AGCO Corporation (AGCO) Earnings Call Transcript & Summary

Good morning, everyone. Welcome to the fireside chat with AGCO Corporation. I'm Jerry Revich from Goldman Sachs, and I'm delighted to have with us Andy Beck, Chief Financial Officer; Greg Peterson, Vice President, Investor Relations. Andy, Greg, thank you very much for joining us today.

Thanks, Jerry, and we appreciate the opportunity.

So we're going through our conversation in a fireside chat format. [Operator Instructions] Andy, Greg, as a starting point for the conversation, it's really interesting to see where your margins are today, above the levels that the company was able to deliver at the peak of the ethanol cycle on much lower volumes in a lot of your key markets. As you look at the business today from the last cycle, how do you think about the breakout of drivers of improvement from the last cycle in terms of new technologies, cost reduction and good, old-fashioned competitor discipline?

Sure, Jerry. Yes, certainly, one of the key focuses that AGCO has been margin improvement over the last number of years. We focused on that many, many ways, as you say, in terms of cost reduction, also product positioning, also in terms of our product mix and what we want to focus on in order to drive our margins up. We're still working on that and believe we still have a lot of potential to further improve. If you compare AGCO to where we were 10 years ago or 8 to 10 years ago, we're a much more mature, developed company at that time. I think from a product standpoint, competitive standpoint, the skills of our management and capabilities are much better than where we were. So we're continuing to be, I think, a stronger company and much more competitive really around the world. I think some of the key differences in terms of why our margins are trending better than where you would have seen them in the past is continued improvement in our position in North America, which has been a weaker point historically, but I think we're gaining traction there. We are growing in the high horsepower segment. We've taken our premium product segment, which is through our Fendt brand and we've been localizing the distribution and selling Fendt, both in North and South America and I think that's been quite an improvement. Also, I think the trend towards precision agriculture, those are typically higher-margin segments of the business, have helped us. Our revenues associated with precision ag were over $500 million in 2021, driven primarily by the Precision Planting business which is a very important part of our business that we acquired in 2017. Precision Planting provides a lot of innovative precision ag technology through a retrofit channel, and that is driving good margin improvement and we've seen substantial growth in that business since we bought it in '17. And we're still working in terms of our productivity in our factories and through our purchasing efforts. As we design products over the last 10 years, we've done those with a mindful way of making them more platform-based. So we're using common componentry and parts amongst all of our product lines and brands in order to increase scale and drive cost improvement. And I think those are all helping us. And I think, as you mentioned, pricing is also an important aspect. Our positioning within our product lines is improving, and we're able to see higher margins in a lot of our product lines compared to where we were before.

And Andy, South America in particular is really where you folks are delivering much better performance and you've essentially gone from losing money to now making strong double-digit margins. Can you talk about the journey that you folks went through in South America to get to this point and the sustainability of the margins that you're now posting?

Yes, sure. I would like to. We have had a lot of improvement in South America. As you pointed out, we were losing money 2018 and '19. We were in a product transition at that point where we were bringing in some new, more modern products into our product line in Brazil, but that -- there was some transition pain going on there as we did that. Now we're very comfortable and happy with our product lineup, which is refreshed. It has a lot of new technology in it. We've also brought in some more products in the high horsepower segment. We have brought in the Fendt brand. It's still a relatively small offering, but that's serving the very highest horsepower segments of the market. We have the new IDEAL Combine. One of the biggest contributors has been in the planters. We've really grown in our offering with planters and that's a good margin business with the -- we call it the Momentum planner. It has that precision planting technology in our OEM offering. And that's been a very successful offering. And we've grown in some of the other complementary products, sprayers, our Grain & Protein business is performing quite well. And so what we moved from is too much concentration in terms of offering small tractors to a much broader and better margin profile offering now, more focused on high horsepower. We've grown a lot with our distribution. New distribution enhancements in the key big farm markets of Brazil, and that's helped us as well. But I'd also want to point out that the market's improved a lot since then. So the market was really in a down cycle during that period of time, and with the rising commodity prices the weakening of the Brazilian currency has made farmers' profitability very strong in Brazil. And so we're seeing really above-average demand right now, and that's part of the reason why our margins are up as well. But we think there's a lot of fundamental improvements that we made. We're also working through this high inflationary situation in Brazil by supplementing all of our product lines with pricing. And we hope that, that, we're able to reposition some of those and keep those higher margins in place as the markets actually settle down at some point. So it's a combination of market and mix and performance with our new product lines.

Andy, the point about a larger product portfolio is really interesting. What proportion of the revenue base in South America today is the legacy portion, excluding Precision Planting, et cetera? What proportion is legacy today versus 5 years ago? In other words, how big is that new product suite today?

Yes, it's a good question. I don't have that -- those numbers in front of me, but we have seen a meaningful growth and improvement and mix. So we see much higher sales in planters, sprayers and our high horsepower businesses. And so those, along with Grain & Protein, those are certainly a bigger mix and proportion of our business than we had before. And so that's driving a lot of this margin improvement that you see.

Very interesting. Okay. And in terms of the Precision Ag business and opportunity, just to frame that for folks, you outlined an $800 million revenue target in 2025. At the time of the Analyst Day, it was about a $500 million run rate. As you think about the growth by 2025, what contribution from new products does that include versus just growth in Precision Planters, the Fuse software offerings compared to when we spoke about the precision application of crop protection and other areas that are still in the development stage? What's the mix of new versus existing to get to the $800 million from here?

It's certainly going to be a combination of both. It's -- there's still a lot of demand for the existing products that we have and the planting sector of it. Precision Planting really is a unique business and that they're taking -- you can get advanced planting technology that we can demonstrate, that improves the yields of the farmer in terms of the ability to really sense in the soil what's the right automated tasks in terms of seed, the seed selection, the depth of the seed, the distance of the seed from the next seed and the planting process. So there's really an individual decision being made on each seed that's planted and that's really creating a lot of improvement in yield that we can show in our model farms and things like that. So there's still a big opportunity for farmers to upgrade their existing planters and take advantage of this new technology and development. But we're also working on, as you point out, a lot of new innovations, not only in the planting cycle but Precision Planting has also expanded their scope and range of what they're looking for outside of planting now. And we've just announced in one of our customer conferences that we're going to introduce some products that are retrofit products for our sprayers. And so those products will help enhance the spring process, reducing the amount of chemicals that have to be used. So it's a benefit not only in terms of cost but sustainability. And so we're very excited about the development of those products. So Precision Planting is now expanding and broadening in scope. That's an important channel for us through this retrofit channel, which is unique for AGCO. And then we're also developing products and automating tasks throughout the rest of our product lines through our OEM sales that we have. And so we're developing on both the retrofit channel and the OEM channel, new developments, automating tasks, new features that we believe will enable us to continue to grow that Precision Ag revenue. And that revenue is at higher margins than typical, they're more like aftermarket margins. And so that's going to help our mix and improve our profitability going forward.

And in terms of the retrofit kit for sprayers, can you talk about the timing of when that's going to be commercially available and what's the returns profile of that investment?

We have not given any release dates. We've introduced the technology and -- to our customers, but not have -- no firm dates in terms of release. So I think it will be in a couple of years, probably something like that. But we'll -- it depends on the development cycle that we have and all the testing and getting that ready for a commercial release. So we got some time to go, but we're really excited about the products that we have in place and ready in our pipeline coming forward. I don't know if, Greg, you want to add anything to that.

Yes. So Jerry, the real compelling thing about the retrofit model is that farmers can incrementalize their investments. So we show -- like when you think about planting, they, instead of buying -- spending hundreds of thousand dollars to buy an OEM version of this planting technology, they can spend tens of thousands and do part of it this year, part of it next year and get benefits each year. And that's kind of the same way we're looking at on the sprayer. So for instance, on the sprayers, we'll start with the smart nozzle aspect to allow the -- to increase the intelligence of the sprayer so that it distinguishes different spray patterns across different parts of your farm and doesn't do it uniformly. Then the next major phase will be the targeted spring that we've talked about, doing both OEM versions up, but now also retrofit versions. And that's where the machine is smart enough to sense the difference between a weed and the crops and target the herbicide towards the weeds. And that technology will be further down the line. The smart nozzle applications will be sooner. So to Andy's point, we'll start testing stuff, excuse me, earlier into '23 and then commercialize it following that.

And in terms of the capability set and portfolio of Precision Ag, do you folks have largely what you need in-house and we should be looking at bolt-ons from here, that capability set? Or is there a potential for you folks to do something larger from an acquisition standpoint in Precision Ag?

Jerry, over the last year, I think you've seen us do a number of small acquisitions to acquire certain technologies and capabilities of development in terms of technology development, software development. We didn't have all of that in-house. And so we've chosen to make some targeted acquisitions that bring us some of that technology, whether it be relating to sensor technology, vision technology or automation or autonomy-type technology. So all of these are targeted to bring new capabilities to -- within AGCO that we can then leverage to work on a road map of technology that we want to introduce now in the future. And so I think I wouldn't say that we're completely done. There are still areas that we'd like to continue to strengthen and we can do that either organically or through other acquisitions. I would say that they're likely to be acquisitions similar to what we've done recently. And so I wouldn't rule that out as we continue to go down this road, building our capabilities and, obviously, building an enhanced product line of Precision Ag technology that enables our equipment to be more automated, have more intelligence and improve the cost structure for the customers, for farmers or improve their yields or improve their sustainability. And so all of those are key elements of our development plan that we have going forward.

And to shift gears to talk about your competitive strategy within Precision Ag, you folks are working with a number of partners to broaden out the capability set. Just talk about your decision to focus on collaboration versus an all in-house approach that we're seeing from a major competitor.

Greg, do you want to take that one?

Sure. So Jerry, we -- obviously, our resources are a little bit different than our largest competitor. So we are trying to move our technology forward most efficiently and as fast as we can. And we've taken the opportunity to partner with, as you say, some other manufacturers, people like Trimble and Topcon, and got their technology into our products sooner and got it into our customers' hands. And so over the last probably 5 to 10 years, we've been working really hard to develop our own, what we refer to as a common electronic architecture that kind of gives us a common operating system, if you will, that we can layer applications on. And so that work now is allowing us to do more of the internal development that you're talking about. For example, 1.5 years ago, we launched our FendtONE application which essentially insources most of what a Trimble or a Topcon would have done for us. And so today, if you're an AGCO customer and you buy a Fendt tractor or Fendt combine and install a FendtONE, that provides you guidance out of steering, field mapping and importantly allows for things like remote instructions. So you can send instructions to your tractor combine and the tractor will essentially perform a day's work based on those remote instructions that were set. So we've taken the approach to partner with folks outside. And then as we can, we're continuing to work to develop the technology ourselves. And the good news for us is we do that as we insource more, that means more of that -- the margins stay with AGCO. And as we look forward, we'll continue to leverage outside partners. And to Andy's point, we've made some small acquisitions. We've also made some investments in companies that we think will help us. For instance, we invested in Apex.AI, which is leader in mobility and autonomous solutions. And that will help along with our acquisition of JCA when we're looking at automation and autonomy. Another important investment we made, Greeneye Technologies, which is a lot of work and efforts going into. We talked about spraying and the technology enhancement to minimize the amount of spraying that's done, both for profitability reasons, but also for sustainability reasons. And so the Greeneye Technology helps along with what we're doing in Precision Planting. And also, we were part of a collaboration with BASF, Bosch and Raven working on that. So we're approaching it in a number of different ways. The most important thing, though, is as we've talked about putting the farmer first, figuring out what it is they want and then getting the technology into our equipment as fast as possible.

Super, thank you for that rundown, Greg. And capital deployment, really interesting to see what you folks have done in terms of shifting to a variable dividend over the past couple of years. Can you just, for folks newer to that part of the strategy, talk about why you folks are opting for that method of returning cash to shareholders versus buyback? And should shareholders think about a variable dividend as a consistent capital deployment measure on an annual basis the way it's been in the past 3 years?

Jerry, yes, we changed our approach last year and issued our first declared and paid out our first variable special dividend last year. We've announced and declared one that will be paid again in June of this year. So we're obviously hoping to demonstrate that this is something that should be recurring. There's -- it's going to be something that we make a decision on, on an annual basis after we complete our year-end results and have a chance to see what our outlook is and see how much cash we have generated, what our balance sheet looks at -- looks like. We'll be making an annual decision on the size and scope of that special dividend each year in order to make sure that we're continuing to return cash to shareholders at an appropriate level. If you look at what we generated in terms of cash last year, if you look at the acquisitions we've done, we're not really decreasing our leverage except for the fact that our earnings are going up. But from a debt standpoint, we're returning really all the cash generation that we have out in terms of dividends. And we also did some share repurchases last year. So I think our plan is to be consistent with that on an annual basis. Look back and see what we've done in terms of cash generation, look forward in terms of what our outlook is, make a determination about that dividend size. And we would expect to do that on an annual basis. In terms of share repurchases, I would say that, that's still something that we'll consider each year as well. But the more significant cash return to shareholders should be in the form of that dividend going forward. So it will be a balance between our quarterly dividends, the special dividend and share repurchases, with special dividend being the most impactful approach.

Super, thank you for setting us through that Andy. And can we just shift gears, talk about the unfortunate cyberattack that you folks faced last week? Can you talk about the impact that it's had on your business and the steps that you're taking for corrective action?

Sure, Jerry. I think I'll just -- what I can do is reiterate what we've already disclosed in terms of the fact that we did have a cyberattack at our systems. In order to prevent further damage to our systems, we effectively shut down and shut down some of our key systems, which caused us to stop production in some of our parts operations and a large number of our sites around the world. We've been working on restoring and cleaning all of our systems and restoring them to enable us to start our operations back up. We are expecting to be able to start up some of our plants this week and progressively continue ramping production back up in the rest of our sites during next week. In terms of impact, still, we haven't really been able to completely assess that. But keep in mind that we believe we can mitigate some of this impact by increasing our production rates once we get it back up and running. So there's opportunity to reach the daily rates, use weekends and future vacation times to catch up any lost production that we have had because of this issue.

Got it. Nice to hear about the mitigation plan. Okay. In terms of within the business, can you talk about what you're hearing from your dealers and customers in Europe? Obviously, a pretty attractive outlook for farmer income on the one hand, economic and war concerns on the other hand. What are you hearing from the customer base in the channel in Europe?

Yes. I mean it's -- obviously a lot of things going on for those European farmers there, seeing certainly a lot of impact because of what's happening with the conflict with Russia and Ukraine, a lot of grains being -- the grain production has looked to be limited because of that. So we're seeing increased prices. But also Russia, Ukraine as a significant fertilizer supplier, and so they're seeing their cost -- the cost of fertilizer going up. Obviously, we're seeing fuel prices go up. So there they're trying to assess where they are. In general, what the prices of their commodities, so -- and they're driven a lot by wheat prices there, corn prices a little bit, but also some -- they're heavy and dairy and livestock as well. And -- but generally, the prices of what they're selling is going up and it should be sufficient to offset these increased inputs. So the income of the farmer, depending on how good their crop is and things like that, should be good this year. And so we're expecting that demand for equipment remain strong in Europe because of the income levels, potential income levels of the farmer and such. Now when you look at some of the confidence ratings that have come out recently, you've seen a decline there, I think that's fairly understandable given really complex set of issues that they're faced with right now and what's going on around them. But ultimately, I think their income is going to be strong, and we expect that demand will be -- remains solid here in 2022 in Europe. They also have a number of challenges in terms of environmental regulation that's coming at them. Some of the new capital -- new cap policy is driven by sustainability efforts, environmental regulation. And so they're weighing how to be able to be compliant with the new rules. And so that should also help us in terms of some of the technology that we can bring to the customer in order to better manage the use of chemicals through spring technology, reduction of diesel used through higher -- through some of our really great products like the Fendt tractor, which is tremendous fuel efficiency. So some of these new regulations could also stimulate demand in the future.

That's a really interesting point. Can we expand on that opportunity for fleet investment as a result of the new regulations? How much more fuel-efficient are tractors today versus 5 years ago? I know Fendt is always the most fuel-efficient, but Fendt today versus 5 years ago, just so we can assess the opportunity.

Greg, do you have any facts on that?

Yes. I think, Jerry, as we've come from like Tier 3 to now Tier 5, I think the range is like 10% to 15% improvement during that time.

And in terms of the incentives to invest, is there additional capital that's going to help the farmers make the upgrade with the new cap standards?

Well, the new rules really don't have a separate pool of funds with them. Essentially the rules are going to govern a subset of the existing common agricultural policy subsidy. So today, the -- most of the payments go out based on the size of the farm. Starting next year, these rules will apply to some percent of what they already get. So essentially, they're not going to be -- receive additional subsidies, they'll just have to be more environmentally friendly going forward and get what they're getting today. So I guess, you could look at it 2 ways, like Andy said. You could look at this as a reason as to why farmers are going to want to invest in technology, so they continue to get their payments. Or they might be nervous about getting their payments and they might pull it back. So it's one of those things where we're still kind of waiting to see how the market reacts. But we're pretty confident not just for environmental reasons, but, as importantly, to help their bottom lines, that they'll really want to invest. And right now with demand as high as it is just generally across the markets, it's tough for us to distinguish today how much of the demand is coming from just the need to refresh fleets and how much of it is coming from the desire to add more technology and more efficiency in their operations. So I think as the market slows down, we'll see that a lot more. And that's probably a reason to think that as the market eventually slows down, that maybe it won't do that to the same extent if we hadn't had that technology benefit.

And as you folks look across AGCO's global footprint, where are you most positive on the cyclical outlook? Where are you concerned, whether you look at the age of the fleet or other factors?

Yes. I think, Jerry, if you look at where the cycle has been prior to this upswing, we had a pretty prolonged down cycle period in both North and South America. And so the age of the fleet and the requirement to replace and upgrade equipment is probably greater in North and South America than what we would have seen in Europe. Europe is typically a more stable, less cyclical market kind of -- there's still a cycle there, but it's much tighter than what you see in North and South America. And so the equipment age or fleet age is probably in better shape in Europe than in North and South America. So for that reason, I think in terms of capability to extend this up cycle period is stronger in both North and South America, with Europe should remain strong as long as the income levels of the farmers are staying consistently strong. It's -- we've been in this period of higher demand for maybe 1.5 years, 2 years now, but because of the supply chain issues that we're all challenged with, we don't believe we've been really meeting the full extent of the demand in any of these markets at this point. And so as long as crop prices stay strong and farmers' ability to finance and cash flow these purchases stays good. I think this will likely be an extension of this strong demand period because we haven't been able to really meet -- fully meet the demand that's out there because of the supply chain issues.

Okay. Super. Well, that's all the time we have for today. Thank you, everyone, for joining us. Andy, Greg, thank you very much for your time and insights. Nice chatting with you. Have a great day, everyone. Thanks.

Thanks, Jerry.