioned on the you've either seen strong adoption and I think what we're seeing is we're hearing that directly from customers is technology technology impact.

Is most.

Importantly, as you're going through challenging conditions. So the willingness to invest in technology certainly there were seeing the benefits as we deal with shorter windows to execute jobs in the field and that's that's that's present I'd say, both on new and used so I think that there's not a lot of differentiation there between those two.

Yeah, and if you think about your your initial comment on on the operating lease losses noted in the quarter. So as you think about when we get lease returns that come back through John Your financial we remarket those back through our dealer channel. So certainly the uncertainty we're seeing from a customer perspective.

You know it is impacting the environment right now and we as we have in the past have decided to to move some aged inventory in order to not carry that for another two to another you season and as a result of that we've seen we've seen some pressure on recovery rates.

And Thats what was reflected here in in the quarter.

I think as we go forward, we continue to be really mindful of whats coming due and how do we work with the customers and the dealers to best manage that and maybe one thing worth noting there is as we look forward, we actually see less lease maturities in the forward looking 12 months than we have in the most recent 12 month so.

We'll continue managing that I need to be mindful of what we're doing there. Thank you.

Next question please.

Next question comes from Andy Casey with Wells Fargo Securities. Your line is open.

Hi, Thanks, a lot good morning, everybody.

My question is really the pathway from where you are where you seem to be guiding margins and 2019 somewhere in the low to mid 9%.

Range to the goal to be at 15% mid cycle operating margins by 2022.

Yes, the margins headwinds that you had through 2019 appear to be dissipating.

Similar to the FX headwind called out for AG and turf.

If you exclude those headwinds could you help us with what 2019 margin would've looked like I guess I'm just trying to understand that.

Over the next couple of years.

Should we expect a pretty healthy margin snap back in 2020 absent those headwinds or is the gap closure to goal.

That 15% more weighted to 2021.

Yeah. Thanks, Andy Yes, you're right I mean, if you look at our AG and turf division for the year, the combination of FX and mix.

Our or a little more than a point a half of a margin drag in 2019.

So that is that is a significant component there and then you know as as as we've talked about quite a bit of the material in the premium freight has been has been a drag as well on margins I think as we look forward and as we've talked about in the past when the fourth quarter, we expect material to improve.

And be favorable similarly in response to Jerry's question, you know, we don't expect to see that at a high level of premium freight that we have for the first three months of the year. So those are all things that we would expect to see to see improvement and then.

To ryans comments as we as we move forward.

We're continuing to look to take actions to deliver improved margins.

Yeah. So yeah cost reduction is going to be a component of that not only in 2020, but as we go forward through 2022. The other things remain the same that we that we are accelerating and feel really good about his adoption precision AG and what we can do from a differentiated value perspective for our customers.

Our ability to grow our aftermarket aftermarket parts and services business and successful integration of work and all of those things are are the recipe to get us from where we are today to to the aspirational target to that 15% in 2022.

Thanks, Andy will go to our next question.

Our next question comes from Ashish Gupta with Stephens. Your line is open.

Thanks, Good morning.

Just a clarification on the order book in AG I think last quarter.

So it would be May you talked about it being at the September which would be roughly four months.

And now you kind of it seems like talking about for Q, mostly covered which would sort of imply roughly two months.

We consistent with sort of the uncertainty commentary, but I just wanted to kind of clarify if that's the right way to think about it.

Yes, so the mostly covered was in reference actually to construction forestry, where we're we've got about two months on average there on in the construction book as you think about large tractors.

That's where we're well into November on as you look at both 8000 or 9000 series tractors. So we we've got further coverage there again, albeit on a lower schedule, but we got as a pretty similar visibility to what we did a quarter ago.

Thank you well go and go to our next question.

Our next question comes from Joe O'dea with vertical research partners. Your line is open.

Hi, good morning.

Yes, Josh how do you think about the divergent trends that you're seeing in the ERP, So far and maybe I mean, I know, it's early days, but just kind of out of the gate, what you're seeing in combines to try to understand what the underlying demand level is and indications heading into next year, where it sounds like planters good trends, but highly technology oriented and then sprayer seeing the drag there and just trying to understand how you guys are sort of parsing through that to think about the direction of demand.

Yes. This is a great question, Joe I mean I think.

As Bret mentioned as you started in June historically, when we started June that's because planting seasons over.

So with that backdrop planting occurring well into into June .

Where we think the first phase may not be as good of an indicator of what to expect in year to come as with the past because of the level of uncertainty there sprayers.

Really tale of two markets.

As Bret mentioned, Canada down more significantly and Thats impactful because of the high level of technology as well as just size. The machines you see in Canada that are.

Typically order there's less impactful you asked maybe one dynamic that's a little bit different for us, even though we were down double digits, but feel a little bit better. There is AG service providers, you'll make up nearly a third of the industry and yes. They have been delayed precisions, obviously, not doing really any sprain, our much brain at all in May and limited amounts in June so anecdotally I think the conversations there is that the deferred and delayed some of their their capex decisions until we get a little bit deeper into the season.

So I think that that's been a that's kind of played out over time.

So we'll continue to see what would say few looks like for those for those programs, but I think the positive news is customers' willingness to invest in technology, where they can see the value in positive outcome.

In addition to that you look at what we saw on on exact emerge growth growth in our take rates there.

Similar on on exact applied so continued progress as it relates to combine still really early.

We're we're two weeks in so we'll continue to monitor that and provide some insight as we get to the fourth quarter that program kicked off the first part of this month and run through January . So so we'll we'll see how that evolved as we go forward.

Thanks, Joe will go and go to our next question.

Our next question comes from David Raso with Evercore ISI. Your line is open.

Hi, Thank you.

I know you just went through a lot right there, but I'm trying to understand with one quarter to go when you target yearend inventory and receivables that's making a statement about the next year's assume demand profile can you help us a bit with what kind of demand profile did you bake into your assumption for those year end inventory targets.

Yes, it's the baggage or in particular it did the two things that are really impact, where we're ending and if you think about what changed from our previous guide I mean, one is some weakness that we've seen in Canada. That's represented there and a little bit higher inventory receivables and then the other piece would be Brazil, and as we look forward to the first quarter in that market and the expectations. There given some of the factors Luc mentioned in terms of.

Strong strong margins really strong crop that said, we expect translates to see some positive end market changes there.

Okay. Thanks, David well go to our next question.

Our next question comes from Stephen Volkmann with Jefferies. Your line is open.

Hi, Good morning, guys. So my question is around pricing and then the three points of price is pretty impressive and I guess I'm just trying to figure out I think you try not to capture mix, so things like exact emerge and sort of the value. There is not in the 3% if I'm not mistaken then I'm just curious.

You know, how how you can push that much price and what the outlook might be as we sort of go out a little bit further.

As it relates to price.

You're right in your commentary that that is like for like and does not include features or things that would be the added on.

So so thats fair so those those kind of things would would show up in mix and not in our price realization. So.

Yes, Thats correct, yes, as you think about price I think kind of how and why are we able to get it I think it's really being able to deliver.

Value to the customers and understanding the agronomic.

Inputs and outcomes.

That they were able to deliver.

In.

I think we had a number of customers talked about it.

Be ability with exact numbers for example to plant 3000 acres in three days in the only three days of good weather. They had that's a that's a really big advantage to be able to have that and execute that and thats. A difference can be the difference being getting the crop at all versus versus versus not.

As you think about going forward weve averaged over the last.

Decade, our equipment operations about two and a half point the price and as we as we look forward I think.

We have been higher this year than that average.

You'll probably get closer and closer to that average as we step or yeah, what I'd say I mean, as we think about the total value of our production system with respect to the equipment and technology and the service and support that our dealer network can provide us feel comfortable that theres some significant incremental value that we can.

Continually add for our customers and so thats, how we think about pricing.

Josh that something new comes out is that it doesn't come into pricing, but updates or or year over year comparisons to things that have already been out that does come into pricing, but overall total value that we can bring with them with the products the technology and the service and support that our dealers can provide give us comfort that that our pricing is is well within bounds and Josh indicated is within our historical ranges.

Thank you well go to our next question.

Next question comes from Chad Dillard with Deutsche Bank. Your line is open.

Hi, good morning, guys.

So just wanted to circle back on the cost savings. So I just want to get a sense for like what the potential order of magnitude it could be.

How are you splitting that between each business, Brian business line and also just like the timeframe to enact and hit the full run rate.

And then secondly, just a question on the low horsepower tractors, just want to get a sense for your comfort with.

Channel inventory and how you're thinking about.

Production versus retail demand.

Yes. This is Brian so on the cost side, you know, we're not ready to provide that level of detail.

You know what I would say is as we've taken targeted actions already in the third quarter. We've got some contemplated in the fourth quarter.

The total those are relatively small at this point they would total about 25 million and costs.

We're prepared to provide an update with our fourth quarter earnings call as we give our 2020 outlook on what those might mean to the 2020 and going forward you know what I'd just say it is an acknowledgement that cost reduction is going to be just a larger component of our path from today's margins to the 15% aspiration on margins that we have at mid cycle in 2022.

Yeah, maybe just to follow on relative to contractor inventory I think broadly I think we feel good about uncomfortable with where we're at from an inventory level and we're pretty much aligned are in line with where the industry is ER and you'll continue to see strong end market demand, there really driven by general economic conditions.

In the U.S. in particular.

So thank you well go ahead and go to our next question.

Our next question comes from they'd go pray with Baird. Your line is open.

Oh, yes. Thank you good morning, and just to follow up on that.

Hey can you can you help me understand if.

The cost actions that you're talking about are sort of driven by the changes in the market are expected production volumes et cetera are or this is more.

Structural nature longer term plan and maybe the second part of my question is on Burke and I Love an update there and maybe your view on margin here because it seems to me like your your outlook for margins to tick down and I'm wondering how we should be thinking about that business going forward. Thanks.

They could make all start undercut, yes. So I mean, if you think about Birkin overall, you really strong third quarter, which we expected we've talked about that so essentially.

About 16% margin.

And if you can't take out purchase accounting last year, that's actually similar margins on slightly lower sales level. So.

Fuel feel good about about the way that businesses perform margins did come in some for the full year.

Really driven by.

Changes in mix.

In their business.

As you have seen some shifts as well as underproduction.

On a couple of their of their brands as we align order fulfillment strategies as part of our integration.

So as we as we will we are going to underproduce in our underproducing to some extent this year that is impacting their margins, but we think that's the right thing to do to position ourselves for for going forward. There. So in summary on varick and strong margin performance in the quarter continue to feel really good about that business confidence and 125 million euro of synergies.

And continue marching down that path and.

And provide updates as we as we go and the cost reduction side. The plants are really focused on longer term structural changes in our cost structure as opposed to lever pulling given where we are in the cycle.

But more to come in in our fourth quarter earnings call for them.

Thank you Mick will go to our next question.

Our next question comes from Courtney.

Our next at Morgan Stanley Your line is open.

Hi, good morning, guys.

Just a quick clarification on the 25 million that you talked about and you being out of fifth third and fourth quarter.

Is that a run rate and is that currently embedded in the 100 million guidance reduction and then secondly, when you talked about early orders you talked about them being flat in units.

And because it precision AG can you give us any more granularity on whether the uptake of seems like he's back to merge are continuing to see a step function higher or is it.

Roughly at the same 35% level and just grinding incrementally higher thanks.

Just on your P. side, we saw them move from kind of that.

A third of planters going with exact numbers up to around 40%.

And not just the exact numbers, but we're also seeing just larger planters they think about with bigger planters and more highly featured both of those things are contributing to that that value.

Being up.

As Bret noted.

Yes on the cost side you know those are those are onetime costs I wouldn't conclude that that's the run rate and it is embedded in the 100 million reduction in guidance that we've had.

Thanks, Gordon will go to go and go to our next question.

Our next question comes from Larry de Maria with William Blair. Your line is open.

Hey, good morning, Thank you.

Just curious did your outlook contemplate the U.S. day report just came out and did that change your thinking at all since it came out because it sounds like you still expect farmers to use some of their MSP cash to buy equipment in your fiscal fourth quarter. So I'm guessing not so maybe plays out over time, and secondly, where do you guys stand on plant that acreage and yields now I don't know if you differ from now.

Expectations aren't thank you.

Yeah, So maybe I'll start with the fundamental part of the question with regard to planted acreage in yield and obviously.

What the U.S.P.I. released on Monday, I'm surprised the market, particularly on the cone I'd say more harvested area have been planted and certainly the yield I'm sort of a limit them moving in corn prices caused a lot of people by surprise. So that's kind of what we have at the moment to work with a I guess, what we would say is that there's still a long way to go in this growing season, obviously, we've had a lot of abnormal weather.

With delight planning says a lot of variability in crop progress from the west and sort of the corn belt, where it's looking a lot better across the.

The ace and so on where there's a lot more variability obviously the light of planning development opens up windows for only for off and those sorts of things So and certainly history shows us that a final yield numbers can vary you know relatively significantly from this August estimates are that the methodology that the U.S.T.I. uses changes as we go through the crop season, and as we get into harvest and we get some actual harvest data or we might see that changing as we go forward. So we'll be obviously watching that closely and that'll be important in terms of what it means for final production and that crucial a ending stocks number.

And I think Larry when you think about kind of the MLP impact.

Certainly very I mean formative farmer, you get very different situations in terms of the size and.

It helps their crop whether or not they marketed grain.

In May June as prices ran up so there is a lot of dynamics I think that'll impact.

You know if and when they use some of that from a cash receipt perspective.

Yeah, I guess just to add on to that Joe just like the that the MSP is really been a a shot in the arm for the U.S. foam is when you think about the cash receipts that provides the booth, so 29 things or at least as to its highest level. Since 2014, and you know certainly helps given some of the issues that we've got we've tried uncertainties and a and the impact that we've seen this week on commodity prices. So some of them will one thing I want to benefit from marketing old crop stocks are at what were some of the highest prices we'd had in five years earlier in the year, but being able to market forward at higher prices as well and obviously were white to say what it means for equipment demand given the uncertain conditions we have.

Thanks, Larry will go to our next question.

Your next question comes from David Raso with Evercore ISI. Your line is open.

Hi, Thank you a few addressed that I apologize I missed that your implied construction equipment margins for the fourth quarter I mean on a year over year basis. It looks like a pretty solid decline. Despite sales are up and if I Miss something that explains why the margin performance would all flame road like that my apologies, but can you explain why that's the case.

Yes, you are saying in the fourth quarter.

Yeah, I see the margin guide for the full year is 11% I believe correct so that implies.

Yes, I don't know 9.6 or something that nature for.

For the fourth quarter.

And that that'd be down year over year, despite sales up 6% and just given the fund having a pretty strong run of of margins I wasn't sure if something was changing on incentives for dealers or mix or something else I'm missing.

Yes, David its Ryan I think mix is a component of that you know the other aspect to that is you know construction has a different material commodity footprint and so overall benefit that we're projecting to see in the in the fourth quarter on material costs. You know part of that is a positive and AG construction is still not yet seeing that benefit. The other thing is pricing or pricing comparison gets a little bit tougher there were some actions that we took.

In the fourth quarter of last year, the improved our pricing. So the compare the comparison gets a little bit tougher in the in the fourth quarter for construction. Those are really the puts and takes associated with with the margin performance that we're projecting for the fourth quarter and construction.

Thank you.

Thanks, David Okay, we'll take one more question.

Our next question comes from Jerry Revich with Goldman Sachs. Your line is open.

Yes, hi, Thank you for taking the follow up I'm. Just wondering if you can expand conceptually on the cost reduction opportunity and the buckets of savings because again as we look at the manufacturing footprint that you folks have pretty streamlined already big tooling upgrade on the tier four transition as well. So can you just help us understand the major buckets of opportunity as we're talking about improving the cost structure further from here, even a bit more context. If you don't mind, obviously, we'll get more detail numbers next quarter as you mentioned, but any qualitative comments would be helpful.

Yeah, So I think right kind of laid out kind of the three areas in terms of kind of organizational efficiency I think the second one as you think about footprint.

Yeah, I think there we are single source for a lot of our products products on a global basis. So we feel good about our capacity. So it starts to look at how do we how do we make sure we're folks to prioritize on those things that add most value.

For our customers.

And then in in.

So those those are really the two most important areas.

Yeah, Jerry its right, we're not ready to break out those those buckets, although there. It's all three that we're going to focus on.

You know and fourth quarter will will provide to provide an update on where we are what it means to 2020 in kind of our.

Our view towards a margin improvement or all the way out to 2022 to hit our aspirational targets.

Well. Thank you Gerry thanks, everyone. We appreciate it we will be around so please reach out if you've got questions and have a good weekend. Thank you.

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