Good morning. Welcome to John Deere and Company Third Quarter Earnings Conference Call. Your lines have been placed on listen only until the I'd now like to turn over the call to Mr. Josh Jepsen, Director of Investor Relations. Thank you.
You may begin.
Hello, good morning. Also on the call
today are Ryan Campbell, our Chief Financial Officer
Luke Chandler, Chief Economist and Brett Norwood, Manager, Investor Communications. Today, we'll take a closer look at our Q3 earnings and 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 johndeere.com/earnings.
First a reminder, this call is being broadcast live on the Internet and recorded for future transmission and use by Deere and Company. Any other use, recording or transmission of any portion of this copyrighted broadcast without the express written consent of Deere is strictly prohibited. Participants in the call, including the Q and A session, agree that their likeness and remarks in all media may be stored and used 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 ks 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 johndeere.com/earnings under Quarterly Earnings and events. Fred?
John Deere completed the 3rd 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 continue to challenge the industry and have partially overshadowed a and increased exports have benefited the local industry. In Construction and Forestry, end market demand remains 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 4th quarter, the division is on track for a solid finish to the year. Now let's take a closer look at our Q3 results beginning on Slide 3.
Net sales and revenue were down 3% to $10,000,000,000 Net income attributable to Deere and Company was $899,000,000 or $2.81 per diluted share. The results included a favorable benefit to the provision for income taxes due to U. S. Tax reform. Excluding this item, adjusted net income was $867,000,000 or $2.71 per diluted share.
On Slide 4, total worldwide equipment operations net sales were down 3% to 8,969,000,000 dollars Price realization in the quarter was positive by 3 points, while currency translation was negative by 2 points. Turning to a review of our individual businesses, starting with Agriculture and Turf on Slide 5. 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 $612,000,000 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, Luke Chandler, to discuss the fundamentals affecting the Ag business. Luke?
Thanks Brent. Good morning all. 2019 is proving to be a mixed year 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 6, global stocks of major grain and oil are forecast to fall 3% in 20 nineteen-twenty.
Major farm economies 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 emerged 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 2019 has been a volatile one for farmers, particularly those in the corn belt. The U.
S. Row crop sector started the year with the USDA forecasting corn ending stocks at the highest level in over 30 years. Soybean ending stocks at near record levels and the smallest amount of wheat acreage planted in U. S. History.
As the planting season progressed, cold spring temperatures and the wettest 12 month period in US history brought flooding and record planting delays across major corn and soybean growing regions. The result was heightened uncertainty around row crop production. This uncertainty was reflected in the USDA's latest estimates released this past Monday, which surprised the market, particularly the forecast 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 USDA in May of 2019 announced the 2nd round of the market facilitation program or MSP, which includes up to $14,500,000,000 in direct payments to U.
S. Farmers. Higher levels of uncertainty regarded final planted and harvested acreage yields and MST details have contributed to wide swings in farmer sentiment throughout the season. Looking ahead to the rest of the crop season, trade uncertainty continues to dampen sentiment across the US farm economy. That said, the impact of the 2nd round of MSP payments lifts the forecast for US farm cash receipts in 2019 as shown on Slide 7.
Although the full benefit of higher receipts on industry demand may be somewhat delayed or dampened by the current uncertain environment. Up north of the border, the Canadian farm economy continues to be challenged by lower farm income in 2018 and the overhang of an ongoing trade dispute with China. Wheat prices continue to be pressured by abundant global supplies, while canola growers face ongoing Chinese decline yet again this year and Canadian farmers are proceeding cautiously with new equipment investments, even though balance sheets remain solid. On a positive note, this year's crop is benefiting from late season rains after a dry start to the season, modestly improving the near term farmer sentiment. Moving down to South America, as shown on slide 8, the 20 eighteentwenty 19 season marked a record year for combined corn and soy production.
Rising global demand for grains and oilseeds is also driving the export forecast to record high levels, encouraging prospects for next season as well. In Brazil, the 2019 value of production in local currencies for key grains and oilseeds and sugarcane is expected to be nearly 10% higher than last year. Brazilian farmers are seeking to capitalize on expanded trade opportunities, not only in soybeans, but also in meat 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 Motifroda credit line paused industry demand earlier in the year. However, the budget has since been replenished for the new crop year.
Overall, the 20 nineteen-twenty twenty harvest plan is viewed as supportive for the ag sector and equipment demand. Meanwhile, Argentinean farm conditions have rebounded strongly from last season's historic drought. The value of 2019 production is expected to be over 30% higher year over year. While ag fundamentals remain solid, political uncertainty creates a challenging environment for Argentine Financial Markets more generally. Still in the Southern Hemisphere, widespread drought in Australia continues to be the dominant issue shaping the farm economy down under.
On the East Coast, drought is expected to result in a 3rd consecutive below average winter grain crop, albeit southern growing regions have improved from last year. Cotton production is also expected to be significantly lower this year due to constrained water allocation. Conditions on the West Coast has held up much better in recent seasons and farmers here will be looking for spring rains to finish off this season's winter grain crop. In the EU, the macroeconomic outlook remains clouded by ongoing uncertainty regarding Brexit and whether a deal will be reached between the UK and the EU before the October 31 deadline. In the EU agricultural economy conditions are mixed across Europe with grain production expected to recover from last season's drought affected crop.
USDA's latest forecast has wheat production up over 10% despite challenges like high temperatures and a lack of rainfall in past. Core ag markets like France are expected to rebound as a result, although the outlook has been tempered by the ensuing lower prices. Looking at the important EU dairy sector, farm incomes which were strained last year in drought conditions are expected to benefit from a combination of largely stable prices and lower feed 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 do see some improvement in farm economies in most major producing regions in 2019, the backdrop of continued high uncertainty and volatility is expected to weigh on the outlook for the Ag Machinery sector.
By region, our 2019 Ag and Turf Industry outlooks are summarized on Slide 9. Ag Industry sales in the U. S. And Canada are forecast to be
flat for
2019 with the decreasing guidance reflecting the previously mentioned uncertainty in the market. Moving to the EU 28 and the industry outlook is 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 are projected to be flat to up 5% for the year with strength in Brazil balanced by FLOMAS 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 market sorry, as key growth markets flow 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 Norwood. Brent?
Thanks, Luke. Before moving to
the 2019 agotour forecast, I'll provide an update on the first phase of our 2020 planter and sprayer earlier program. As Luke already mentioned, planting was significantly delayed this season as persistent rains kept farmers out of the field for weeks. As a result, planting 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 1 results are less indicative of the overall program since many sales may push to Phases 2 or 3. Given that context, phase 1 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 and larger planners, both driving increased equipment prices. More than ever, this season underscores the immense value of speed and precise placement of speed while planting. Anecdotally, we heard many examples of customers who were able to plant thousands of acres over a tight three day window due solely to the use of our ExactEmerge 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 1 results of our sprayer program, orders varied significantly between the U.
S. And Canada and the program's 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 weakness and trade barriers on canola. With the skew of Canadian equipment mix towards larger highly featured machines, its impact on the phase was significant. Prior volumes were also down in the U.
S, 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 1 of our early order program, driving customers to defer order activity until gaining further clarity on this year's crop.
Moving on to 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 includes a negative currency impact of about 2 points. Our full year operating margin forecast is now 10.5% to reflect the previously discussed uncertainty lingering in the U. S. As well as the broadly unfavorable market conditions in Canada.
Additionally, the negative margin impact of currency is about a point for the year. Now, let's focus on Construction and Forestry on Slide 11. Net sales of about $3,000,000,000 were up 1%, primarily due to positive price realization for the quarter, partially offset by the negative impact of currency translation. Operating profit was $378,000,000 benefiting from increased price realization and a lower impact of Wirtgen 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 and housing starts has slowed, both remain at overall support of the levels for equipment demand. Meanwhile, oil and gas activity continues at solid levels with oil prices firmly in the 50s 60s and infrastructure investments are continuing at the state and local level. Furthermore, equipment rental utilization 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 4th quarter. Moving to the C and F 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 2 months of ownership of Wirtgen. Wirtgen's 2019 sales are forecasted to be about $3,200,000,000 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 Cut to Linked products in Europe and in Russia. TNF's full year operating margin is projected to be about 11% with Wirtgen margins in line with the overall division. Let's move now to our financial services operation. 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 and Company was $175,000,000 in
the 3rd quarter. For the
full year in 2019, net income forecast is now $620,000,000 compared to previous guidance of $600,000,000 The higher forecast contemplates a lower tax rate. Slide 16 outlines receivables and inventory. For the company as a whole, receivables and inventories ended the quarter up about $1,100,000,000 In the C and F division, the Q3 increase is a result of a higher order book and production schedule, while the full year rise is largely attributable to a historically low field 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's increase is due to recent weakness in Canada and deferred retail demand into Brazil as customers anticipated the new Phenami program.
By the end of year, we forecast $100,000,000 increase in inventory and receivables. Moving to Slide 17. Cost of sales for the 3rd quarter was 77% of net sales and our 2019 guidance is about 77%, in line with 2018 results. R and D was up about 4% in the 3rd quarter and forecasted to be up 6% in 2019 or 5% when excluding Verbken. The year over year increase 2019 primarily relates to strategic investments in precision ag as well as next generation large ag products.
SA and G expense for the equipment operations was down 2 percent 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 3rd quarter included a $24,000,000 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% 25%.
Slide 19 shows our equipment operations issued strong cash flow. Cash flow from the equipment operations is now forecast to be about $3,400,000,000 in 2019. The reduced guidance reflects a potential $300,000,000 voluntary contribution to our OPEB plan. Company's financial outlook is on Slide 20. Our full year outlook now calls for net sales to be up about 4%, which includes about 3 points of price realization and 1 point related to an additional 2 months of Wirtgen ownership.
On the negative side, we expect currency to be about a 2 point headwind for the full year. Finally, our full year 2019 net income is now forecast to be $3,200,000,000 I will now turn the call over to Ryan Campbell for closing comments. Ryan? 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. Like near term fluctuations in end markets, our use of cash priorities remain the same. We continue to generate strong cash flow throughout the cycle. Importantly, our capital allocation decisions continue to first support our A rating, while also ensuring that we effectively fund operating and growth needs. Next, we'll maintain a dividend payout ratio that targets 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 2 years and that further increases will be under consideration as we demonstrate progress to our increased profitability goals. Lastly, during the quarter, we repurchased $400,000,000 of stock and we'll continue to buy when we can create value for long term shareholders.
Now regarding our financial performance, 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 Wirtgen acquisition. Additionally, we increased our infrastructure spending to 2017, momentum had 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 has since deteriorated, not only due to uncertainty over market access, but also due to weather and the demand impact of African swine fever. As these challenges persist, are now beginning more aggressive action on our cost structure to create a more efficient and nimble organization.
These actions, which will involve organizational efficiency, a footprint assessment and an increased focus on investments with the most opportunity for differentiation are in support of our aspiration to achieve 15% structural operating profits by 2022 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 you on the following 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. Our first question comes from Rob Wertheimer with Melius Research. Your line is open.
Hey, it's Rob. Can you hear me?
Yes. We can hear you, Rob.
Sorry about that. I hit the wrong 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 pulse on innovation. So could you talk about the next really 2 or 3 years on R
and D? I mean, are
you seeing more and more projects that can generate a good return for you and therefore maybe keep that spend high and the cuts are in other areas or maybe just balance that aspect? Thanks.
Yes. Thanks, Rob. This is Josh. I'll start. I think as we think about this and as Ryan noted, we'll see continued focus on those things that we think drive the most differentiation and most value creation for our customers.
And you've really seen some of that over the last few years as we've been investing in things like BlueRiver Technology and whether it's ExactEmerge or ExactApply, which Brent mentioned earlier or things like Combine Advisors. So I think the ability to focus and prioritize there will be a key candidate of how we operate going forward. And Rob, this is Ryan. We've made significant investments in the building blocks to be able 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 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 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. We'll 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. Good morning, Doug. Josh, last quarter you guys talked about potentially taking production down about 20% in some of the larger facilities. Can you just kind of recalibrate us where you're at, kind of where Q3 was and then what you're thinking for Q4 relative to Q3? Thanks.
Yes. And maybe just to kind of clear up, I think that was probably not clear 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 continue to expect that we will produce less than we did in 2018 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 under produce retail demand for large tractors in North America by a mid single digit.
So, no significant change to where we were a quarter ago, but that continues to be our expectation.
All right. Thank you, Seth. 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. Good morning, everyone. 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 and costs shook out this quarter compared to what we had seen earlier this year?
From a supply base perspective, we've definitely seen the challenges, the disruptions, delinquencies have come down significantly. We're better and better shape there, so operating more effectively and efficiently. I think you've seen as it relates to premium freight, we talked about some acute issues we had seen on small tractors. As we had noted, we expect those to carry into the Q3, which they did, but they've abated and we don't do not expect to see those as we go forward. So I think by and large the situation much improved.
As you think about cost savings moving forward, I think the opportunities there are as we move from getting parts in, which was a significant challenge as we ramped in 2018 into early 2019, really shift to how can we spend more time on structural material cost reduction, which we typically have over time. Thanks, Jerry. We'll 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. Just based on what you guys said about, I guess 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 in 2020 to produce in line with retail demand given the underproduction in the back half
of the year? And then
I guess my second question, And then I guess my second question, just while the numbers on construction were obviously good this quarter and it sounds like you have good visibility, but there are some concerns that there's 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 talked I just mentioned the mid single digit under production for large tractors. I think what we expect is particularly in the U. S.
That what were the actions we're taking would allow us to produce to retail demand. Canada has noted there's a little more weakness there. So that's a spot that we need to work through further. So that one may be a bit take a bit longer. But in the U.
S, we would say we're positioned to do so. As you think about where we're at from a field inventory perspective in construction, as Brent mentioned, we still got on average a couple of months of order coverage, which is really in line with where we traditionally run. So those replenishment times have shortened and that's we say that's a positive thing, which also helps in our ability to react to changing market dynamics. So we still intend to build field inventory during the year as we've talked about coming off of historical lows. But that the ability to be quicker on our replenishment allows us to be adjusting more quickly as needed.
So we'll continue to watch that market and make changes while we go forward. So thank you. We'll 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 see as the biggest changes that are driving the $100,000,000 net income guidance reduction? And then I think your sales guidance suggests Q4 sales growth year over year, both in ag and construction. And can you talk about kind of what would be driving actual growth in the Q4?
Yes. So, and we think about ag in the 4th quarter, really the biggest impact there is in South America and Brazil in particular. As we see some growth in that market, particularly as we start to prepare for 1Q, so spring season in Brazil in 1Q. There's a little bit of 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 3Q and a little bit weaker 4Q. In 2019, it's a little bit flatter.
So those two areas and then there is a little bit of impact as you think about cash receipts improving and some MFP payments that Luke talked about, where we could see some incremental demand. We don't think that's large by any means, but could be beneficial. On the C and F side, it's I'd say it's more we've got the build in inventory we expected to see and then a plan for throughout the year that drives the up from a Q4 perspective there. And this is Ryan. When you're thinking about the guide down by $100,000,000 there's some volume in there 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 3% price realization. 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 Ann Duignan with JPMorgan. Your line is open.
Yes. Hi. You noted higher losses on your operating lease residuals in the quarter and also other assets on the balance sheet on the Finko rose 33% year over year, suggesting that more used equipment is being returned onto your books. In the meantime, you're talking about 3% pricing on new even vice versa, they're willing to pay for technology on the used market, but even vice versa, they're willing to pay for technology on the used market, but that's just cannibalizing used values on equipment that doesn't have technology? I mean, what's going on there?
And are we really talking about a 3% gross price if you take in the losses on operating residuals into account?
Yes. So I think I mean, as you think about used values in particular for large ag, we are seeing them being pretty stable. And I think maybe importantly, good condition late model year are actually fetching a premium. And there continues to be a demand for technology whether it's new as we mentioned on the EOPs we're seeing strong adoption. And I think what we're seeing and we're hearing this directly from customers is technology impact is most important as you're going through challenging conditions.
So the willingness to invest in technology certainly is there. We're seeing the benefits as we deal with shorter windows to execute jobs in the field. And that's present, I'd say, both on new and used. So I think that's there's not a lot of differentiation there between those 2. Yes.
And as you think about your initial comment on the operating lease losses noted in the quarter, So as you think about when we get lease returns that come back through John Deere Financial, we remarket those back to our dealer channel. So certainly, the uncertainty we're seeing from a customer perspective is impacting the environment right now. And we've as we have in the past have decided to move some aged inventory in order to not carry that for another to another youth season. And as a result of that, we've seen some pressure on recovery rates, and that's what was reflected here in the quarter. I guess as we go forward, we continue to be really mindful of what's 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 months. So, we'll continue managing that and 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.
Thanks a lot. Good morning, everybody. My question is really the pathway from where you seem to be guiding margins in 2019 somewhere in the low to mid-nine percent range to the goal to be at 15% mid cycle operating margins by 2022. 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 have looked like?
I guess I'm just trying to understand that over the next couple of years, should we expect a pretty healthy margin snapback in 2020 absent those headwinds or is the GAAP closure to goal that 15% more weighted to 2021?
Yes. 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 are a little more than a 0.5 of margin drag in 2019. So that is a significant component there.
And then as we've talked about, quite a bit of the material and the premium freight has been a drag as well on margins. I think as we look forward and as we've talked about in the past, in the Q4, we expect material to improve and be favorable. Similarly, in response to Jerry's question, we don't expect to see the heightened level of premium freight that we have for the 1st 3 months of the year. So those are all things that we would expect to see improvement. And then to Ryan's comments, as we move forward, we're continuing to look to take actions to deliver improved margins.
Yes. So cost reduction is we go forward through 2022. The other things remain the same that we are accelerating and feel really good about is adoption of precision ag and what we can do from a differentiated value perspective for our customers, our ability to grow our aftermarket parts and services business and then successful integration of Birkin. All of those things are the recipe to get us from where we are today to the aspirational target of that 15% in 2022. Thanks, Andy.
We'll 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 out to September, which would be roughly 4 months. And now you kind of it seems like talking about 4Q mostly covered, which would sort of imply roughly 2 months be consistent with sort of the uncertainty commentary.
But I just wanted to clarify if that's the right way to think about it.
Yes. So the mostly covered was in reference actually to Construction and Forestry where we've got about 2 months on average there 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've got further coverage there, again, albeit on a lower schedule, but we've got, I think, pretty similar visibility to what we did a quarter ago. Thank you.
We'll go ahead 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.
Josh, how do
you think about the divergent trends that you're seeing in the EOP so far and maybe 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 sprayers 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 Brent mentioned, as EOP started in June, historically, when we started June, that's because planting season is over. So with that backdrop planting occurring well into June, we think the first phase may not be as good of an indicator of what to expect in the year to come as it would in the past because of the level of uncertainty there. Sprayers really tail of 2 markets as Brent mentioned, Canada down more significantly and that's impactful because of the high level of technology as well as just size of machines you see in Canada that are typically ordered there.
So that's been impactful. The U. S. Maybe one dynamic that's a little bit different for the U. S.
Even though we're down double digits, but feel a little bit better there is ag service providers make up nearly a third of the industry. And they've delayed Precision's obviously not doing really any spraying or much spraying at all in May and limited amounts in June. So anecdotally, I think the conversations there said they've deferred and delayed some of their CapEx decisions until we get a little bit deeper into the season. So I think that's been that's kind of played out over time. So we'll continue to see what Phase 2 looks like for those programs.
But I think the positive news is customers' willingness to invest in technology where they can see value and positive outcomes. And in addition to that, you look at what we saw on ExactoMerge growth, growth in our take rates there, similar on ExactoPLY, continued progress. As it relates to combine, still really early. We're 2 weeks in, so we'll continue to monitor that and provide some insight as we get to the Q4. That program kicked off in the 1st part of this month and runs through January.
So we'll see how that evolves as we go forward. Thanks, Joe. We'll go ahead 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 1 quarter to go, when you target year end inventory and receivables, it's making a statement about the next year's assumed 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?
If you think about ag
and turf in particular, I'd say the 2 things that really impact where we're ending and 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 and receivables. And then the other piece would be Brazil. And as we look forward to the Q1 in that market and the expectations there, given some of the factors Luke mentioned in terms of strong margins, really strong crop, that we expect translates to some positive end market changes there. Thanks, David.
We'll go to our next question.
Our next question comes from Steven Volkmann with Jefferies. Your line is open.
Hi, good morning, guys. So my question is around pricing and 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 ExactEmerge and sort of the value there is not in the 3% if I'm not mistaken. And I'm just curious, 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 added on. So that's fair. So those kind of things would show up in mix and not in our price realization. So that's 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 been able to deliver value to the customers, understanding the agronomic inputs and outcomes that we're able to deliver. And I think we had a number of customers talk about it. The ability with ExactEmerge, for example, to plant 3,000 acres in 3 days and the only 3 days of good weather they had, that's a really big advantage to be able to have that and execute that. And that's the difference can be the difference between getting a crop at all versus not. As you think about going forward, we've averaged over the last decade on our equipment operations about 2.5 points of price.
And as we look forward, I think we've been higher this year than that average. We'll probably get closer to that average as we step forward. What I'd say, I mean, as we think about the total value of our production system with respect to the equipment, the technology and the service and support that our dealer network can provide, us feel comfortable that there's some significant incremental value that we can continually add for our customers. And so that's how we think about pricing. As Josh said, something new comes out, it doesn't come into pricing, but updates or year over year comparisons to things that have already been out, that does come into pricing.
But that overall total value that we can bring with the product, the technology and the service and support that our dealers can provide give us comfort that our pricing is well within bounds. And as Josh indicated, it's within our historical ranges. Thank you. We'll 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. 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 line? And then also just like the timeframe to enact and then 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 BP channel inventory and how you're thinking about production versus retail demand?
Yes, this is Ryan. So on the cost side, we're not ready to provide that level of detail. What I would say is, as we've taken targeted actions already in the Q3, we've got some contemplated in the Q4. The total of those are relatively small at this point. They would total about $25,000,000 in cost.
We're prepared to provide an update with our Q4 earnings call as we give our 2020 outlook and what those might mean to 2020 and going forward. What I just say is an acknowledgment that cost reduction is going to be just a larger component of our path from today's margins to the 15% aspirational margins that we have at mid cycle in 2022. And maybe just to follow on relative to small tractor inventory. I think broadly, I think we feel good about and comfortable with where we're at from an inventory level and we're pretty much kind of aligned or in line with where the industry is and we continue to see strong end market demand there really driven by general economic conditions in the U. S.
In particular. Thank you. We'll go ahead and go to our next question.
Our next question comes from Mig Dobre with Baird. Your line is open.
Yes. Thank you. Good morning. And just to follow-up on that, can you help me understand if the cost actions that you're talking about are sort of driven by the changes in the end markets, expected production volumes, etcetera, or if this is more structural in nature, longer term planned? And maybe the second part of my question is on Wirtgen.
I love an update there and maybe your view on margin here because it seems to me like your outlook for margins has ticked down. And I'm wondering how we should be thinking about this business forward? Thanks.
Thanks, Mig. I'll start on Wirtgen. Yes, so I mean, if you think about Wirtgen overall, really strong Q3, which we expected, we've talked about that. So essentially, about 16% margin. And if you kind of take out purchase accounting last year, that's actually similar margins on a slightly lower sales level.
So feel good about the way that business has performed. Margins did come in some for the full year, really driven by changes in mix in their business as you've seen some shifts as well as underproduction on a couple of their brands as we align order fulfillment strategies as part our integration. So as we are going to under produce and are under producing to some extent this year that is is impacting their margins. But we think that's the right thing to do to position ourselves for going forward there. So I mean in summary on Wirtgen strong margin performance in the quarter, continue to feel really good about that business, confidence in the €125,000,000 of synergies, and we'll continue marching down that path and provide updates as we go.
Yes. On the cost reduction side, the plans 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 our Q4 earnings call for that. Thank you, Mig. We'll go to our next question.
Our next question comes from Courtney Yakavana from Morgan Stanley. Your line is open.
Hi, good morning guys. Just a quick clarification on the $25,000,000 that you talked about being out of the 3rd Q4. Is that a run rate and is that currently embedded in the 100,000,000 dollars guidance reduction? And then secondly, when you talked about early orders, you talked about them being flat in units up because of precision ag. Can you give us any more granularity on whether the uptake of things like ExactEmerge are continuing to see a step function higher?
Or is it roughly at the same 35% level and just grinding incrementally higher? Thanks.
Yes. On the EOP side, we saw that move from kind of that a third of planters going with exact emerge up to around 40%. And not just ExactEmerge, but we're also seeing just larger planters. So you think about with bigger planters and more highly featured, both of those things are contributing to that value being up as Brent noted. Yes.
On the cost side, those are one time costs. I wouldn't conclude that that's a run rate and it is embedded in the $100,000,000 reduction in guidance that we've had. Thanks, Courtney. We'll go ahead 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 USDA report this 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 MFP cash to buy equipment in your fiscal Q4, so I'm guessing not, so maybe it plays out over time.
And secondly, where do you guys stand on planted acreage and yields now? I don't know if you differ from where your expectations are? Thank you.
Yes. So, maybe I'll start with the fundamental part of the question with regard to planted acreage and yield. And obviously, what the USDA released on Monday surprised the market, particularly on the corn. I'd say more harvested area than planted and certainly the yield. So the limit down moving in corn prices caught a lot of people by surprise.
So that's kind of what we have at the moment to work with. 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 the delayed plantings. There's a lot of variability in crop progress from the western side of the Corn Belt where it's looking a lot better across to the eastern side where there's a lot more variability. Obviously, the later planning development opens up windows for early frosts and those sorts of things.
And certainly, history shows us that final yield numbers can vary relatively significantly from this August estimate. So the methodology that the USDA uses changes as we go through the crop season and as we get into harvest and get some actual harvest data, we might see that changing as we go forward. So, we'll be obviously watching that closely and that will be important in terms of what it means for final production and that crucial ending stocks number.
And I think Larry, when you think about kind of the MFP impact, certainly very I mean farmer to farmer you get very different situations in terms of the size and health of their crop, whether or not they marketed grain in May, June as prices ran up. So there's a lot of dynamics I think that will impact if and when they use some of that from a cash receipt perspective.
Yes. I guess just to add on to that Josh like that the MSP has really been a shot in the arm for U. S. Farmers. When you think about the cash receipts that provides a boost for 2019, so it lifts it to its highest level since 2014.
And it certainly helps given some of the issues that we've got with trade uncertainties and the impact that we've seen this week on commodity prices. So some of them will have been able to benefit from marketing old crop stocks at what were some of the highest prices we've had in 5 years earlier in the year. They've been able to market forward at higher prices as well. And obviously, we'll wait to see what it means for equipment demand given the uncertain conditions we have.
Thanks, Larry. We'll go to our next question.
Our next question comes from David Raso with Evercore ISI. Your line is open.
Hi, thank you. If you addressed it, I apologize, I missed it. Your implied construction equipment margins for the Q4, I mean on a year over year basis, it looks like a pretty solid decline despite sales are up. And if I missed something that explains why the margin performance would also erode like that. My apologies, but can you explain why that's the case?
Yes. You're saying in the Q4?
Yes. The margin guide for the full year is 11%, I believe, correct? So that implies, I don't know 9.6% or something of that nature for the Q4. And that'd be down year over year despite sales up 6%? And just given it's been having a pretty strong run of margins, I wasn't sure if something was changing on incentives for dealers or mix or something I'm missing?
Yes. David, it's Ryan. I think mix is a component of that. The other aspect of that is construction has a different material commodity footprint. And so overall benefit that we're projecting to see in the Q4 on material costs, part of that is positive in ag.
Construction is still not yet seeing that benefit. The other thing is pricing our pricing comparison gets a little bit tougher. There were some actions that we took in the Q4 of last year that improved our pricing. So the comparison gets a little bit tougher in the Q4 for construction. Those are really the puts and takes associated with margin performance that we're projecting for the Q4 in construction.
Thank you.
Thanks, David. Okay, we'll take one more question.
Our last 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 we can expand conceptually on the cost reduction opportunity and the buckets of savings because as we look at the manufacturing footprint that you folks have pretty streamlined already, big tooling upgrade on the Tier 4 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 in a bit more context, if you don't mind?
Obviously, we'll get more detailed numbers next quarter as you mentioned, but any qualitative comments would be helpful.
Yes. So I think Ryan 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, I think there we are single source for a lot of our products on a global basis. So we feel good about our capacity. So it starts to look at how do we make sure we're focused and prioritize on those things that add most value for our customers.
And then those are going to be the 2 most important areas. Yes. Jerry, it's right. We're not ready to break out those buckets, although it's all three that we're going to focus on. And Q4, we'll provide an update on where we are, what it means to 2020 and kind of our view towards margin improvement all the way up to 2022 to hit our aspirational targets.
Well, thank you, Jerry. 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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