UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
For the fiscal year ended December 31, 2018
of
AGCO CORPORATION
A Delaware Corporation
IRS Employer Identification No. 58-1960019
SEC File Number 1-12930
4205 River Green Parkway
Duluth, GA 30096
(770) 813-9200
AGCO Corporation’s Common Stock is registered pursuant to Section 12(b) of the Act and is listed on the New York Stock Exchange.
AGCO Corporation is a well-known seasoned issuer.
AGCO Corporation is required to file reports pursuant to Section 13 or Section 15(d) of the Act. AGCO Corporation (1) has filed all reports required to be filed by Section 13 or 15(d) of the Act during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days.
Disclosure of delinquent filers pursuant to Item 405 of Regulation S-K will not be contained in a definitive proxy statement, portions of which are incorporated by reference into Part III of this Form 10-K.
AGCO Corporation has submitted electronically every Interactive Data File for the periods required to be submitted pursuant to Rule 405 of Regulation S-T.
The aggregate market value of AGCO Corporation’s Common Stock (based upon the closing sales price quoted on the New York Stock Exchange) held by non-affiliates as of June 30, 2018 was approximately $4.0 billion. For this purpose, directors and officers and the entities that they control have been assumed to be affiliates. As of February 22, 2019, 76,512,465 shares of AGCO Corporation’s Common Stock were outstanding.
AGCO Corporation is a large accelerated filer and is not a shell company.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of AGCO Corporation’s Proxy Statement for the 2019 Annual Meeting of Stockholders are incorporated by reference into Part III of this Form 10-K.
TABLE OF CONTENTS | |
PART I
Item 1. Business
AGCO Corporation (“AGCO,” “we,” “us,” or the “Company”) was incorporated in Delaware in April 1991. Our executive offices are located at 4205 River Green Parkway, Duluth, Georgia 30096, and our telephone number is (770) 813-9200. Unless otherwise indicated, all references in this Form 10-K to the Company include our subsidiaries.
General
We are a leading manufacturer and distributor of agricultural equipment and related replacement parts throughout the world. We sell a full range of agricultural equipment, including tractors, combines, self-propelled sprayers, hay tools, forage equipment, seeding and tillage equipment, implements, and grain storage and protein production systems. Our products are widely recognized in the agricultural equipment industry and are marketed under a number of well-known brands, including Challenger®, Fendt®, GSI®, Massey Ferguson® and Valtra®. We distribute most of our products through approximately 4,050 independent dealers and distributors in approximately 140 countries. In addition, we also provide retail and wholesale financing through our finance joint ventures with Coöperatieve Centrale Raiffeisen-Boerenleenbank B.A., which we refer to as “Rabobank.”
Products
The following table sets forth a description of the Company’s products and their percentage of net sales:
Percentage of Net Sales | |||||||||||
Product | Product Description | 2018(1) | 2017 | 2016 | |||||||
Tractors | • | High horsepower tractors (100 to 650 horsepower); typically used on large acreage farms, primarily for row crop production, soil cultivation, planting, land leveling, seeding and commercial hay operations. | 57 | % | 57 | % | 57 | % | |||
• | Utility tractors (40 to 100 horsepower); typically used on small- and medium-sized farms and in specialty agricultural industries, including dairy, livestock, orchards and vineyards | ||||||||||
• | Compact tractors (under 40 horsepower); typically used on small farms and specialty agricultural industries, as well as for landscaping, equestrian and residential uses | ||||||||||
Replacement Parts | • | Replacement parts for all of the products we sell, including products no longer in production. Most of our products can be economically maintained with parts and service for a period of ten to 20 years. Our parts inventories are maintained and distributed through a network of master and regional warehouses throughout North America, South America, Europe, Africa, China and Australia in order to provide timely response to customer demand for replacement parts | 14 | % | 16 | % | 16 | % | |||
Grain Storage and Protein Production Systems | • | Grain storage bins and related drying and handling equipment systems; seed-processing systems; swine and poultry feed storage and delivery, ventilation and watering systems; and egg production systems and broiler production equipment | 10 | % | 13 | % | 12 | % | |||
Hay Tools and Forage Equipment, Implements & Other Equipment | • | Round and rectangular balers, loader wagons, self-propelled windrowers, forage harvesters, disc mowers, spreaders, rakes, tedders, and mower conditioners; used for the harvesting and packaging of vegetative feeds used in the cattle, dairy, horse and renewable fuel industries | 12 | % | 7 | % | 7 | % | |||
• | Implements, including disc harrows, which cut through crop residue, leveling seed beds and mixing chemicals with the soils; heavy tillage, which break up soil and mix crop residue into topsoil, with or without prior discing; field cultivators, which prepare a smooth seed bed and destroy weeds; and drills, which are primarily used for small grain seeding | ||||||||||
• | Planters and other planting equipment; used to plant seeds and apply fertilizer in the field, typically used for row crops | ||||||||||
• | Other equipment, including loaders; used for a variety of tasks, including lifting and transporting hay crops | ||||||||||
Combines | • | Combines, sold with a variety of threshing technologies and complemented by a variety of crop-harvesting heads; typically used in harvesting grain crops such as corn, wheat, soybeans and rice | 3 | % | 4 | % | 4 | % | |||
Application Equipment | • | Self-propelled, three- and four-wheeled vehicles and related equipment; for use in the application of liquid and dry fertilizers and crop protection chemicals both prior to planting crops (“pre-emergence”) and after crops emerge from the ground (“post-emergence”) | 3 | % | 3 | % | 4 | % | |||
____________________________________
(1) The summation of these individual percentages does not total due to rounding.
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Marketing and Distribution
We distribute products primarily through a network of independent dealers and distributors. Our dealers are responsible for retail sales of equipment to end users and after-sales service and support. Our distributors may sell our products through networks of dealers supported by the distributors, and our distributors also may directly market our products and provide customer service support. Our sales are not dependent on any specific dealer, distributor or group of dealers.
In some countries, we utilize associates and licensees to provide a distribution channel for our products and a source of low-cost production for certain Massey Ferguson and Valtra products. Associates are entities in which we have an ownership interest, most notably in India. Licensees are entities in which we have no ownership interest. The associate or licensee generally has the exclusive right to produce and sell Massey Ferguson or Valtra equipment in its licensed territory under such tradenames, but may not sell these products outside the licensed territory. We generally license certain technology to these licensees and associates, and we may sell them certain components used in local manufacturing operations.
Independent Dealers and Distributors | Percent of Net Sales | ||||||||||
Geographical region | 2018 | 2018(1) | 2017 | 2016 | |||||||
Europe | 1,500 | 57 | % | 53 | % | 53 | % | ||||
North America | 1,875 | 23 | % | 23 | % | 24 | % | ||||
South America | 250 | 10 | % | 13 | % | 12 | % | ||||
Rest of World (2) | 425 | 9 | % | 11 | % | 11 | % | ||||
____________________________________
(1) The summation of these individual percentages does not total due to rounding.
(2) Consists of approximately 57 countries in Africa, the Middle East, Australia and Asia.
Dealer Support and Supervision
We believe that one of the most important criteria affecting a farmer’s decision to purchase a particular brand of equipment is the quality of the dealer who sells and services the equipment. We support our dealers in order to improve the quality of our dealer network. We monitor each dealer’s performance and profitability and establish programs that focus on continuous dealer improvement. Our dealers generally have sales territories for which they are responsible.
We believe that our ability to offer our dealers a full product line of agricultural equipment and related replacement parts, as well as our ongoing dealer training and support programs focusing on business and inventory management, sales, marketing, warranty and servicing matters and products, help ensure the vitality and increase the competitiveness of our dealer network. We also maintain dealer advisory groups to obtain dealer feedback on our operations.
We provide our dealers with volume sales incentives, demonstration programs and other advertising support to assist sales. We design our sales programs, including retail financing incentives, and our policies for maintaining parts and service availability with extensive product warranties, to enhance our dealers’ competitive position.
Manufacturing and Suppliers
Manufacturing and Assembly
We manufacture and assemble our products in 48 locations worldwide, including six locations where we operate joint ventures. Our locations are intended to optimize capacity, technology or local costs. Furthermore, we continue to balance our manufacturing resources with externally-sourced machinery, components and/or replacement parts to enable us to better control costs, inventory levels and our supply of components. We believe that our manufacturing facilities are sufficient to meet our needs for the foreseeable future. Please refer to Item 2, “Properties,” where a listing of our principal manufacturing locations is presented.
Our AGCO Power engines division produces diesel engines, gears and generating sets. The diesel engines are manufactured for use in a portion of our tractors, combines and sprayers, and also are sold to third parties. AGCO Power specializes in the manufacturing of off-road engines in the 75 to 600 horsepower range.
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Third-Party Suppliers
We externally source some of our machinery, components and replacement parts from third-party suppliers. Our production strategy is intended to optimize our research and development and capital investment requirements and to allow us greater flexibility to respond to changes in market conditions.
We purchase some fully-manufactured tractors from Tractors and Farm Equipment Limited (“TAFE”), Carraro S.p.A. and Iseki & Company, Limited. We also purchase other tractors, implements and hay and forage equipment from various third-party suppliers. Refer to “Related Parties” within Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” for further discussion of our relationship with TAFE.
In addition to the purchase of machinery, third-party suppliers supply us with significant components used in our manufacturing operations. We select third-party suppliers that we believe are low cost, high quality and possess the most appropriate technology.
We also assist in the development of these products or component parts based upon our own design requirements. Our past experience with outside suppliers generally has been favorable.
Seasonality
Generally, retail sales by dealers to farmers are highly seasonal and are a function of the timing of the planting and harvesting seasons. To the extent practicable, we attempt to ship products to our dealers and distributors on a level basis throughout the year to reduce the effect of seasonal retail demands on our manufacturing operations and to minimize our investment in inventory. Our financing requirements are subject to variations due to seasonal changes in working capital levels, which typically increase in the first half of the year and then decrease in the second half of the year. The fourth quarter is also typically a period for higher retail sales because of our customers’ year-end tax planning considerations, the increase in the availability of funds from completed harvests and the timing of dealer incentives.
Competition
The agricultural industry is highly competitive. We compete with several large national and international full-line suppliers, as well as numerous short-line and specialty manufacturers with differing manufacturing and marketing methods. Our two principal competitors on a worldwide basis are Deere & Company and CNH Industrial N.V. We have regional competitors around the world that have significant market share in a single country or a group of countries.
We believe several key factors influence a buyer’s choice of farm equipment, including the strength and quality of a company’s dealers, the quality and pricing of products, dealer or brand loyalty, product availability, terms of financing and customer service. See “Marketing and Distribution” for additional information.
Engineering and Research
We make significant expenditures for engineering and applied research to improve the quality and performance of our products, to develop new products and to comply with government safety and engine emissions regulations.
In addition, we also offer a variety of precision farming technologies that provide farmers with the capability to enhance productivity and profitability on the farm. These technologies are installed in our products and include satellite-based steering, field data collection, yield mapping and telemetry-based fleet management systems.
Wholesale Financing
Primarily in the United States and Canada, we engage in the standard industry practice of providing dealers with floor plan payment terms for their inventories of farm equipment for extended periods, generally through our AGCO Finance joint ventures. The terms of our wholesale finance agreements with our dealers vary by region and product line, with fixed payment schedules on all sales, generally ranging from one to 12 months. In the United States and Canada, dealers typically are not required to make an initial down payment, and our terms allow for an interest-free period generally ranging from one to 12 months, depending on the product. Amounts due from sales to dealers in the United States and Canada are immediately due upon a retail sale of the underlying equipment by the dealer, with the exception of sales of grain storage and protein production systems, as discussed further below. If not previously paid by the dealer, installment payments generally are required beginning after the interest-free period with the remaining outstanding equipment balance generally due within 12 months after shipment.
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In limited circumstances, we provide sales terms, and in some cases, interest-free periods that are longer than 12 months for certain products. These typically are specified programs, predominantly in the United States and Canada, where interest is charged after a period of up to 24 months, depending on the year of the sale and the dealer or distributor ordering or their sales volume during the preceding year. We also provide financing to dealers on used equipment accepted in trade. We generally obtain a security interest in the new and used equipment we finance.
Typically, sales terms outside the United States and Canada are of a shorter duration, generally ranging from 30 to 180 days. In many cases, we retain a security interest in the equipment sold on extended terms. In certain international markets, our sales are generally backed by letters of credit or credit insurance.
Sales of grain storage and protein production systems both in the United States and in other countries generally are payable within 30 days of shipment. In certain countries, sales of such systems for which the Company is responsible for construction or installation may be contingent upon customer acceptance. Payment terms vary by market and product, with fixed payment schedules on all sales.
We have an agreement to permit transferring, on an ongoing basis, a majority of our wholesale receivables in North America, Europe and Brazil to our AGCO Finance joint ventures in the United States, Canada, Europe and Brazil. Upon transfer, the wholesale receivables maintain standard payment terms, including required regular principal payments on amounts outstanding and interest charges at market rates. Qualified dealers may obtain additional financing through our U.S., Canadian, European and Brazilian finance joint ventures at the joint ventures’ discretion. In addition, AGCO Finance joint ventures may provide wholesale financing directly to dealers in Europe, Brazil and Australia.
Retail Financing
Our AGCO Finance joint ventures offer financing to most of the end users of our products. Besides contributing to our overall profitability, the AGCO Finance joint ventures can enhance our sales efforts by tailoring retail finance programs to prevailing market conditions. Our finance joint ventures are located in the United States, Canada, Europe, Brazil, Argentina and Australia and are owned by AGCO and by a wholly-owned subsidiary of Rabobank. Refer to “Finance Joint Ventures” within Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” for further information.
In addition, Rabobank is the primary lender with respect to our credit facility and our senior term loan, as are more fully described in “Liquidity and Capital Resources” within Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Our historical relationship with Rabobank has been strong, and we anticipate its continued long-term support of our business.
Intellectual Property
We own and have licenses to the rights under a number of domestic and foreign patents, trademarks, trade names and brand names relating to our products and businesses. We defend our patent, trademark and trade and brand name rights primarily by monitoring competitors’ machines and industry publications and conducting other investigative work. We consider our intellectual property rights, including our right to use our trade and brand names, important in the operation of our businesses. However, we do not believe we are dependent on any single patent, trademark, trade name, brand name or group of patents or trademarks, trade names or brand names. We intend to maintain the separate strengths and identities of our core brand names and product lines.
Environmental Matters and Regulation
We are subject to environmental laws and regulations concerning emissions to the air, discharges of processed or other types of wastewater, and the generation, handling, storage, transportation, treatment and disposal of waste materials. These laws and regulations are constantly changing, and the effects that they may have on us in the future are impossible to predict with accuracy. It is our policy to comply with all applicable environmental, health and safety laws and regulations, and we believe that any expense or liability we may incur in connection with any noncompliance with any law or regulation or the cleanup of any of our properties will not have a materially adverse effect on us.
The engines manufactured by our AGCO Power engine division, which specializes in the manufacturing of non-road engines in the 75 to 600 horsepower range, currently comply with emissions standards and related requirements set by European, Brazilian and U.S. regulatory authorities, including both the United States Environmental Protection Agency and various state authorities. We expect to meet future emissions requirements through the introduction of new technology to our engines and exhaust after-treatment systems, as necessary. In some markets (such as the United States), we must obtain
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governmental environmental approvals in order to import our products, and these approvals can be difficult or time-consuming to obtain or may not be obtainable at all. For example, our AGCO Power engine division and our engine suppliers are subject to air quality standards, and production at our facilities could be impaired if AGCO Power and these suppliers are unable to timely respond to any changes in environmental laws and regulations affecting engine emissions, including the emissions of greenhouse gases ("GHG"). Compliance with environmental and safety regulations has added, and will continue to add, to the cost of our products and increase the capital-intensive nature of our business.
Climate change, as a result of emissions of GHG, is a significant topic of discussion and may generate U.S. and other regulatory responses. It is impracticable to predict with any certainty the impact on our business of climate change or the regulatory responses to it, although we recognize that they could be significant. The most direct impacts are likely to be an increase in energy costs, which would increase our operating costs (through increased utility and transportation costs) and an increase in the costs of the products we purchase from others. In addition, increased energy costs for our customers could impact demand for our equipment. It is too soon for us to predict with any certainty the ultimate impact of additional regulation, either directionally or quantitatively, on our overall business, results of operations or financial condition.
Regulation and Government Policy
Domestic and foreign political developments and government regulations and policies directly affect the agricultural industry and indirectly affect the agricultural equipment business in the United States and abroad. The application, modification or adoption of laws, regulations or policies could have an adverse effect on our business.
We have manufacturing facilities or other physical presence in approximately 32 countries and sell our products in approximately 140 countries. This subjects us to a range of trade, product, foreign exchange, employment, tax and other laws and regulations, in addition to the environmental regulations discussed previously, in a significant number of jurisdictions. Many jurisdictions and a variety of laws regulate the contractual relationships with our dealers. These laws impose substantive standards on the relationships between us and our dealers, including events of default, grounds for termination, non-renewal of dealer contracts and equipment repurchase requirements. Such laws could adversely affect our ability to terminate our dealers.
In addition, each of the jurisdictions within which we operate or sell products has an important interest in the success of its agricultural industry and the consistency of the availability of reasonably priced food sources. These interests result in active political involvement in the agricultural industry, which, in turn, can impact our business in a variety of ways.
Employees
As of December 31, 2018, we employed approximately 21,200 employees, including approximately 4,700 employees in the United States and Canada. A majority of our employees at our manufacturing facilities, both domestic and international, are represented by collective bargaining agreements and union contracts with terms that expire on varying dates. We currently do not expect any significant difficulties in renewing these agreements.
Available Information
Our Internet address is www.agcocorp.com. We make the following reports filed by us available, free of charge, on our website under the heading “SEC Filings” in our website’s “Investors” section:
• | annual reports on Form 10-K; |
• | quarterly reports on Form 10-Q; |
• | current reports on Form 8-K; |
• | proxy statements for the annual meetings of stockholders; |
• | reports on Form SD; and |
• | Forms 3, 4 and 5 |
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These reports are made available on our website as soon as practicable after they are filed with the Securities and Exchange Commission (“SEC”). The SEC also maintains a website (www.sec.gov) that contains our reports and other information filed with the SEC.
We also provide corporate governance and other information on our website. This information includes:
• | charters for the standing committees of our board of directors, which are available under the heading “Charters of the Committees of the Board” in the “Governance, Committees, & Charters” section of the “Corporate Governance” section of our website located under “Investors,” and |
• | our Global Code of Conduct, which is available under the heading “Global Code of Conduct” in the “Corporate Governance” section of our website located under “Investors.” |
In addition, in the event of any waivers of our Global Code of Conduct, those waivers will be available under the heading “Corporate Governance” of our website. None of these materials, including the other materials available on our website, is incorporated by reference into this Form 10-K unless expressly provided.
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Item 1A. Risk Factors
We make forward-looking statements in this report, in other materials we file with the SEC or otherwise release to the public and on our website. In addition, our senior management makes forward-looking statements orally to analysts, investors, the media and others. Statements, including the statements contained in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” concerning our future operations, prospects, strategies, products, manufacturing facilities, legal proceedings, financial condition, financial performance (including growth and earnings) and demand for our products and services, and other statements of our plans, beliefs or expectations, net sales, industry conditions, currency translation impacts, market demand, farm incomes, weather conditions, commodity prices, general economic conditions, availability of financing, working capital, capital expenditures, debt service requirements, margins, production volumes, cost reduction initiatives, investments in product development, compliance with financial covenants, support from lenders, recovery of amounts under guarantee, uncertain income tax provisions, funding of our pension and postretirement benefit plans, or realization of net deferred tax assets, are forward-looking statements. The forward-looking statements we make are not guarantees of future performance and are subject to various assumptions, risks and other factors that could cause actual results to differ materially from those suggested by the forward-looking statements. These factors include, among others, those set forth below and in the other documents that we file with the SEC. There also are other factors that we may not describe, generally because we currently do not perceive them to be material, or likely to become material, that could cause actual results to differ materially from our expectations.
These risks could impact our business in a number of ways, including by negatively impacting our future results of operations, cash flows and financial condition. For simplicity, below we collectively refer to these impacts as our “performance.”
We expressly disclaim any obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law.
Our financial results depend entirely upon the agricultural industry, and factors that adversely affect the agricultural industry generally, including declines in the general economy, increases in farm input costs, weather conditions, lower commodity prices and changes in the availability of financing for our dealers and their retail customers, will adversely affect us.
Our success depends entirely on the vitality of the agricultural industry. Historically, the agricultural industry has been cyclical and subject to a variety of economic and other factors. Sales of agricultural equipment, in turn, is also cyclical and generally are related to the economic health of the agricultural industry. The health of the agricultural industry is affected by numerous factors, including farm income, farm input costs, land values and debt levels, all of which are influenced by levels of commodity prices, acreage planted, crop yields, agricultural product demand (including crops used as renewable energy sources), government policies and government subsidies. Sales also are influenced by economic conditions, interest rate and exchange rate levels, and the availability of financing for retail customers, including financing subsidies to farmers. Trends in the industry, such as farm consolidations, may affect the agricultural equipment market. In addition, weather conditions, such as floods, heat waves or droughts, and pervasive livestock or crop diseases can affect farmers’ buying decisions. Downturns in the agricultural industry due to these or other factors, which could vary by market, are likely to result in decreases in demand for agricultural equipment, which would adversely affect our sales, growth, results of operations and financial condition. Moreover, the unpredictable nature of many of these factors and the resulting volatility in demand make it difficult for us to accurately predict sales and optimize production. This, in turn, can result in higher costs, including inventory carrying costs and underutilized manufacturing capacity. During previous downturns in the farm sector, we experienced significant and prolonged declines in our performance, and we expect our business to remain subject to similar market fluctuations in the future.
The agricultural equipment industry is highly seasonal, and seasonal fluctuations significantly impact our performance.
The agricultural equipment business is highly seasonal, which causes our quarterly results and our cash flow to fluctuate during the year. Farmers generally purchase agricultural equipment in the Spring and Fall in conjunction with the major planting and harvesting seasons. In addition, the fourth quarter typically is a significant period for retail sales because of year-end tax planning considerations, the increase in availability of funds from completed harvests and the timing of dealer incentives. Our net sales and income from operations historically have been the lowest in the first quarter and have increased in subsequent quarters as dealers anticipate increased retail sales in subsequent quarters.
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Most of our sales depend on the availability of retail customers obtaining financing, and any disruption in their ability to obtain financing, whether due to economic downturns or otherwise, will result in the sale of fewer products by us. In addition, the collectability of receivables that are created from our sales, as well as from such retail financing, is critical to our business.
Most retail sales of our products are financed, either by AGCO Finance joint ventures or by a bank or other private lender. Our AGCO Finance joint ventures, which are controlled by Rabobank and are dependent upon Rabobank for financing as well, finance approximately 40% to 50% of the retail sales of our tractors and combines in the markets where the joint ventures operate. Any difficulty by Rabobank in continuing to provide that financing, or any business decision by Rabobank as the controlling member not to fund the business or particular aspects of it (for example, a particular country or region), would require the joint ventures to find other sources of financing (which may be difficult to obtain) or would require us to find other sources of retail financing for our dealers and their retail customers, or our dealers and their retail customers would be required to utilize other retail financing providers. In an economic downturn, we expect that financing for capital equipment purchases generally would become more difficult or more expensive to obtain. To the extent that financing is not available, or available only at unattractive prices, our sales would be negatively impacted.
Both AGCO and our AGCO Finance joint ventures have substantial accounts receivable from dealers and retail customers, and we both would be adversely impacted if the collectability of these receivables was not consistent with historical experience. This collectability is dependent on the financial strength of the farm industry, which in turn is dependent upon the general economy and commodity prices, as well as several of the other factors discussed in this “Risk Factors” section. In addition, the AGCO Finance joint ventures may experience credit losses that exceed expectations and adversely affect their financial condition and results of operations. The finance joint ventures may also experience residual value losses that exceed expectations caused by lower pricing for used equipment and higher than expected returns at lease maturity. To the extent that defaults and losses are higher than expected, our equity in the net earnings of the finance joint ventures would be less, or there could be losses, which could materially impact our performance.
Our success depends on the introduction of new products, which requires substantial expenditures.
Our long-term results depend upon our ability to introduce and market new products successfully. The success of our new products will depend on a number of factors, including:
• | innovation; |
• | customer acceptance; |
• | the efficiency of our suppliers in providing component parts and of our manufacturing facilities in producing final products; and |
• | the performance and quality of our products relative to those of our competitors. |
As both we and our competitors continuously introduce new products or refine versions of existing products, we cannot predict the level of market acceptance or the amount of market share our new products will achieve. We have experienced delays in the introduction of new products in the past, and we may experience delays in the future. Any delays or other problems with our new product launches will adversely affect our performance. In addition, introducing new products can result in decreases in revenues from our existing products. Consistent with our strategy of offering new products and product refinements, we expect to make substantial investments in product development and refinement. We may need more funding for product development and refinement than is readily available, which could adversely affect our business.
Our expansion plans in emerging markets entail significant risks.
Our strategy includes establishing a greater manufacturing and/or marketing presence in emerging markets such as China, Africa and Russia. In addition, we have been expanding our use of component suppliers in these markets. As we progress with these efforts, it will involve a significant investment of capital and other resources and entail various risks. These include risks attendant to obtaining necessary governmental approvals and the construction of the facilities in a timely manner and within cost estimates, the establishment of supply channels, the commencement of efficient manufacturing operations, and, ultimately, the acceptance of the products by retail customers. While we expect the expansion to be successful, should we encounter difficulties involving these or similar factors, it may not be as successful as we anticipate.
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We face significant competition, and, if we are unable to compete successfully against other agricultural equipment manufacturers, we will lose dealers and their retail customers and our net sales and profitability will decline.
The agricultural equipment business is highly competitive, particularly in our major markets. Our two key competitors, Deere & Company and CNH Industrial N.V., are substantially larger than we are and have greater financial and other resources. In addition, in some markets, we compete with smaller regional competitors with significant market share in a single country or group of countries. Our competitors may substantially increase the resources devoted to the development and marketing, including discounting, of products that compete with our products. In addition, competitive pressures in the agricultural equipment business may affect the market prices of new and used equipment, which, in turn, may adversely affect our performance.
We maintain an independent dealer and distribution network in the markets where we sell products. The financial and operational capabilities of our dealers and distributors are critical to our ability to compete in these markets. In addition, we compete with other manufacturers of agricultural equipment for dealers. If we are unable to compete successfully against other agricultural equipment manufacturers, we could lose dealers and their retail customers and performance may decline.
Rationalization or restructuring of manufacturing facilities, and plant expansions and system upgrades at our manufacturing facilities, may cause production capacity constraints and inventory fluctuations.
The rationalization of our manufacturing facilities has at times resulted in, and similar rationalizations or restructurings in the future may result in, temporary constraints upon our ability to produce the quantity of products necessary to fill orders and thereby complete sales in a timely manner. In addition, system upgrades at our manufacturing facilities that impact ordering, production scheduling, manufacturing and other related processes are complex, and could impact or delay production. A prolonged delay in our ability to fill orders on a timely basis could affect customer demand for our products and increase the size of our product inventories, causing future reductions in our manufacturing schedules and adversely affecting our performance. Moreover, our continuous development and production of new products often involves the retooling of existing manufacturing facilities. This retooling may limit our production capacity at certain times in the future, which could adversely affect our performance. In addition, the expansion and reconfiguration of existing manufacturing facilities, as well as the start-up of new manufacturing operations in emerging markets, such as China and Russia, could increase the risk of production delays, as well as require significant investments.
We depend on suppliers for components, parts and raw materials for our products, and any failure by our suppliers to provide products as needed, or by us to promptly address supplier issues, will adversely impact our ability to timely and efficiently manufacture and sell products. We also are subject to raw material price fluctuations, which can adversely affect our manufacturing costs.
Our products include components and parts manufactured by others. As a result, our ability to timely and efficiently manufacture existing products, to introduce new products and to shift manufacturing of products from one facility to another depends on the quality of these components and parts and the timeliness of their delivery to our facilities. At any particular time, we depend on many different suppliers, and the failure by one or more of our suppliers to perform as needed will result in fewer products being manufactured, shipped and sold. If the quality of the components or parts provided by our suppliers is less than required and we do not recognize that failure prior to the shipment of our products, we will incur higher warranty costs. The timely supply of component parts for our products also depends on our ability to manage our relationships with suppliers, to identify and replace suppliers that fail to meet our schedules or quality standards, and to monitor the flow of components and accurately project our needs. The shift from our existing suppliers to new suppliers, including suppliers in emerging markets, also may impact the quality and efficiency of our manufacturing capabilities, as well as warranty costs.
Changes in the prices of certain raw materials, components and parts could result in production disruptions or increased costs and lower profits on the sale of our products. Changes in the availability and price of these raw materials, components and parts, which have fluctuated significantly in the past and are more likely to fluctuate during times of economic volatility, as well as regulatory instability or change in tariffs, can significantly increase the costs of production. This, in turn, could have a material negative effect on performance, particularly if, due to pricing considerations or other factors, we are unable to recover the increased costs through pricing from our dealers.
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A majority of our sales and manufacturing take place outside the United States, and, as a result, we are exposed to risks related to foreign laws, taxes, economic conditions, labor supply and relations, political conditions and governmental policies as well as U.S. laws governing who we sell to and how we conduct business. These risks may delay or reduce our realization of value from our international operations.
A majority of our sales are derived from sales outside the United States. The foreign countries in which our sales are the greatest are Germany, France, Brazil, the United Kingdom, Finland and Canada. In addition, we have significant manufacturing operations in France, Germany, Brazil, Italy and Finland and have established manufacturing operations in emerging markets, such as China. Many of our sales involve products that are manufactured in one country and sold in a different country and therefore, our results of operations and financial condition will be adversely affected by adverse changes in laws, taxes and tariffs, trade restrictions, economic conditions, labor supply and relations, political conditions and governmental policies of the countries in which we conduct business. Our business practices in these foreign countries generally must comply with U.S. law, including limitations on where and to whom we may sell products and the Foreign Corrupt Practices Act (“FCPA”). We have a compliance program in place designed to reduce the likelihood of potential violations of these laws, but it is difficult to identify and prevent violations. Significant violations could subject us to fines and other penalties as well as increased compliance costs. Some of our international operations also are, or might become, subject to various risks that are not present in domestic operations, including restrictions on dividends and the repatriation of funds. Foreign developing markets may present special risks, such as unavailability of financing, inflation, slow economic growth, price controls and difficulties in complying with U.S. regulations.
Domestic and foreign political developments and government regulations and policies directly affect the international agricultural industry, which affects the demand for agricultural equipment. If demand for agricultural equipment declines, our performance will be adversely affected. The application, modification or adoption of laws, regulations, trade agreements or policies adversely affecting the agricultural industry, including the imposition of import and export duties and quotas, expropriation and potentially burdensome taxation, could have an adverse effect on our business. Trade restrictions, including potential withdrawal from or modification of existing trade agreements, negotiation of new trade agreements, and imposition of new (and retaliatory) tariffs against certain countries or covering certain products, could limit our ability to capitalize on current and future growth opportunities in the international markets in which we operate and impair our ability to expand our business by offering new technologies, products and services. These changes also can impact the cost of the products we manufacture, including the cost of steel. These trade restrictions and changes in, or uncertainty surrounding, global trade policy may affect our competitive position.
The health of the agricultural industry and the ability of our international dealers and retail customers to operate their businesses, in general, are affected by domestic and foreign government programs that provide economic support to farmers. As a result, farm income levels and the ability of farmers to obtain advantageous financing and other protections would be reduced to the extent that any such programs are curtailed or eliminated. Any such reductions likely would result in a decrease in demand for agricultural equipment. For example, a decrease or elimination of current price protections for commodities or of subsidy payments for farmers in the European Union, the United States, Brazil or elsewhere in South America could negatively impact the operations of farmers in those regions, and, as a result, our sales may decline if these farmers delay, reduce or cancel purchases of our products. In emerging markets, some of these (and other) risks can be greater than they might be elsewhere. In addition, in some cases, the financing provided by our joint ventures with Rabobank or by others is supported by a government subsidy or guarantee. The programs under which those subsidies and guarantees are provided generally are of limited duration and subject to renewal and contain various caps and other limitations. In some markets, for example Brazil, this support is quite significant. In the event the governments that provide this support elect not to renew these programs, and were financing not available on reasonable terms, whether through our joint ventures or otherwise, our performance would be negatively impacted.
As a result of the multinational nature of our business and the acquisitions that we have made over time, our corporate and tax structures are complex, with a significant portion of our operations being held through foreign holding companies. As a result, it can be inefficient, from a tax perspective, for us to repatriate or otherwise transfer funds, and we may be subject to a greater level of tax-related regulation and reviews by multiple governmental units than would companies with a more simplified structure. In addition, our foreign and U.S. operations routinely sell products to, and license technology to other operations of ours. The pricing of these intra-company transactions is subject to regulation and review as well. While we make every effort to comply with all applicable tax laws, audits and other reviews by governmental units could result in our being required to pay additional taxes, interest and penalties.
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Brexit and political uncertainty in the United Kingdom and the European Union could disrupt our operations and adversely affect our performance.
We have significant operations in the United Kingdom. The United Kingdom’s intention to exit from the European Union, or Brexit, has caused significant political uncertainty in both the United Kingdom and the European Union. The impact of Brexit and the resulting turmoil on the political and economic future of the United Kingdom and the European Union is uncertain, and we may be adversely affected in ways we cannot currently anticipate. The ultimate effects of Brexit will depend on any agreements the United Kingdom makes to retain access to the European Union markets, and vice versa, either during a transitional period or more permanently. Brexit also may result in significant changes in the British regulatory environment, which would likely increase our compliance costs. We may find it more difficult to conduct business in the United Kingdom and the European Union, as Brexit may result in increased regulatory complexity, increased restrictions on the movement of capital, goods and personnel. Depending on the outcome of negotiations between the United Kingdom and the European Union regarding the terms of Brexit, we may decide to relocate or otherwise alter certain of our European or United Kingdom operations to respond to the new business, legal, regulatory, tax and trade environments. Brexit may adversely affect our relationships with our dealers and their retail customers, suppliers and employees and our performance could be adversely affected.
We can experience substantial and sustained volatility with respect to currency exchange rates and interest rates, which can adversely affect our reported results of operations and the competitiveness of our products.
We conduct operations in a variety of currencies. Our production costs, profit margins and competitive position are affected by the strength of the currencies in countries where we manufacture or purchase goods relative to the strength of the currencies in countries where our products are sold. In addition, we are subject to currency exchange rate risk to the extent that our costs are denominated in currencies other than those in which we denominate sales and to risks associated with translating the financial statements of our foreign subsidiaries from local currencies into United States dollars. Similarly, changes in interest rates affect us by increasing or decreasing borrowing costs and finance income. Our most significant transactional foreign currency exposures are the Euro, the Brazilian real and the Canadian dollar in relation to the United States dollar, and the Euro in relation to the British pound. Where naturally offsetting currency positions do not occur, we attempt to manage these risks by economically hedging some, but not necessarily all, of our exposures through the use of foreign currency forward exchange or option contracts. As with all hedging instruments, there are risks associated with the use of foreign currency forward exchange or option contracts, interest rate swap agreements and other risk management contracts. While the use of such hedging instruments provides us with protection for a finite period of time from certain fluctuations in currency exchange and interest rates, when we hedge we forego part or all the benefits that might result from favorable fluctuations in currency exchange and interest rates. In addition, any default by the counterparties to these transactions could adversely affect us. Despite our use of economic hedging transactions, currency exchange rate or interest rate fluctuations may adversely affect our performance.
In July 2017, the Financial Conduct Authority in the UK, the governing body responsible for regulating the London Interbank Offered Rate (“LIBOR”), announced that it no longer will compel or persuade financial institutions and panel banks to make LIBOR submissions after 2021. This decision is expected to result in the end of the use of LIBOR as a reference rate for commercial loans and other indebtedness. We have both LIBOR-denominated and EURIBOR-denominated indebtedness or derivative instruments. The transition to alternatives to LIBOR could be modestly disruptive to the credit markets, and while we do not believe that the impact would be material to us, we do not have insight into what the impacts might be.
We are subject to extensive environmental laws and regulations, including increasingly stringent engine emissions standards, and our compliance with, or our failure to comply with, existing or future laws and regulations could delay production of our products or otherwise adversely affect our business.
We are subject to increasingly stringent environmental laws and regulations in the countries in which we operate. These regulations govern, among other things, emissions into the air, discharges into water, the use, handling and disposal of hazardous substances, waste disposal and the remediation of soil and groundwater contamination. Our costs of complying with these or any other current or future environmental regulations may be significant. For example, several countries have adopted more stringent environmental regulations regarding emissions into the air, and it is possible that new emissions-related legislation or regulations will be adopted in connection with concerns regarding GHG. The regulation of GHG emissions from certain stationary or mobile sources could result in additional costs to us in the form of taxes or emission allowances, facilities improvements and energy costs, which would increase our operating costs through higher utility, transportation and materials costs. Increased input costs, such as fuel and fertilizer, and compliance-related costs also could impact retail customer operations and demand for our equipment. Because the impact of any future GHG legislative, regulatory or product standard
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requirements on our global businesses and products is dependent on the timing and design of mandates or standards, we are unable to predict its potential impact at this time.
In addition, we may be subject to liability in connection with properties and businesses that we no longer own or operate. We may be adversely impacted by costs, liabilities or claims with respect to our operations under existing laws or those that may be adopted in the future that could apply to both future and prior conduct. If we fail to comply with existing or future laws and regulations, we may be subject to governmental or judicial fines or sanctions, or we may not be able to sell our products and, therefore, our performance could be adversely affected.
In addition, the products that we manufacture or sell, particularly engines, are subject to increasingly stringent environmental regulations, including those that limit GHG emissions. As a result, on an ongoing basis we incur significant engineering expenses and capital expenditures to modify our products to comply with these regulations. Further, we may experience production delays if we or our suppliers are unable to design and manufacture components for our products that comply with environmental standards. For instance, as we are required to meet more stringent engine emission reduction standards that are applicable to engines we manufacture or incorporate into our products, we expect to meet these requirements through the introduction of new technology to our products, engines and exhaust after-treatment systems, as necessary. Failure to meet such requirements could materially affect our business and results of operations.
We are subject to SEC disclosure obligations relating to “conflict minerals” (columbite-tantalite, cassiterite (tin), wolframite (tungsten) and gold) that are sourced from the Democratic Republic of Congo or adjacent countries. Complying with these requirements has and will require us to incur additional costs, including the costs to determine the sources of any conflict minerals used in our products and to modify our processes or products, if required. As a result, we may choose to modify the sourcing, supply and pricing of materials in our products. In addition, we may face reputational and regulatory risks if the information that we receive from our suppliers is inaccurate or inadequate, or our process in obtaining that information does not fulfill the SEC’s requirements. We have a formal policy with respect to the use of conflict minerals in our products that is intended to minimize, if not eliminate, conflict minerals sourced from the covered countries to the extent that we are unable to document that they have been obtained from conflict-free sources.
Our labor force is heavily unionized, and our contractual and legal obligations under collective bargaining agreements and labor laws subject us to the risks of work interruption or stoppage and could cause our costs to be higher.
Most of our employees, most notably at our manufacturing facilities, are subject to collective bargaining agreements and union contracts with terms that expire on varying dates. Several of our collective bargaining agreements and union contracts are of limited duration and, therefore, must be re-negotiated frequently. As a result, we incur various administrative expenses associated with union representation of our employees. Furthermore, we are at greater risk of work interruptions or stoppages than non-unionized companies, and any work interruption or stoppage could significantly impact the volume of products we have available for sale. In addition, collective bargaining agreements, union contracts and labor laws may impair our ability to reduce our labor costs by streamlining existing manufacturing facilities or restructuring our business because of limitations on personnel and salary changes and similar restrictions.
We have significant pension obligations with respect to our employees, and our cash flow available for other purposes may be adversely affected in the event that payments became due under any pension plans that are unfunded or underfunded. Declines in the market value of the securities used to fund these obligations will result in increased pension expense in future periods.
A portion of our active and retired employees participate in defined benefit pension plans under which we are obligated to provide prescribed levels of benefits regardless of the value of the underlying assets, if any, of the applicable pension plans. To the extent that our obligations under a plan are unfunded or underfunded, we will have to use cash flow from operations and other sources to pay our obligations either as they become due or over some shorter funding period. In addition, since the assets that we already have provided to fund these obligations are invested in debt instruments and other securities, the value of these assets varies due to market factors. Historically, these fluctuations have been significant and sometimes adverse, and there can be no assurances that they will not be significant or adverse in the future. We are also subject to laws and regulations governing the administration of our pension plans in certain countries, and the specific provisions, benefit formulas and related interpretations of such laws, regulations and provisions can be complex. Failure to properly administer the provisions of our pension plans and comply with applicable laws and regulations could have an adverse impact to our results of operations. As of December 31, 2018, we had substantial unfunded or underfunded obligations related to our pension and other postretirement health care benefits. See the notes to our Consolidated Financial Statements contained in Item 8 for more information regarding our unfunded or underfunded obligations.
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Our business routinely is subject to claims and legal actions, some of which could be material.
We routinely are a party to claims and legal actions incidental to our business. These include claims for personal injuries by users of farm equipment, disputes with distributors, vendors and others with respect to commercial matters, and disputes with taxing and other governmental authorities regarding the conduct of our business. While these matters generally are not material, it is entirely possible that a matter will arise that is material to our business.
In addition, we use a broad range of technology in our products. We developed some of this technology, we license some of this technology from others, and some of the technology is embedded in the components and parts that we purchase from suppliers. From time-to-time, third parties make claims that the technology that we use violates their patent rights. While to date none of these claims have been significant, we cannot provide any assurances that there will not be significant claims in the future or that currently existing claims will not prove to be more significant than anticipated.
We have a substantial amount of indebtedness, and, as a result, we are subject to certain restrictive covenants and payment obligations that may adversely affect our ability to operate and expand our business.
Our credit facility and certain other debt agreements have various financial and other covenants that require us to maintain certain total debt to EBITDA and interest coverage ratios. In addition, the credit facility and certain other debt agreements contain other restrictive covenants, such as ones that limit the incurrence of indebtedness and the making of certain payments, including dividends, and are subject to acceleration in the event of default. If we fail to comply with these covenants and are unable to obtain a waiver or amendment, an event of default would result.
If any event of default were to occur, our lenders could, among other things, declare outstanding amounts due and payable, and our cash may become restricted. In addition, an event of default or declaration of acceleration under our credit facility or certain other debt agreements could also result in an event of default under our other financing agreements.
Our substantial indebtedness could have other important adverse consequences such as:
• | requiring us to dedicate a substantial portion of our cash flow from operations to payments on our indebtedness, which would reduce the availability of our cash flow to fund future working capital, capital expenditures, acquisitions and other general corporate purposes; |
• | increasing our vulnerability to general adverse economic and industry conditions; |
• | limiting our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate; |
• | restricting us from being able to introduce new products or pursuing business opportunities; |
• | placing us at a competitive disadvantage compared to our competitors that may have less indebtedness; and |
• | limiting, along with the financial and other restrictive covenants in our indebtedness, among other things, our ability to borrow additional funds, pay cash dividends or engage in or enter into certain transactions. |
Our business increasingly is subject to regulations relating to privacy and data protection, and if we violate any of those regulations we could be subject to significant claims, penalties and damages.
Increasingly, the United States, the European Union and other governmental entities are imposing regulations designed to protect the collection, maintenance and transfer of personal information. For example, the European Union adopted the General Data Protection Regulation (the “GDPR”) that imposes stringent data protection requirements and greater penalties for non-compliance beginning in May 2018. The GDPR also protects a broader set of personal information than traditionally has been protected in the United States and provides for a right of “erasure.” Other regulations govern the collection and transfer of financial data and data security generally. These regulations generally impose penalties in the event of violations. While we attempt to comply with all applicable cybersecurity regulations, their implementation is complex, and, if we are not successful, we may be subject to penalties and claims for damages from regulators and the impacted individuals.
Cybersecurity breaches and other disruptions to our information technology infrastructure could interfere with our operations and could compromise confidential information, exposing us to liability that could cause our business and reputation to suffer.
We rely upon information technology networks and systems, some of which are managed by third parties, to process, transmit and store electronic information, and to manage or support a variety of business processes and activities, including supply chain, manufacturing, distribution, invoicing and collection of payments from dealers or other purchasers of our
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equipment. We also use information technology systems to record, process and summarize financial information and results of operations for internal reporting purposes and to comply with regulatory financial reporting, legal and tax requirements. Additionally, we collect and store sensitive data, including intellectual property and proprietary business information, in data centers and on information technology networks. The secure operation of these information technology networks and the processing and maintenance of this information is critical to our business operations and strategy. Despite security measures and business continuity plans, our information technology networks and infrastructure may be vulnerable to damage, disruptions or shutdowns due to attacks by cyber criminals or breaches due to employee error or malfeasance or other disruptions during the process of upgrading or replacing computer software or hardware, power outages, computer viruses, telecommunication or utility failures, terrorist acts or, natural disasters or other catastrophic events. The occurrence of any of these events could compromise our networks, and the information stored there could be accessed, publicly disclosed, lost or stolen. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability or regulatory penalties under laws protecting the privacy of personal information, and could disrupt our operations and damage our reputation, which could adversely affect our performance. In addition, as security threats continue to evolve and increase in frequency and sophistication, we may need to invest additional resources to protect the security of our systems.
We may encounter difficulties in integrating businesses we acquire and may not fully achieve, or achieve within a reasonable time frame, expected strategic objectives and other expected benefits of the acquisitions.
From time-to-time we seek to expand through acquisitions of other businesses. We expect to realize strategic and other benefits as a result of our acquisitions, including, among other things, the opportunity to extend our reach in the agricultural industry and provide our dealers and their retail customers with an even wider range of products and services. However, it is impossible to predict with certainty whether, or to what extent, these benefits will be realized or whether we will be able to integrate acquired businesses in a timely and effective manner. For example:
• | the costs of integrating acquired businesses and their operations may be higher than we expect and may require significant attention from our management; |
• | the businesses we acquire may have undisclosed liabilities, such as environmental liabilities or liabilities for violations of laws, such as the FCPA, that we did not expect; and |
• | our ability to successfully carry out our growth strategies for acquired businesses will be affected by, among other things, our ability to maintain and enhance our relationships with their existing customers, our ability to provide additional product distribution opportunities to them through our existing distribution channels, changes in the spending patterns and preferences of customers and potential customers, fluctuating economic and competitive conditions and our ability to retain their key personnel. |
Our ability to address these issues will determine the extent to which we are able to successfully integrate, develop and grow acquired businesses and to realize the expected benefits of these transactions. Our failure to do so could have a material adverse effect on our performance following the transactions.
Changes to United States tax, tariff, trade and import/export regulations may have a negative effect on global economic conditions, financial markets and our business.
There have been ongoing discussions and significant changes to United States trade policies, treaties, tariffs and taxes. Although the level changes from period to period, we generally have substantial imports into the United States of products and components that are either produced in our foreign locations or are purchased from foreign suppliers, and also have substantial exports of products and components that we manufacture in the United States. The impact of any changes to current trade, tariff or tax policies relating to imports and exports of goods is dependent on factors such as the treatment of exports as a credit to imports, and the introduction of any tariffs or taxes relating to imports from specific countries. The most significant changes recently have been the imposition of tariffs by the United States on imports from China and the imposition by China of tariffs on imports from the United States. In the past, we have had moderate amounts of imports into the U.S. from China. To date, the impact of announced China tariffs has not been material to us because we have been able to redirect and employ sourcing alternatives for products coming into the United States. In addition, we do not export significant amounts from the United States into China. It is unclear what other changes might be considered or implemented and what response to any such changes may be by the governments of other countries. Any changes that increase the cost of international trade or otherwise impact the global economy, including through the increase in domestic prices for raw materials, could have a material adverse effect on our business, financial condition and results of operations. For example, the United States, Canada and Mexico have renegotiated the North America Free Trade Agreement, and the impacts of the changes brought about by the new agreement, named the United States, Mexico, Canada Agreement (the “USMCA”), for which the language has not yet been ratified, are not currently known. We continue to monitor closely the status and implementation of the USMCA.
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We have joint ventures in the Netherlands and Russia with an entity that currently is operating under a time-limited general license from the U.S. Department of Treasury authorizing the maintenance or wind-down of operations and existing contracts. In the event that the license expires without further relief being granted or without other authorization from the U.S. Department of the Treasury, we may no longer be able to continue the joint ventures' commercial operations, and we would be required to assess the fair value of certain assets related to the joint ventures for potential impairment. Our most recent preliminary assessment indicated that impairment, if any, would not be material.
Item 1B. Unresolved Staff Comments
Not applicable.
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Item 2. Properties
Our principal manufacturing locations and/or properties as of January 31, 2019, were as follows:
Location | Description of Property | Leased (Sq. Ft.) | Owned (Sq. Ft.) | |||||
United States: | ||||||||
Assumption, Illinois | Manufacturing/Sales and Administrative Office | 933,900 | ||||||
Batavia, Illinois | Parts Distribution | 310,200 | ||||||
Duluth, Georgia | Corporate Headquarters | 159,000 | ||||||
Hesston, Kansas | Manufacturing | 6,300 | 1,461,800 | |||||
Jackson, Minnesota | Manufacturing | 51,400 | 986,400 | |||||
International: | ||||||||
Beauvais, France(1) | Manufacturing | 14,300 | 1,596,200 | |||||
Breganze, Italy | Manufacturing | 11,800 | 1,562,000 | |||||
Ennery, France | Parts Distribution | 839,600 | 360,300 | |||||
Linnavuori, Finland | Manufacturing | 211,700 | 396,300 | |||||
Hohenmölsen, Germany | Manufacturing | 437,000 | ||||||
Marktoberdorf, Germany | Manufacturing | 219,800 | 1,472,200 | |||||
Wolfenbüttel, Germany | Manufacturing | 546,700 | ||||||
Stockerau, Austria | Manufacturing | 160,700 | ||||||
Biatorbagy, Hungary | Manufacturing | 287,300 | ||||||
Thisted, Denmark | Manufacturing | 147,500 | 295,300 | |||||
Suolahti, Finland | Manufacturing/Parts Distribution | 97,500 | 561,400 | |||||
Canoas, Brazil | Regional Headquarters/Manufacturing | 12,900 | 1,120,000 | |||||
Mogi das Cruzes, Brazil | Manufacturing | 727,200 | ||||||
Santa Rosa, Brazil | Manufacturing | 508,900 | ||||||
Changzhou, China | Manufacturing | 241,100 | 767,000 | |||||
_______________________________________
(1) | Includes our joint venture, GIMA, in which we own a 50% interest. |
We consider each of our facilities to be in good condition and adequate for its present use. We believe that we have sufficient capacity to meet our current and anticipated manufacturing requirements.
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Item 3. Legal Proceedings
In August 2008, as part of a routine audit, the Brazilian taxing authorities disallowed deductions relating to the amortization of certain goodwill recognized in connection with a reorganization of our Brazilian operations and the related transfer of certain assets to our Brazilian subsidiaries. The amount of the tax disallowance through December 31, 2018, not including interest and penalties, was approximately 131.5 million Brazilian reais (or approximately $33.9 million). The amount ultimately in dispute will be significantly greater because of interest and penalties. We have been advised by our legal and tax advisors that our position with respect to the deductions is allowable under the tax laws of Brazil. We are contesting the disallowance and believe that it is not likely that the assessment, interest or penalties will be required to be paid. However, the ultimate outcome will not be determined until the Brazilian tax appeal process is complete, which could take several years.
We are a party to various other legal claims and actions incidental to our business. We believe that none of these claims or actions, either individually or in the aggregate, is material to our business or financial statements as a whole, including our results of operations and financial condition.
Item 4. Mine Safety Disclosures
Not Applicable.
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PART II
Item 5. | Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities |
Our common stock is listed on the New York Stock Exchange (“NYSE”) and trades under the symbol AGCO. As of the close of business on February 22, 2019, the closing stock price was $66.95, and there were 324 stockholders of record (this number does not include stockholders who hold their stock through brokers, banks and other nominees).
Performance Graph
The following presentation is a line graph of our cumulative total shareholder return on our common stock on an indexed basis as compared to the cumulative total return of the S&P Mid-Cap 400 Index and a self-constructed peer group (“Peer Group”) for the five years ended December 31, 2018. Our total returns in the graph are not necessarily indicative of future performance.
Cumulative Total Return for the Years Ended December 31 | ||||||||||||||||||||||||
2013 | 2014 | 2015 | 2016 | 2017 | 2018 | |||||||||||||||||||
AGCO Corporation | $ | 100.00 | $ | 77.04 | $ | 78.11 | $ | 100.63 | $ | 125.28 | $ | 98.60 | ||||||||||||
S&P Midcap 400 Index | 100.00 | 109.77 | 107.38 | 129.65 | 150.71 | 134.01 | ||||||||||||||||||
Peer Group Index | 100.00 | 99.50 | 77.12 | 109.87 | 158.99 | 135.19 | ||||||||||||||||||
The total return assumes that dividends were reinvested and is based on a $100 investment on December 31, 2013.
The Peer Group Index is a self-constructed peer group of companies that includes: Caterpillar Inc., CNH Industrial NV, Cummins Inc., Deere & Company, Eaton Corporation Plc., Ingersoll-Rand Plc., Navistar International Corporation, PACCAR Inc., Parker-Hannifin Corporation and Terex Corporation.
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Issuer Purchases of Equity Securities
The table below sets forth information with respect to purchases of our common stock made by or on behalf of us during the three months ended December 31, 2018:
Period | Total Number of Shares Purchased | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs(1) | Maximum Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans or Programs (in millions)(1)(3) | ||||||||||
October 1, 2018 through October 31, 2018(2) | 197,848 | $ | 59.75 | 197,848 | $ | 247.1 | ||||||||
November 1, 2018 through November 30, 2018(3) | 1,422,222 | $ | 57.18 | 1,422,222 | $ | 147.1 | ||||||||
December 1, 2018 through December 31, 2018(3) | 326,733 | $ | 57.18 | 326,733 | $ | 147.1 | ||||||||
Total | 1,946,803 | $ | 58.01 | 1,946,803 | $ | 147.1 | ||||||||
____________________________________
(1) | The remaining authorized amount to be repurchased is $147.1 million, of which $115.7 million expires in December 2019 and $31.4 million has no expiration date. |
(2) | In August 2018, we entered into an accelerated share repurchase (“ASR”) agreement with a third-party financial institution to repurchase $50.0 million of our common stock. The ASR agreement resulted in the initial delivery of 638,978 shares of our common stock, representing approximately 80% of the shares expected to repurchased in connection with the transaction. In October 2018, the remaining 197,848 shares under the ASR agreement were delivered. As reflected in the table above, the average price paid per share for the ASR agreement was the volume-weighted average stock price of our common stock over the term of the ASR agreement. Refer to Note 9 of our Consolidated Financial Statements contained in Item 8, “Financial Statements and Supplementary Data,” for a further discussion of this matter. |
(3) | In November 2018, we entered into an ASR agreement with a third-party financial institution to repurchase $100.0 million of shares of our common stock. The ASR agreement resulted in the initial delivery of 1,422,222 shares of our common stock, representing 80% of the shares expected to be repurchased in connection with the transaction. In December 2018, the remaining 326,733 shares under the ASR agreement were delivered. As reflected in the table above, the average price paid per share for the ASR agreement was the volume-weighted average stock price of our common stock over the term of the ASR agreement. Refer to Note 9 of our Consolidated Financial Statements contained in Item 8, “Financial Statements and Supplementary Data,” for a further discussion of this matter. |
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Item 6. Selected Financial Data
The following tables present our selected consolidated financial data. The data set forth below should be read together with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and our historical Consolidated Financial Statements and the related notes. The Consolidated Financial Statements as of December 31, 2018 and 2017 and for the years ended December 31, 2018, 2017 and 2016 and the reports thereon are included in Item 8, “Financial Statements and Supplementary Data.” The historical financial data may not be indicative of our future performance.
Years Ended December 31, | ||||||||||||||||||||
2018 | 2017 | 2016 | 2015 | 2014 | ||||||||||||||||
(In millions, except per share data) | ||||||||||||||||||||
Operating Data: | ||||||||||||||||||||
Net sales | $ | 9,352.0 | $ | 8,306.5 | $ | 7,410.5 | $ | 7,467.3 | $ | 9,723.7 | ||||||||||
Gross profit | 1,996.7 | 1,765.3 | 1,515.5 | 1,560.6 | 2,066.3 | |||||||||||||||
Income from operations | 489.0 | 404.4 | 287.0 | 358.6 | 651.0 | |||||||||||||||
Net income | 283.7 | 189.3 | 160.2 | 264.0 | 404.2 | |||||||||||||||
Net loss (income) attributable to noncontrolling interests | 1.8 | (2.9 | ) | (0.1 | ) | 2.4 | 6.2 | |||||||||||||
Net income attributable to AGCO Corporation and subsidiaries | $ | 285.5 | $ | 186.4 | $ | 160.1 | $ | 266.4 | $ | 410.4 | ||||||||||
Net income per common share — diluted | $ | 3.58 | $ | 2.32 | $ | 1.96 | $ | 3.06 | $ | 4.36 | ||||||||||
Cash dividends declared and paid per common share | $ | 0.60 | $ | 0.56 | $ | 0.52 | $ | 0.48 | $ | 0.44 | ||||||||||
Weighted average shares outstanding — diluted | 79.7 | 80.2 | 81.7 | 87.1 | 94.2 | |||||||||||||||
As of December 31, | ||||||||||||||||||||
2018 | 2017 | 2016 | 2015 | 2014 | ||||||||||||||||
(In millions, except number of employees) | ||||||||||||||||||||
Balance Sheet Data: | ||||||||||||||||||||
Cash and cash equivalents | $ | 326.1 | $ | 367.7 | $ | 429.7 | $ | 426.7 | $ | 363.7 | ||||||||||
Total assets | 7,626.4 | 7,971.7 | 7,168.4 | 6,497.7 | 7,364.5 | |||||||||||||||
Total long-term debt, excluding current portion and debt issuance costs | 1,275.3 | 1,618.1 | 1,610.0 | 925.2 | 993.3 | |||||||||||||||
Stockholders’ equity | 2,993.5 | 3,095.3 | 2,837.2 | 2,883.3 | 3,496.9 | |||||||||||||||
Other Data: | ||||||||||||||||||||
Number of employees | 21,232 | 20,462 | 19,795 | 19,588 | 20,828 | |||||||||||||||
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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
We are a leading manufacturer and distributor of agricultural equipment and related replacement parts throughout the world. We sell a full range of agricultural equipment, including tractors, combines, self-propelled sprayers, hay tools, forage equipment, seeding and tillage equipment, implements, and grain storage and protein production systems. Our products are widely recognized in the agricultural equipment industry and are marketed under a number of well-known brand names, including: Challenger®, Fendt®, GSI®, Massey Ferguson® and Valtra®. We distribute most of our products through a combination of approximately 4,050 dealers and distributors as well as associates and licensees. In addition, we provide retail financing through our finance joint ventures with Rabobank.
Financial Highlights
We sell our equipment and replacement parts to our independent dealers, distributors and other customers. A large majority of our sales are to independent dealers and distributors that sell our products to end users. To the extent practicable, we attempt to sell products to our dealers and distributors on a level basis throughout the year to reduce the effect of seasonal demands on our manufacturing operations and to minimize our investment in inventories. However, retail sales by dealers to farmers are highly seasonal and are linked to the planting and harvesting seasons. In certain markets, particularly in North America, there is often a time lag, which varies based on the timing and level of retail demand, between our sale of the equipment to the dealer and the dealer’s sale to a retail customer.
The following table sets forth, for the periods indicated, the percentage relationship to net sales of certain items included in our Consolidated Statements of Operations:
Years Ended December 31, | ||||||||
2018(1) | 2017(1) | 2016(1) | ||||||
Net sales | 100.0 | % | 100.0 | % | 100.0 | % | ||
Cost of goods sold | 78.6 | 78.7 | 79.5 | |||||
Gross profit | 21.4 | 21.3 | 20.5 | |||||
Selling, general and administrative expenses | 11.4 | 11.6 | 11.7 | |||||
Engineering expenses | 3.8 | 3.9 | 4.0 | |||||
Restructuring expenses | 0.1 | 0.1 | 0.2 | |||||
Amortization of intangibles | 0.7 | 0.7 | 0.7 | |||||
Bad debt expense | 0.1 | 0.1 | — | |||||
Income from operations | 5.3 | 4.9 | 3.9 | |||||
Interest expense, net | 0.6 | 0.5 | 0.7 | |||||
Other expense, net | 0.8 | 0.9 | 0.4 | |||||
Income before income taxes and equity in net earnings of affiliates | 3.9 | 3.4 | 2.8 | |||||
Income tax provision | 1.2 | 1.6 | 1.2 | |||||
Income before equity in net earnings of affiliates | 2.7 | 1.8 | 1.5 | |||||
Equity in net earnings of affiliates | 0.4 | 0.5 | 0.6 | |||||
Net income | 3.0 | 2.3 | 2.2 | |||||
Net loss (income) attributable to noncontrolling interests | — | — | — | |||||
Net income attributable to AGCO Corporation and subsidiaries | 3.1 | % | 2.2 | % | 2.2 | % | ||
____________________________________
(1) | Rounding may impact summation of amounts. |
2018 Compared to 2017
Net income attributable to AGCO Corporation and subsidiaries for 2018 was $285.5 million, or $3.58 per diluted share, compared to $186.4 million, or $2.32 per diluted share for 2017.
Net sales for 2018 were approximately $9,352.0 million, or 12.6% higher than 2017, primarily due to sales growth in all regions and the positive impact of acquisitions. Income from operations was $489.0 million in 2018 compared to $404.4
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million in 2017. The increase in income from operations during 2018 was primarily a result of higher net sales and improved operating margins.
Regionally, income from operations in the Europe/Middle East (“EME”) region increased by approximately $107.8 million in 2018 compared to 2017, driven primarily by higher net sales and improved margins. In our North American region, income from operations improved by approximately $36.2 million. Higher net sales levels as well as the benefit from our Precision Planting acquisition completed in September 2017 contributed to the improvement in the region. In South America, income from operations decreased approximately $25.5 million in 2018 compared to 2017. The decline was due to lower margins resulting from material cost inflation and higher costs associated with localizing newer product technology into our Brazilian factories. Income from operations in our Asia/Pacific/Africa (“APA”) region increased approximately $0.8 million in 2018 compared to 2017, primarily due to the growth in net sales.
Industry Market Conditions
Robust global crop production has kept commodity prices at relatively low levels and pressured farm income during 2018. Global industry demand for farm equipment was mixed across key markets during 2018, with future demand dependent on factors such as commodity price development, as well as government trade and farm support policies. In North America, retail sales increased in 2018 in the row crop segment as farmers replaced their equipment after years of weaker demand. In addition, industry unit retail sales of lower-horsepower tractors remained strong in 2018. Industry unit retail sales of tractors increased by approximately 2%, while industry unit retail sales of combines increased approximately 10% in 2018 compared to 2017. Industry retail sales of tractors in Western Europe decreased slightly during 2018 where demand was lower across most European markets, offset by growth in the United Kingdom. Farm income was impacted by a weak wheat harvest due to a dry, hot summer, pressuring the arable farming segment demand. Industry unit retail sales of combines in Western Europe increased approximately 13% during 2018 over prior year. Industry retail sales in South America were mixed during the full year of 2018. Equipment demand in Brazil improved in the second half of 2018 after more positive terms for the government’s financing programs were announced. Market growth in Brazil was offset by weak demand in Argentina due to a poor first harvest and weak general economic conditions. Industry unit retail sales of tractors in South America were flat and industry unit retail sales of combines increased by approximately 9% in 2018 compared to 2017.
Results of Operations
Net sales for 2018 were $9,352.0 million compared to $8,306.5 million for 2017, with growth achieved in all regions, on a constant currency basis. Net sales growth was also the result of the positive impacts of acquisitions and foreign currency translation. The following table sets forth, for the year ended December 31, 2018, the impact to net sales of currency translation and acquisitions by geographical segment (in millions, except percentages):
Change | Change due to Currency Translation | Change due to Acquisitions | ||||||||||||||||||||||||||
2018 | 2017 | $ | % | $ | % | $ | % | |||||||||||||||||||||
North America | $ | 2,180.1 | $ | 1,876.7 | $ | 303.4 | 16.2 | % | $ | 0.9 | — | % | $ | 107.7 | 5.7 | % | ||||||||||||
South America | 959.0 | 1,063.5 | (104.5 | ) | (9.8 | )% | (152.4 | ) | (14.3 | )% | 12.6 | 1.2 | % | |||||||||||||||
EME | 5,385.1 | 4,614.3 | 770.8 | 16.7 | % | 158.5 | 3.4 | % | 104.1 | 2.3 | % | |||||||||||||||||
APA | 827.8 | 752.0 | 75.8 | 10.1 | % | (0.6 | ) | (0.1 | )% | 12.6 | 1.7 | % | ||||||||||||||||
$ | 9,352.0 | $ | 8,306.5 | $ | 1,045.5 | 12.6 | % | $ | 6.4 | 0.1 | % | $ | 237.0 | 2.9 | % | |||||||||||||
Regionally, net sales in North America increased during 2018 compared to 2017, with sales growth driven by the positive impacts of our Precision Planting acquisition as well as increased sales of tractors, sprayers, hay tools and grain storage equipment. Net sales grew in South America in 2018 compared to 2017, excluding the negative impact of currency translation. Sales growth in Brazil, primarily in the second half of 2018, was partially offset by sales declines in Argentina. In the EME region, net sales increased during 2018 compared to 2017, with growth strongest in the key markets of the United Kingdom, Germany and France. In the APA region, net sales increased in 2018 compared to 2017, primarily due to a growth in sales in China and Australia. We estimate that worldwide average price increases were approximately 1.4% and 1.1% in 2018 and 2017, respectively. Consolidated net sales of tractors and combines, which comprised approximately 61% of our net sales in 2018, increased approximately 11% in 2018 compared to 2017. Unit sales of tractors and combines increased approximately 7.6% during 2018 compared to 2017. The unit sales increase and the increase in net sales can differ due to foreign currency translation, pricing and sales mix changes.
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The following table sets forth, for the years ended December 31, 2018 and 2017, the percentage relationship to net sales of certain items included in our Consolidated Statements of Operations (in millions, except percentages):
2018 | 2017 | ||||||||||||
$ | % of Net Sales(1) | $ | % of Net Sales | ||||||||||
Gross profit | $ | 1,996.7 | 21.4 | % | $ | 1,765.3 | 21.3 | % | |||||
Selling, general and administrative expenses | 1,069.4 | 11.4 | % | 964.7 | 11.6 | % | |||||||
Engineering expenses | 355.2 | 3.8 | % | 323.4 | 3.9 | % | |||||||
Restructuring expenses | 12.0 | 0.1 | % | 11.2 | 0.1 | % | |||||||
Amortization of intangibles | 64.7 | 0.7 | % | 57.0 | 0.7 | % | |||||||
Bad debt expense | 6.4 | 0.1 | % | 4.6 | 0.1 | % | |||||||
Income from operations | $ | 489.0 | 5.3 | % | $ | 404.4 | 4.9 | % | |||||
____________________________________
(1) | Rounding may impact summation of amounts. |
Gross profit as a percentage of net sales increased during 2018 compared to 2017, primarily due to higher sales and production volumes as well as pricing and cost containment initiatives, partially offset by increased material costs (including steel) and negative currency impacts. Production hours increased approximately 7% during 2018 compared to 2017. We recorded stock compensation expense of approximately $2.3 million and $2.8 million during 2018 and 2017, respectively, within cost of goods sold, as is more fully explained in Note 10 of our Consolidated Financial Statements.
Selling, general and administrative expenses (“SG&A expenses”) and engineering expenses increased in dollars but were lower as a percentage of net sales during 2018 compared to 2017. The increases in SG&A and engineering expenses were primarily the result of labor cost increases, the impact of acquisitions and negative foreign currency translation impacts during 2018. Engineering expenses also increased during 2018 to support investments in future new product introductions. We recorded stock compensation expense of approximately $44.3 million and $35.6 million during 2018 and 2017, respectively, within SG&A expenses, as is more fully explained in Note 10 of our Consolidated Financial Statements.
We recorded restructuring expenses of approximately $12.0 million and $11.2 million during 2018 and 2017, respectively. The restructuring expenses primarily related to severance and related costs associated with the rationalization of employee headcount at various manufacturing facilities and administrative offices located in Europe, China, South America and the United States.
Interest expense, net was $53.8 million for 2018 compared to $45.1 million for 2017. During 2018, we repurchased approximately $300.0 million of our outstanding 5⅞% senior notes. The repurchase resulted in a loss on extinguishment of debt of approximately $24.5 million, including associated fees, offset by approximately $4.7 million of accelerated amortization of a deferred gain related to a terminated interest rate swap instrument associated with the senior notes. In addition, we repaid our outstanding term loan under our former revolving credit and term loan facility. We recorded approximately $0.7 million associated with the write-off of deferred debt issuance costs and a loss of approximately $3.9 million from a terminated interest rate swap instrument related to the term loan. See “Liquidity and Capital Resources” for further information.
Other expense, net was $74.9 million in 2018 compared to $75.5 million in 2017. Losses on sales of receivables, primarily related to our accounts receivable sales agreements with our finance joint ventures in North America, Europe and Brazil, were approximately $36.0 million and $39.2 million in 2018 and 2017, respectively. “Other expense, net” also includes hedging costs and foreign exchange losses which included losses associated with the devaluation of the Argentine peso incurred during 2018.
We have a wholly-owned subsidiary in Argentina that manufactures and distributes agricultural equipment and replacement parts within Argentina. As of June 30, 2018, on the basis of currently available data related to inflation indices and as a result of the devaluation of the Argentine peso relative to the United States dollar, the Argentinian economy was determined to be highly inflationary. A highly inflationary economy is one where the cumulative inflation rate for the three years preceding the beginning of the reporting period, including interim reporting periods, is in excess of 100 percent. As a result of this designation and based on the guidance in ASC 830, “Foreign Currency Matters,” we changed the functional
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currency of our wholly-owned subsidiary from the Argentinian peso to the U.S. dollar effective July 1, 2018. For the six months ended December 31, 2018, our wholly-owned subsidiary in Argentina had net sales of approximately $92.2 million, and it had total assets of approximately $104.5 million as of December 31, 2018. The monetary assets and liabilities were remeasured based on current published exchange rates.
We recorded an income tax provision of $110.9 million in 2018 compared to $133.6 million in 2017. Our tax provision and effective tax rate are impacted by the differing tax rates of the various tax jurisdictions in which we operate, permanent differences for items treated differently for financial accounting and income tax purposes and for losses in jurisdictions where no income tax benefit is recorded. During 2017, we recorded a tax provision of approximately $42.0 million resulting from an estimate of the impact of the U.S. tax reform legislation enacted on December 22, 2017. During 2018, we finalized our calculations related to the U.S. tax reform legislation and recorded a tax benefit of approximately $8.5 million. At December 31, 2018 and 2017, we had gross deferred tax assets of $350.2 million and $354.9 million, respectively, including $74.5 million and $83.4 million, respectively, related to net operating loss carryforwards. At December 31, 2018, we had total valuation allowances as an offset to our gross deferred tax assets of approximately $83.9 million, which included allowances against net operating loss carryforwards in Brazil, China, the United Kingdom and the Netherlands, as well as allowances against our net deferred taxes in the U.S. At December 31, 2017, we had total valuation allowances as an offset to the gross deferred tax assets of approximately $81.9 million, primarily related to net operating loss carryforwards in Brazil, China, the United Kingdom and the Netherlands, as well as allowances against our net deferred taxes in the U.S. Realization of the remaining deferred tax assets as of December 31, 2018 will depend on generating sufficient taxable income in future periods, net of reversing deferred tax liabilities. We believe it is more likely than not that the remaining net deferred tax assets will be realized. Refer to Note 6 of our Consolidated Financial Statements for further information.
Equity in net earnings of affiliates, which is primarily comprised of income from our finance joint ventures, was $34.3 million in 2018 compared to $39.1 million in 2017, primarily due to lower net earnings from certain finance joint ventures and other affiliates. Refer to “Finance Joint Ventures” for further information regarding our finance joint ventures and their results of operations and to Note 5 of our Consolidated Financial Statements.
2017 Compared to 2016
Net income attributable to AGCO Corporation and subsidiaries for 2017 was $186.4 million, or $2.32 per diluted share, compared to net income for 2016 of $160.1 million, or $1.96 per diluted share for 2016.
Net sales for 2017 were approximately $8,306.5 million, or 12.1% higher than 2016, primarily due to sales growth in all regions, the positive impact of acquisitions and the benefit of currency translations impacts. Income from operations was $404.4 million in 2017 compared to $287.0 million in 2016. The increase in income from operations in 2017 was primarily a result of higher net sales and improved margins resulting from higher production levels and other cost reduction initiatives.
Regionally, income from operations in the EME region increased by approximately $93.1 million in 2017 compared to 2016, driven primarily by higher net sales and improved margins resulting from increased production levels. In our North American region, income from operations improved by approximately $25.3 million. Higher net sales, improved factory productivity and expense reduction efforts resulted in the improvement in operating margins. In South America, income from operations decreased approximately $5.0 million in 2017 compared to 2016. The decline was due to lower margins resulting from decreased production levels, material cost inflation and costs associated with transitioning our higher horsepower products to new tier 3 emission technology. Income from operations in our APA region increased approximately $29.1 million in 2017 compared to 2016 primarily due to the growth in net sales and improved margins.
Industry Market Conditions
In North America, tractor and combine demand improved over 2016 levels, but demand in the other row crop segments remains weak. Specifically, industry unit retail sales of higher horsepower tractors were relatively flat, while industry unit retail sales of combines increased approximately 10% in 2017 compared to 2016. In addition, industry unit retail sales of lower-horsepower tractors grew modestly, while unit retail sales of hay and forage equipment deteriorated. Industry retail sales in Western Europe improved during 2017 with the strongest growth in Germany, Italy and the United Kingdom. Recovery in the dairy sector helped to support retail sales and improve overall confidence in the region. Lower commodity prices however pressured market demand in the arable farming segment. Industry unit retail sales of tractors increased approximately 4% in 2017 compared to 2016 in the region, while combine industry unit retail sales decreased approximately 6% over the same period. Industry retail sales in South America rose during the full year of 2017 as demand in Brazil grew strongly from depressed first half levels experienced in 2016. Brazilian sales slowed in the second half of 2017 as ongoing political and economic uncertainty dampened farmer confidence. The Argentine market was robust in 2017 as supportive government
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policies stimulated growth. Industry unit retail sales of tractors and combines both increased in the region by approximately 13% in 2017 compared to 2016.
Results of Operations
Net sales for 2017 were $8,306.5 million compared to $7,410.5 million for 2016, primarily due to stable growth in all regions, acquisitions and the favorable impact of foreign currency translation. The following table sets forth, for the year ended December 31, 2017, the impact to net sales of currency translation by geographical segment (in millions, except percentages):
Change | Change due to Currency Translation | Change due to Acquisitions | ||||||||||||||||||||||||||
2017 | 2016 | $ | % | $ | % | $ | % | |||||||||||||||||||||
North America | $ | 1,876.7 | $ | 1,807.7 | $ | 69.0 | 3.8 | % | $ | 4.7 | 0.3 | % | $ | 38.8 | 2.1 | % | ||||||||||||
South America | 1,063.5 | 917.5 | 146.0 | 15.9 | % | 41.3 | 4.5 | % | 4.1 | 0.4 | % | |||||||||||||||||
EME | 4,614.3 | 4,089.7 | 524.6 | 12.8 | % | 57.6 | 1.4 | % | 110.6 | 2.7 | % | |||||||||||||||||
APA | 752.0 | 595.6 | 156.4 | 26.3 | % | 13.9 | 2.3 | % | 24.1 | 4.0 | % | |||||||||||||||||
$ | 8,306.5 | $ | 7,410.5 | $ | 896.0 | 12.1 | % | $ | 117.5 | 1.6 | % | $ | 177.6 | 2.4 | % | |||||||||||||
Regionally, net sales in North America increased during 2017 compared to 2016, driven by positive acquisition impacts. Mixed industry demand and dealer inventory reduction efforts pressured sales volumes in the region. Tractor sales growth due to new product introductions was mostly offset by sales declines in hay tools, sprayers and grain storage equipment. Net sales grew in South America in 2017 compared to 2016. The increase was driven by robust demand in Argentina as well as modest growth in Brazil. In the EME region, net sales increased during 2017 compared to 2016, with growth strongest in the key markets of the United Kingdom, Germany and Italy. In the APA region, net sales increased in 2017 compared to 2016, primarily due to a growth in sales in China and Australia. We estimate that worldwide average price increases were approximately 1.1% and 1.5% in 2017 and 2016, respectively. Consolidated net sales of tractors and combines, which comprised approximately 62% of our net sales in 2017, increased approximately 13% in 2017 compared to 2016. Unit sales of tractors and combines increased approximately 3.6% during 2017 compared to 2016. The unit sales increase and the increase in net sales can differ due to foreign currency translation, pricing and sales mix changes.
The following table sets forth, for the years ended December 31, 2017 and 2016, the percentage relationship to net sales of certain items included in our Consolidated Statements of Operations (in millions, except percentages):
2017 | 2016 | ||||||||||||
$ | % of Net Sales | $ | % of Net Sales | ||||||||||
Gross profit | $ | 1,765.3 | 21.3 | % | $ | 1,515.5 | 20.5 | % | |||||
Selling, general and administrative expenses | 964.7 | 11.6 | % | 864.6 | 11.7 | % | |||||||
Engineering expenses | 323.4 | 3.9 | % | 297.6 | 4.0 | % | |||||||
Restructuring expenses | 11.2 | 0.1 | % | 11.9 | 0.2 | % | |||||||
Amortization of intangibles | 57.0 | 0.7 | % | 51.2 | 0.7 | % | |||||||
Bad debt expense | 4.6 | 0.1 | % | 3.2 | — | % | |||||||
Income from operations | $ | 404.4 | 4.9 | % | $ | 287.0 | 3.9 | % | |||||
Gross profit as a percentage of net sales increased during 2017 compared to 2016, primarily due to higher sales and production volumes, reduced warranty costs and the benefits from material cost containment and productivity initiatives. Production hours increased approximately 3% during 2017 compared to 2016. We recorded stock compensation expense of approximately $2.8 million and $1.5 million during 2017 and 2016, respectively, within cost of goods sold, as is more fully explained in Note 10 of our Consolidated Financial Statements.
SG&A expenses and engineering expenses increased in dollars but were relatively flat as a percentage of net sales during 2017 compared to 2016. The increases in SG&A and engineering expenses were primarily the result of labor cost increases and the impact of acquisitions as well as negative foreign currency translation impacts during 2017. Engineering expenses also increased during 2016 to support investments in future new product introductions. We recorded stock
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compensation expense of approximately $35.6 million and $16.9 million during 2017 and 2016, respectively, within SG&A expenses, as is more fully explained in Note 10 of our Consolidated Financial Statements.
We recorded restructuring expenses of approximately $11.2 million and $11.9 million during 2017 and 2016, respectively. The restructuring expenses recorded in 2017 and 2016 primarily related to severance and related costs associated with the rationalization of employee headcount at various manufacturing facilities and administrative offices located in Europe, China, South America and the United States.
Interest expense, net was $45.1 million for 2017 compared to $52.1 million for 2016. See “Liquidity and Capital Resources” for further information.
Other expense, net was $75.5 million in 2017 compared to $30.0 million in 2016. Losses on sales of receivables, primarily related to our accounts receivable sales agreements with our finance joint ventures in North America, Europe and Brazil, were approximately $39.2 million and $19.5 million in 2017 and 2016, respectively, due to an increase in the volume of receivables sold during 2017 as compared to 2016. In addition, higher hedging costs and foreign exchange losses in 2017 as compared to 2016 contributed to the increase in other expense, net.
We recorded an income tax provision of $133.6 million in 2017 compared to $92.2 million in 2016. Our tax provision and effective tax rate are impacted by the differing tax rates of the various tax jurisdictions in which we operate, permanent differences for items treated differently for financial accounting and income tax purposes and for losses in jurisdictions where no income tax benefit is recorded. During 2017, we recorded a tax provision of approximately $42.0 million resulting from an estimate of the impact of the U.S. tax reform legislation enacted on December 22, 2017. During 2016, we recorded a non-cash deferred tax adjustment to establish a valuation allowance against our U.S. net deferred income tax assets. A valuation allowance is established when it is more likely than not that some portion or all of a company’s deferred tax assets will not be realized. We assessed the likelihood that our deferred tax assets would be recovered from estimated future taxable income and available income tax planning strategies at that time and concluded a valuation allowance should be established. At December 31, 2017 and 2016, we had gross deferred tax assets of $354.9 million and $447.4 million, respectively, including $83.4 million and $85.5 million, respectively, related to net operating loss carryforwards. At December 31, 2017, we had total valuation allowances as an offset to our gross deferred tax assets of approximately $81.9 million, which included allowances against net operating loss carryforwards in Brazil, China, Russia and the Netherlands, as well as allowances against our net deferred taxes in the U.S., as previously discussed. At December 31, 2016, we had total valuation allowances as an offset to the gross deferred tax assets of approximately $116.0 million, primarily related to net operating loss carryforwards in Brazil, China, Russia and the Netherlands, as well as allowances against our net deferred taxes in the U.S.
Equity in net earnings of affiliates, which is primarily comprised of income from our finance joint ventures, was $39.1 million in 2017 compared to $47.5 million in 2016 primarily due to lower net earnings from certain finance joint ventures and other affiliates. Refer to “Finance Joint Ventures” for further information regarding our finance joint ventures and their results of operations and to Note 5 of our Consolidated Financial Statements.
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Quarterly Results
The following table presents unaudited interim operating results. We believe that the following information includes all adjustments, consisting only of normal recurring adjustments, necessary to present fairly our results of operations for the periods presented.
Three Months Ended | |||||||||||||||
March 31 | June 30 | September 30 | December 31 | ||||||||||||
(In millions, except per share data) | |||||||||||||||
2018: | |||||||||||||||
Net sales | $ | 2,007.5 | $ | 2,537.6 | $ | 2,214.7 | $ | 2,592.2 | |||||||
Gross profit | 428.0 | 556.3 | 473.7 | 538.7 | |||||||||||
Income from operations | 50.5 | 168.1 | 111.3 | 159.1 | |||||||||||
Net income | 25.0 | 90.4 | 70.7 | 97.6 | |||||||||||
Net (income) loss attributable to noncontrolling interests | (0.7 | ) | 1.0 | 0.4 | 1.1 | ||||||||||
Net income attributable to AGCO Corporation and subsidiaries | 24.3 | 91.4 | 71.1 | 98.7 | |||||||||||
Net income per common share attributable to AGCO Corporation and subsidiaries — diluted | 0.30 | 1.14 | 0.89 | 1.26 | |||||||||||
2017: | |||||||||||||||
Net sales | $ | 1,627.6 | $ | 2,165.2 | $ | 1,986.3 | $ | 2,527.4 | |||||||
Gross profit | 330.3 | 475.4 | 428.6 | 531.0 | |||||||||||
Income from operations | 15.7 | 148.3 | 97.1 | 143.3 | |||||||||||
Net (loss) income | (8.2 | ) | 91.6 | 60.8 | 45.1 | ||||||||||
Net income attributable to noncontrolling interests | (1.9 | ) | (0.1 | ) | (0.1 | ) | (0.8 | ) | |||||||
Net (loss) income attributable to AGCO Corporation and subsidiaries | (10.1 | ) | 91.5 | 60.7 | 44.3 | ||||||||||
Net (loss) income per common share attributable to AGCO Corporation and subsidiaries — diluted | (0.13 | ) | 1.14 | 0.76 | 0.55 | ||||||||||
Finance Joint Ventures
Our AGCO Finance joint ventures provide both retail financing and wholesale financing to our dealers in the United States, Canada, Europe, Brazil, Argentina and Australia. The joint ventures are owned by AGCO and by a wholly-owned subsidiary of Rabobank, a financial institution based in the Netherlands. The majority of the assets of the finance joint ventures consist of finance receivables. The majority of the liabilities consist of notes payable and accrued interest. Under the various joint venture agreements, Rabobank or its affiliates provide financing to the finance joint ventures, primarily through lines of credit. We do not guarantee the debt obligations of the joint ventures. As of December 31, 2018, our capital investment in the finance joint ventures, which is included in “Investment in affiliates” on our Consolidated Balance Sheets, was approximately $358.7 million compared to $373.7 million as of December 31, 2017. The total finance portfolio in our finance joint ventures was approximately $8.8 billion as of December 31, 2018 and 2017, respectively. The total finance portfolio as of December 31, 2018 and 2017 included approximately $7.2 billion and $7.3 billion, respectively, of retail receivables and $1.6 billion and $1.5 billion, respectively, of wholesale receivables from AGCO dealers. The wholesale receivables either were sold directly to AGCO Finance without recourse from our operating companies or AGCO Finance provided the financing directly to the dealers. During 2018 and 2017, we did not make additional investments in our finance joint ventures. During 2018 and 2017, we received dividends of approximately $29.4 million and $78.5 million, respectively, from certain of our finance joint ventures. Our share in the earnings of the finance joint ventures, included in “Equity in net earnings of affiliates” within our Consolidated Statements of Operations, was $34.7 million and $39.1 million for the years ended December 31, 2018 and 2017, respectively, with the decrease in earnings primarily due to lower income in the U.S. and Brazilian finance joint ventures during 2018 as compared to 2017.
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Outlook
Our operations are subject to the cyclical nature of the agricultural industry. Sales of our equipment have been and are expected to continue to be affected by changes in net cash farm income, farm land values, weather conditions, the demand for agricultural commodities, farm industry related legislation and policies, availability of financing and general economic conditions.
Global industry demand is projected to improve modestly during 2019. Our net sales are expected to increase in 2019 compared to 2018, primarily due to improved sales volumes and positive pricing impacts, offset by unfavorable foreign currency translation. Gross and operating margins are expected to improve from 2018 levels, reflecting the positive impact of pricing and cost reduction efforts.
Recent Acquisitions
On October 2, 2017, we acquired the forage division of the Lely Group (“Lely”) for approximately €80.2 million (or approximately $94.6 million), net of cash acquired of approximately €10.1 million (or approximately $11.9 million). The Lely acquisition, with manufacturing locations in northern Germany, allowed the Company to expand its product offering of hay and forage equipment, including balers, loader wagons and other harvesting tools. The acquisition was financed through our credit facility (see Note 7 of our Consolidated Financial Statements for further information). We allocated the purchase price to the assets acquired and liabilities assumed based on their fair values as of the acquisition date. The acquired net assets primarily consisted of accounts receivable, inventories, accounts payable and accrued expenses, property, plant and equipment, and customer relationship, technology and trademark indentifiable intangible assets. We recorded approximately $7.6 million of customer relationship, technology and trademark identifiable intangible assets and approximately $25.8 million of goodwill associated with the acquisition.
On September 1, 2017, we acquired Precision Planting LLC (“Precision Planting”) for approximately $198.1 million, net of cash acquired of approximately $1.6 million. Precision Planting, headquartered in Tremont, Illinois, is a leading manufacturer of high-tech planting equipment. The acquisition of Precision Planting provided us an opportunity to expand our precision farming technology offerings on a global basis. The acquisition was financed through our credit facility (see Note 7 of our Consolidated Financial Statements for further information). We allocated the purchase price to the assets acquired and liabilities assumed based on their fair values as of the acquisition date. The acquired assets primarily consisted of accounts receivable, inventories, accounts payable and accrued expenses, property, plant and equipment, and customer relationship, technology and trademark identifiable intangible assets. We recorded approximately $64.4 million of customer relationship, technology and trademark identifiable intangible assets and approximately $67.2 million of goodwill associated with the acquisition.
On September 12, 2016, we acquired Cimbria Holdings Limited (“Cimbria”) for DKK 2,234.9 million (or approximately $337.5 million), net of cash acquired of approximately DKK 83.4 million (or approximately $12.6 million). Cimbria, headquartered in Thisted, Denmark, is a leading manufacturer of products and solutions for the processing, handling and storage of seed and grain. The acquisition was financed through our credit facility (see Note 7 of our Consolidated Financial Statements for further information). We allocated the purchase price to the assets acquired and liabilities assumed based on their fair values as of the acquisition date. The acquired assets primarily consisted of accounts receivable, inventories, accounts payable and accrued expenses, customer advances, property, plant and equipment, and customer relationship, technology and trademark identifiable intangible assets. We recorded approximately $128.9 million of customer relationship, technology and trademark identifiable intangible assets and approximately $237.9 million of goodwill associated with the acquisition.
On February 2, 2016, we acquired Tecno Poultry Equipment S.p.A (“Tecno”) for approximately €58.7 million (or approximately $63.8 million). We acquired cash of approximately €17.6 million (or approximately $19.1 million) associated with the acquisition. Tecno, headquartered in Ronchi Di Villafranca, Italy, manufactures and supplies poultry housing and related products, including egg collection equipment and trolley feeding systems. The acquisition was financed through our credit facility (refer to Note 7 of our Consolidated Financial Statements for further information). We allocated the purchase price to the assets acquired and liabilities assumed based on their fair values as of the acquisition date. The acquired net assets primarily consisted of accounts receivable, inventories, accounts payable and accrued expenses, deferred revenue, property, plant and equipment and customer relationship, technology and trademark identifiable intangible assets. We recorded approximately $27.5 million of customer relationship, technology and trademark identifiable intangible assets and approximately $20.4 million of goodwill associated with the acquisition.
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Liquidity and Capital Resources
Our financing requirements are subject to variations due to seasonal changes in inventory and receivable levels. Internally generated funds are supplemented when necessary from external sources, primarily our credit facility and accounts receivable sales agreement facilities. We believe that the following facilities, together with available cash and internally generated funds, will be sufficient to support our working capital, capital expenditures and debt service requirements for the foreseeable future (in millions):
December 31, 2018 | |||
Senior term loan due 2022 | $ | 171.5 | |
Credit facility, expires 2023 | 114.4 | ||
Senior term loans due between 2019 and 2028 | 815.3 | ||
1.056% Senior term loan due 2020 | 228.7 | ||
Other long-term debt | 132.2 | ||
Debt issuance costs | (2.6 | ) | |
$ | 1,459.5 | ||
In October 2018, we entered into a term loan agreement with Rabobank in the amount of €150.0 million (or approximately $171.5 million as of December 31, 2018). We have the ability to prepay the term loan before its maturity date on October 28, 2022. Interest is payable on the term loan quarterly in arrears at an annual rate equal to the EURIBOR plus a margin ranging from 0.875% to 1.875% based on our credit rating. We also have to fulfill financial covenants with respect to a total debt to EBITDA ratio and an interest coverage ratio. In connection with this new term loan agreement, in October 2018, we repaid our €100.0 million (or approximately $113.2 million) term loan outstanding under a former term loan agreement with Rabobank that was entered into in April 2016.
In October 2018, we entered into a multi-currency revolving credit facility of $800.0 million. The maturity date of the credit facility is October 17, 2023. Interest accrues on amounts outstanding under the credit facility, at our option, at either (1) LIBOR plus a margin ranging from 0.875% to 1.875% based on our credit rating, or (2) the base rate, which is equal to the higher of (i) the administrative agent’s base lending rate for the applicable currency, (ii) the federal funds rate plus 0.5%, and (iii) one-month LIBOR for loans denominated in U.S. dollars plus 1.0%, plus a margin ranging from 0.0% to 0.875% based on our credit rating. The credit facility contains covenants restricting, among other things, the incurrence of indebtedness and the making of certain payments, including dividends. We also have to fulfill financial covenants with respect to a total debt to EBITDA ratio and an interest coverage ratio. In connection with the closing of this new credit facility in October 2018, we repaid our outstanding €312.0 million (or approximately $360.8 million) term loan under our former revolving credit and term loan facility. We recorded approximately $0.9 million associated with the write-off of deferred debt issuance costs associated with the repayment. In addition, we recorded a loss of approximately $3.9 million related to the termination of our interest rate swap instrument associated with the former facility’s term loan.
In August 2018, we borrowed an additional aggregate amount of indebtedness of €338.0 million (or approximately $394.7 million) through a group of seven related term loan agreements. Proceeds from the borrowings were used to repay borrowings under our former revolving credit facility. The provisions of the term loan agreements are identical in nature with the exception of interest rate terms and maturities. The maturities of the term loan agreements range from August 1, 2021 to August 1, 2028.
In October 2016, we borrowed an aggregate amount of €375.0 million through a group of seven related term loan agreements. These agreements have maturities ranging from October 2019 to October 2026. Of those term loans, an aggregate amount of €55.8 million (or $63.8 million) as of December 31, 2018 have maturity dates of October 2019.
In May 2018, we completed a cash tender offer to purchase any and all of our outstanding 57/8% senior notes at a cash purchase price of $1,077.50 per $1,000.00 of senior notes. As a result of the tender offer, we repurchased approximately $185.9 million of principal amount of the senior notes for approximately $200.3 million, plus accrued interest. The repurchase resulted in a loss on extinguishment of debt of approximately $15.7 million, including associated fees. In October 2018, we repurchased the remaining principal amount of the senior notes of approximately $114.1 million for approximately $122.5 million, plus accrued interest. The repurchase resulted in a loss on extinguishment of debt of approximately $8.8 million, including associated fees. As a result of the repurchase of the 57/8% senior notes, we recorded a cumulative amount of approximately $4.7 million of accelerated amortization of a deferred gain related to a terminated interest rate swap instrument associated with the
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senior notes. The losses on extinguishment as well as the accelerated amortization were reflected in “Interest expense, net,” for the year ended December 31, 2018.
In December 2018, we entered into a term loan agreement with the European Investment Bank (“EIB”), which provided us with the ability to borrow up to €250.0 million. The €250.0 million (or approximately $284.6 million) of funding was received on January 25, 2019 with a maturity date of January 24, 2025. We have the ability to prepay the term loan before its maturity date. Interest is payable on the term loan at 1.002% per annum, payable semi-annually in arrears. We have another term loan with the EIB in the amount of €200.0 million (or approximately $228.7 million as of December 31, 2018) that was entered into in December 2014. It has a maturity date of January 15, 2020.
While we are in compliance with the financial covenants contained in these facilities and currently expect to continue to maintain such compliance, should we ever encounter difficulties, our historical relationship with our lenders has been strong and we anticipate their continued long-term support of our business. Refer to Note 7 to the Consolidated Financial Statements for further information regarding our current facilities.
Our accounts receivable sales agreements in North America, Europe and Brazil permit the sale, on an ongoing basis, of a majority of our receivables in North America, Europe and Brazil to our U.S., Canadian, European and Brazilian finance joint ventures. The sale of all receivables are without recourse to us. We do not service the receivables after the sale occurs, and we do not maintain any direct retained interest in the receivables. These agreements are accounted for as off-balance sheet transactions and have the effect of reducing accounts receivable and short-term liabilities by the same amount. As of December 31, 2018 and 2017, the cash received from receivables sold under the U.S., Canadian, European and Brazilian accounts receivable sales agreements was approximately $1.4 billion and $1.3 billion, respectively.
Our finance joint ventures in Europe, Brazil and Australia also provide wholesale financing directly to our dealers. The receivables associated with these arrangements also are without recourse to us. As of December 31, 2018 and 2017, these finance joint ventures had approximately $82.5 million and $41.6 million, respectively, of outstanding accounts receivable associated with these arrangements. These arrangements are accounted for as off-balance sheet transactions. In addition, we sell certain trade receivables under factoring arrangements to other financial institutions around the world. These arrangements also are accounted for as off-balance sheet transactions.
Our debt to capitalization ratio, which is total indebtedness divided by the sum of total indebtedness and stockholders’ equity, was 32.8% at December 31, 2018 compared to 35.7% at December 31, 2017.
Cash Flows
Cash flows provided by operating activities were $595.9 million during 2018 compared to $577.6 million during 2017 and $369.5 million during 2016. The increase during 2018 was primarily due to an increase in net income as well as an increase in accrued expenses, offset by an increase in inventories. In addition, we received a decreased amount of dividends from our finance joint ventures in 2018 as compared to 2017. The increase in cash flows provided by operating activities during 2017 as compared to 2016 was primarily due to an increase in net income as well as an increase in accounts payable and accrued expenses, offset by an increase in inventories.
Our working capital requirements are seasonal, with investments in working capital typically building in the first half of the year and then reducing in the second half of the year. We had $770.7 million in working capital at December 31, 2018, as compared with $977.1 million at December 31, 2017. Accounts receivable and inventories, combined, at December 31, 2018 were $103.3 million lower than at December 31, 2017. Excluding the negative impact of currency translation, inventories increased as of December 31, 2018 as compared to December 31, 2017 as a result of acquisition impacts, higher production and increased inventory required to transition production to products meeting new emissions standards in Europe and Brazil.
Share Repurchase Program
During 2018 and 2016, we repurchased 3,120,184 and 4,413,250 shares of our common stock, respectively, for approximately $184.3 million and $212.5 million, respectively, either through Accelerated Share Repurchase (“ASR”) agreements with financial institutions or through open market transactions. During 2017, we received approximately 70,464 shares associated with the remaining balance of shares to be delivered under an ASR agreement that was completed in November 2016. All shares received under the ASR agreements were retired upon receipt, and the excess of the purchase price over par value per share was recorded to “Additional paid-in capital” within the our Consolidated Balance Sheets.
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During 2019, we entered into an ASR agreement with a financial institution to repurchase an aggregate of $30.0 million shares of our common stock. We received approximately 379,927 shares to date in this transaction. The specific number of shares we will ultimately repurchase will be determined at the completion of the term of the ASR based on the daily volume-weighted average share price of our common stock less an agreed-upon discount. Upon settlement of the ASR, we may be entitled to receive additional shares of common stock or, under certain circumstances, be required to remit a settlement amount. We expect that additional shares will be received by us upon final settlement of our current ASR agreement, which expires during the second quarter of 2019. All shares received under the ASR agreement discussed above were retired upon receipt and the excess of the purchase price over par value per share was recorded to “Additional paid-in capital” within our Consolidated Balance Sheets.
Contractual Obligations
The future payments required under our significant contractual obligations, excluding foreign currency option and forward contracts, as of December 31, 2018 are as follows (in millions):
Payments Due By Period | |||||||||||||||||||
Total | 2019 | 2020 to 2021 | 2022 to 2023 | 2024 and Beyond | |||||||||||||||
Indebtedness(1) | $ | 1,459.5 | $ | 184.2 | $ | 534.1 | $ | 571.1 | $ | 170.1 | |||||||||
Interest payments related to indebtedness(2) | 59.0 | 15.0 | 22.0 | 13.4 | 8.6 | ||||||||||||||
Capital lease obligations | 15.5 | 4.6 | 5.9 | 1.5 | 3.5 | ||||||||||||||
Operating lease obligations | 252.0 | 46.7 | 72.1 | 47.7 | 85.5 | ||||||||||||||
Unconditional purchase obligations | 97.8 | 79.1 | 17.7 | 1.0 | — | ||||||||||||||
Other short-term and long-term obligations(3) | 322.4 | 98.9 | 137.2 | 48.9 | 37.4 | ||||||||||||||
Total contractual cash obligations | $ | 2,206.2 | $ | 428.5 | $ | 789.0 | $ | 683.6 | $ | 305.1 | |||||||||
Amount of Commitment Expiration Per Period | |||||||||||||||||||
Total | 2019 | 2020 to 2021 | 2022 to 2023 | 2024 and Beyond | |||||||||||||||
Standby letters of credit and similar instruments | $ | 14.1 | $ | 14.1 | $ | — | $ | — | $ | — | |||||||||
Guarantees | 54.2 | 36.9 | 9.9 | 6.7 | 0.7 | ||||||||||||||
Total commercial commitments and letters of credit | $ | 68.3 | $ | 51.0 | $ | 9.9 | $ | 6.7 | $ | 0.7 | |||||||||
(1) | Indebtedness amounts reflect the principal amount of our senior term loan, senior notes and credit facility. |
(2) | Estimated interest payments are calculated assuming current interest rates over minimum maturity periods specified in debt agreements. Debt may be repaid sooner or later than such minimum maturity periods. |
(3) | Other short-term and long-term obligations include estimates of future minimum contribution requirements under our U.S. and non-U.S. defined benefit pension and postretirement plans. These estimates are based on current legislation in the countries we operate within and are subject to change. Other short-term and long-term obligations also include income tax liabilities related to uncertain income tax positions connected with ongoing income tax audits in various jurisdictions. |
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Commitments and Off-Balance Sheet Arrangements
Guarantees
We maintain a remarketing agreement with our finance joint venture in the United States, whereby we are obligated to repurchase up to $6.0 million of repossessed equipment each calendar year. We believe that any losses that might be incurred on the resale of this equipment will not materially impact our financial position or results of operations, due to the fact that the repurchase obligation would be equivalent to the fair value of the underlying equipment.
At December 31, 2018, we guaranteed indebtedness owed to third parties of approximately $40.6 million, primarily related to dealer and end-user financing of equipment. Such guarantees generally obligate us to repay outstanding finance obligations owed to financial institutions if dealers or end users default on such loans through 2023. Losses under such guarantees historically have been insignificant. In addition, we generally would expect to be able to recover a significant portion of the amounts paid under such guarantees from the sale of the underlying financed farm equipment, as the fair value of such equipment is expected to offset a substantial portion of the amounts paid. We believe the credit risk associated with these guarantees is not material to our financial position or results of operations.
In addition, at December 31, 2018, we had accrued approximately $13.6 million of outstanding guarantees of minimum residual values that may be owed to our finance joint ventures in the United States and Canada due upon expiration of certain eligible operating leases between the finance joint ventures and end users.
Other
At December 31, 2018, we had outstanding designated and non-designated foreign exchange contracts with a gross notional amount of approximately $1,462.8 million. The outstanding contracts as of December 31, 2018 range in maturity through December 2018.
As discussed in “Liquidity and Capital Resources,” we sell a majority of our wholesale accounts receivable in North America, Europe and Brazil to our U.S., Canadian, European and Brazilian finance joint ventures. We also sell certain accounts receivable under factoring arrangements to financial institutions around the world. We have determined that these facilities should be accounted for as off-balance sheet transactions.
Contingencies
We are party to various claims and lawsuits arising in the normal course of business. We closely monitor these claims and lawsuits and frequently consult with our legal counsel to determine whether they may, when resolved, have a material adverse effect on our financial position or results of operations and accrue and/or disclose loss contingencies as appropriate (see Note 12 of our Consolidated Financial Statements and Item 3, “Legal Proceedings”).
Related Parties
Rabobank is a 51% owner in our finance joint ventures. See “Finance Joint Ventures.” Rabobank is also the principal agent and participant in our credit facility.
Our finance joint ventures provide retail and wholesale financing to our dealers. In addition, we transfer, on an ongoing basis, a majority of our wholesale receivables in North America, Europe and Brazil to our U.S., Canadian, European and Brazilian finance joint ventures. See Note 4 of our Consolidated Financial Statements for further discussion of these agreements. We maintain a remarketing agreement with our U.S. finance joint venture, AGCO Finance LLC, as discussed above under “Commitments and Off-Balance Sheet Arrangements.” In addition, as part of sales incentives provided to end users, we may from time to time subsidize interest rates of retail financing provided by our finance joint ventures. The cost of those programs is recognized at the time of sale to our dealers.
TAFE, in which we hold a 23.75% interest, manufactures and sells Massey Ferguson-branded equipment primarily in India, and also supplies tractors and components to us for sale in other markets. Mallika Srinivasan, who is the Chairman and Chief Executive Officer of TAFE, is currently a member of our Board of Directors. As of December 31, 2018, TAFE owned 12,150,152 shares of our common stock. We and TAFE are parties to an agreement pursuant to which, among other things, TAFE has agreed not to purchase in excess of 12,170,290 shares of our common stock, subject to certain adjustments, and we have agreed to annually nominate a TAFE representative to our Board of Directors. During 2018, 2017 and 2016, we purchased approximately $109.6 million, $102.0 million and $128.5 million, respectively, of tractors and components from TAFE. During
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2018, 2017 and 2016, we sold approximately $1.8 million, $1.2 million and $1.1 million, respectively, of parts to TAFE. We received dividends from TAFE of approximately $1.8 million, during both 2018 and 2017, and $1.6 million during 2016.
During 2018, 2017 and 2016, we paid approximately $3.5 million, $7.2 million and $3.1 million, respectively, to PPG Industries, Inc. for painting materials used in our manufacturing processes. Our Chairman, President and Chief Executive Officer is currently a member of the board of directors of PPG Industries, Inc.
During 2018, 2017 and 2016, we paid approximately $1.6 million, $1.5 million and $2.0 million, respectively, to Praxair, Inc. for propane, gas and welding, and laser consumables used in our manufacturing processes. Our Chairman, President and Chief Executive Officer is currently a member of the board of directors of Praxair, Inc.
Foreign Currency Risk Management
We have significant manufacturing operations in the United States, France, Germany, Finland and Brazil, and we purchase a portion of our tractors, combines and components from third-party foreign suppliers, primarily in various European countries and in Japan. We also sell products in approximately 140 countries throughout the world. The majority of our net sales outside the United States are denominated in the currency of the customer location, with the exception of sales in the Middle East, Africa, Asia and parts of South America, where net sales are primarily denominated in British pounds, Euros or United States dollars. See Note 16 of our Consolidated Financial Statements for net sales by customer location. Our most significant transactional foreign currency exposures are the Euro, the Brazilian real and the Canadian dollar in relation to the United States dollar, and the Euro in relation to the British pound. Fluctuations in the value of foreign currencies create exposures, which can adversely affect our results of operations.
We attempt to manage our transactional foreign currency exposure by hedging foreign currency cash flow forecasts and commitments arising from the anticipated settlement of receivables and payables and from future purchases and sales. Where naturally offsetting currency positions do not occur, we hedge certain, but not all, of our exposures through the use of foreign currency contracts. Our translation exposure resulting from translating the financial statements of foreign subsidiaries into United States dollars is not hedged. Our most significant translation exposures are the Euro, the British pound and the Brazilian real in relation to the United States dollar. When practical, this translation impact is reduced by financing local operations with local borrowings. Our hedging policy prohibits use of foreign currency contracts for speculative trading purposes.
All derivatives are recognized on our Consolidated Balance Sheets at fair value. On the date a derivative contract is entered into, we designate the derivative as either (1) a cash flow hedge of a forecasted transaction, (2) a fair value hedge of a recognized liability, (3) a hedge of a net investment in a foreign operation, or (4) a non-designated derivative instrument. We currently engage in derivatives that are cash flow hedges of forecasted transactions as well as non-designated derivative instruments. The total notional value of our foreign currency instruments was $1,462.8 million and $1,798.2 million as of December 31, 2018 and 2017, inclusive of both those instruments that are designated and qualified for hedge accounting and non-designated derivative instruments. We also enter into derivative and non-derivative instruments to hedge a portion of our net investment in foreign operations against adverse movements in exchange rates. Refer to Note 11 of our Consolidated Financial Statements for additional information about our hedging transactions and derivative financial instruments.
Assuming a 10% change relative to the currency of the hedge contracts, the fair value of the foreign currency instruments could be negatively impacted by approximately $27.1 million as of December 31, 2018. Due to the fact that these instruments are primarily entered into for hedging purposes, the gains or losses on the contracts would largely be offset by losses and gains on the underlying firm commitment or forecasted transaction.
Interest Rate Risk
Our interest expense is, in part, sensitive to the general level of interest rates. We manage our exposure to interest rate risk through our mix of floating rate and fixed rate debt. From time to time, we enter into interest rate swap agreements to manage our exposure to interest rate fluctuations. Refer to Notes 7 and 11 of our Consolidated Financial Statements for additional information about our interest rate swap agreements.
Based on our floating rate debt and our accounts receivable sales facilities outstanding at December 31, 2018, a 10% increase in interest rates, would have increased, collectively, “Interest expense, net” and “Other expense, net” for the year ended December 31, 2018 by approximately $5.1 million.
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Recent Accounting Pronouncements
See Note 1 of our Consolidated Financial Statements for more information regarding recent accounting pronouncements and their impact to our consolidated results of operations and financial position.
Critical Accounting Estimates
We prepare our Consolidated Financial Statements in conformity with U.S. generally accepted accounting principles. In the preparation of these financial statements, we make judgments, estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The significant accounting policies followed in the preparation of the financial statements are detailed in Note 1 of our Consolidated Financial Statements. We believe that our application of the policies discussed below involves significant levels of judgment, estimates and complexity.
Due to the levels of judgment, complexity and period of time over which many of these items are resolved, actual results could differ from those estimated at the time of preparation of the financial statements. Adjustments to these estimates would impact our financial position and future results of operations.
Discount and Sales Incentive Allowances
We provide various volume bonus and sales incentive programs with respect to our products. These sales incentive programs include reductions in invoice prices, reductions in retail financing rates, dealer commissions and dealer incentive allowances. In most cases, incentive programs are established and communicated to our dealers on a quarterly basis. The incentives are paid either at the time of the cash settlement of the receivable (which is generally at the time of retail sale), at the time of retail financing, at the time of warranty registration, or at a subsequent time based on dealer purchase volumes. The incentive programs are product line specific and generally do not vary by dealer. The cost of sales incentives associated with dealer commissions and dealer incentive allowances is estimated based upon the terms of the programs and historical experience, is based on a percentage of the sales price, and estimates for sales incentives are made and recorded at the time of sale for existing incentive programs using the expected value method. These estimates are reassessed each reporting period and are revised in the event of subsequent modifications to incentive programs, as they are communicated to dealers. The related provisions and accruals are made on a product or product-line basis and are monitored for adequacy and revised at least quarterly in the event of subsequent modifications to the programs. Interest rate subsidy payments, which are a reduction in retail financing rates, are recorded in the same manner as dealer commissions and dealer incentive allowances. Volume discounts are estimated and recognized based on historical experience, and related reserves are monitored and adjusted based on actual dealer purchase volumes and the dealers’ progress towards achieving specified cumulative target levels. Estimates of these incentives are based on the terms of the programs and historical experience. All incentive programs are recorded and presented as a reduction of revenue, due to the fact that we do not receive a distinct good or service in exchange for the consideration provided. In the United States and Canada, reserves for incentive programs related to accounts receivable not sold to our U.S. and Canadian finance joint ventures are recorded as “accounts receivable allowances” within our Consolidated Balance Sheets due to the fact that the incentives are paid through a reduction of future cash settlement of the receivable. Globally, reserves for incentive programs that will be paid in cash or credit memos, as is the case with most of our volume discount programs, as well as sales incentives associated with accounts receivable sold to our finance joint ventures, are recorded within “Accrued expenses” within our Consolidated Balance Sheets.
At December 31, 2018, we had recorded an allowance for discounts and sales incentives of approximately $561.9 million that will be paid either through a reduction of future cash settlements of receivables and through credit memos to our dealers or through reductions in retail financing rates paid to our finance joint ventures. If we were to allow an additional 1% of sales incentives and discounts at the time of retail sale for those sales subject to such discount programs, our reserve would increase by approximately $19.7 million as of December 31, 2018. Conversely, if we were to decrease our sales incentives and discounts by 1% at the time of retail sale, our reserve would decrease by approximately $19.7 million as of December 31, 2018.
Deferred Income Taxes and Uncertain Income Tax Positions
We recorded an income tax provision of $110.9 million in 2018 compared to $133.6 million in 2017 and $92.2 million in 2016. Our tax provision and effective tax rate is impacted by the differing tax rates of the various tax jurisdictions in which we operate, permanent differences for items treated differently for financial accounting and income tax purposes, and for losses in jurisdictions where no income tax benefit is recorded.
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On December 22, 2017, the Tax Cuts and Jobs Act (“the 2017 Tax Act”) was enacted in the United States. During the three months ended December 31, 2017, we recorded a tax provision of approximately $42.0 million in accordance with Staff Accounting Bulletin No. 118, which provided SEC Staff guidance for the application of Accounting Standards Codification (“ASC”) 740 “Income Taxes,” in the reporting period in which the 2017 Tax Act was enacted. The $42.0 million tax provision included a provisional income tax charge related to a one-time transition tax associated with the mandatory deemed repatriation of unremitted foreign earnings. The tax provision also included a provisional income tax charge associated with the income tax consequences related to the expected future repatriation of certain underlying foreign earnings, as historically, we have considered them to be permanently reinvested. The remaining balance of the tax provision primarily related to the remeasurement of certain net deferred tax assets using the lower enacted U.S. Corporate tax rate (from 35 percent to 21 percent), as well as other miscellaneous related impacts. During the three months ended December 31, 2018, we finalized our calculations related to the 2017 Tax Act and recorded an income tax benefit of approximately $8.5 million.
During the second quarter of 2016, we established a valuation allowance to fully reserve our net deferred tax assets in the United States. A valuation allowance is established when it is more likely than not that some portion or all of the deferred tax assets will not be realized. We assessed the likelihood that our deferred tax assets would be recovered from estimated future taxable income and available tax planning strategies and determined that the adjustment to the valuation allowance was appropriate. In making this assessment, all available evidence was considered including the current economic climate, as well as reasonable tax planning strategies. We believe it is more likely than not that we will realize our remaining net deferred tax assets, net of the valuation allowance, in future years.
At December 31, 2018 and 2017, we had gross deferred tax assets of $350.2 million and $354.9 million, respectively, including $74.5 million and $83.4 million, respectively, related to net operating loss carryforwards. At December 31, 2018 and 2017, we had total valuation allowances as an offset to our gross deferred tax assets of $83.9 million and $81.9 million, respectively, which included allowances against net operating loss carryforwards in China, Brazil, the United Kingdom and the Netherlands, as well as allowances against our net deferred taxes in the U.S., as previously discussed. Realization of the remaining deferred tax assets as of December 31, 2018 will depend on generating sufficient taxable income in future periods, net of reversing deferred tax liabilities. We believe it is more likely than not that the remaining net deferred tax assets will be realized.
As of December 31, 2018 and 2017, we had approximately $166.1 million and $163.4 million, respectively, of unrecognized tax benefits, all of which would impact our effective tax rate if recognized. As of December 31, 2018 and 2017, we had approximately $58.5 million and $61.8 million, respectively, of current accrued taxes related to uncertain income tax positions connected with ongoing tax audits in various jurisdictions that we expect to settle or pay in the next 12 months. We recognize interest and penalties related to uncertain income tax positions in income tax expense. As of December 31, 2018 and 2017, we had accrued interest and penalties related to unrecognized tax benefits of approximately $27.2 million and $23.0 million, respectively. See Note 6 of our Consolidated Financial Statements for further discussion of our uncertain income tax positions.
Pensions
We sponsor defined benefit pension plans covering certain employees, principally in the United Kingdom, the United States, Germany, Switzerland, Finland, France, Norway and Argentina. Our primary plans cover certain employees in the United States and the United Kingdom.
In the United States, we sponsor a funded, qualified defined benefit pension plan for our salaried employees, as well as a separate funded qualified defined benefit pension plan for our hourly employees. Both plans are closed to new entrants and frozen, and we fund at least the minimum contributions required under the Employee Retirement Income Security Act of 1974 and the Internal Revenue Code to both plans. In addition, we maintain an unfunded, nonqualified defined benefit pension plan for certain U.S.-based senior executives, which is our Executive Nonqualified Pension Plan (“ENPP”). The ENPP is also closed to new entrants.
In the United Kingdom, we sponsor a funded defined benefit pension plan that provides an annuity benefit based on participants’ final average earnings and service. Participation in this plan is limited to certain older, longer service employees and existing retirees. This plan is closed to new participants.
See Note 8 of our Consolidated Financial Statements for more information regarding costs and assumptions for employee retirement benefits.
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Nature of Estimates Required. The measurement date for all of our benefit plans is December 31. The measurement of our pension obligations, costs and liabilities is dependent on a variety of assumptions provided by management and used by our actuaries. These assumptions include estimates of the present value of projected future pension payments to all plan participants, taking into consideration the likelihood of potential future events such as salary increases and demographic experience. These assumptions may have an effect on the amount and timing of future contributions.
Assumptions and Approach Used. The assumptions used in developing the required estimates include, but are not limited to, the following key factors:
• Discount rates | • Inflation |
• Salary growth | • Expected return on plan assets |
• Retirement rates and ages | • Mortality rates |
For the years ended December 31, 2018, 2017 and 2016, we used a globally consistent methodology to set the discount rate in the countries where our largest benefit obligations exist. In the United States, the United Kingdom and the Euro Zone, we constructed a hypothetical bond portfolio of high-quality corporate bonds and then applied the cash flows of our benefit plans to those bond yields to derive a discount rate. The bond portfolio and plan-specific cash flows vary by country, but the methodology in which the portfolio is constructed is consistent. In the United States, the bond portfolio is large enough to result in taking a “settlement approach” to derive the discount rate, in which high-quality corporate bonds are assumed to be purchased and the resulting coupon payments and maturities are used to satisfy our U.S. pension plans’ projected benefit payments. In the United Kingdom and the Euro Zone, the discount rate is derived using a “yield curve approach,” in which an individual spot rate, or zero coupon bond yield, for each future annual period is developed to discount each future benefit payment and, thereby, determine the present value of all future payments. The Company uses a spot yield curve to determine the discount rate applicable in the United Kingdom to measure the U.K. pension plan’s service cost and interest cost. Under the settlement and yield curve approaches, the discount rate is set to equal the single discount rate that produces the same present value of all future payments.
The other key assumptions and methods were set as follows:
• | Our inflation assumption is based on an evaluation of external market indicators. |
• | The salary growth assumptions reflect our long-term actual experience, the near-term outlook and assumed inflation. |
• | The expected return on plan asset assumptions reflects asset allocations, investment strategy, historical experience and the views of investment managers, and reflects a projection of the expected arithmetic returns over ten years. |
• | Determination of retirement rates and ages as well as termination rates, based on actual plan experience, actuarial standards of practice and the manner in which our defined benefit plans are being administered. |
• | The mortality rates for the U.K. defined benefit pension plan was updated in 2018 to reflect expected improvements in the life expectancy of the plan participants. The mortality rates for the U.S. defined benefit pension plans were updated in 2018 to reflect the Society of Actuaries’ most recent findings on the topic of mortality. |
• | The fair value of assets used to determine the expected return on assets does not reflect any delayed recognition of asset gains and losses. |
The effects of actual results differing from our assumptions are accumulated and amortized over future periods and, therefore, generally affect our recognized expense in such periods.
Our U.S. and U.K. defined benefit pension plans, including our ENPP, comprised approximately 85% of our consolidated projected benefit obligation as of December 31, 2018. If the discount rate used to determine the 2018 projected benefit obligation for our U.S. qualified defined benefit pension plans and our ENPP was decreased by 25 basis points, our projected benefit obligation would have increased by approximately $3.7 million at December 31, 2018, and our 2019 pension expense would increase by approximately $0.4 million. If the discount rate used to determine the 2018 projected benefit obligation for our U.S. qualified defined benefit pension plans and our ENPP was increased by 25 basis points, our projected benefit obligation would have decreased by approximately $3.5 million at December 31, 2018, and our 2019 pension expense would decrease by approximately $0.3 million. If the discount rate used to determine the projected benefit obligation for our U.K. defined benefit pension plan was decreased by 25 basis points, our projected benefit obligation would have increased by approximately $21.2 million at December 31, 2018, and our 2019 pension expense would increase by approximately $0.2 million. If the discount rate used to determine the projected benefit obligation for our U.K. defined benefit pension plan was increased by 25 basis points, our projected benefit obligation would have decreased by approximately $20.5 million at December 31, 2018, and our 2019 pension expense would decrease by approximately $0.2 million. In addition, if the expected long-term rate of return on plan assets related to our U.K. defined benefit pension plan was increased or decreased by 25 basis
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points, our 2019 pension expense would decrease or increase by approximately $1.4 million each, respectively. The impact to our U.S. defined benefit pension plans for a 25-basis-point change in our expected long-term rate of return would decrease or increase our 2019 pension expense by approximately $0.1 million, respectively.
Unrecognized actuarial net losses related to our defined benefit pension plans and ENPP were $356.7 million as of December 31, 2018 compared to $360.1 million as of December 31, 2017. The decrease in unrecognized net actuarial losses between years primarily resulted from higher discount rates at December 31, 2018 compared to December 31, 2017. The unrecognized net actuarial losses will be impacted in future periods by actual asset returns, discount rate changes, currency exchange rate fluctuations, actual demographic experience and certain other factors. For some of our defined benefit pension plans, these losses, to the extent they exceed 10% of the greater of the plan’s liabilities or the fair value of assets (“the gain/loss corridor”), will be amortized on a straight-line basis over the periods discussed as follows. For our U.S. salaried, U.S. hourly and U.K. defined benefit pension plans, the population covered is predominantly inactive participants, and losses related to those plans, to the extent they exceed the gain/loss corridor, will be amortized over the average remaining lives of those participants while covered by the respective plan. As of December 31, 2018, the average amortization period was 16 years for our U.S. defined benefit pension plans and 19 years for our U.K. defined benefit pension plan. For our ENPP, the population is predominantly active participants, and losses related to the plan will be amortized over the average future working lifetime of the active participants expected to receive benefits. As of December 31, 2018, the average amortization period was eight years for our ENPP. Unrecognized prior service cost related to our defined benefit pension plans was $19.5 million as of December 31, 2018 compared to $12.2 million as of December 31, 2017. The increase in the unrecognized prior service cost between years is primarily due to the newly required uniformity of guaranteed minimum pension benefits for men and women related to our U.K. defined benefit plan, which resulted in an estimation of increased benefits for prior participant service. The requirement was as a result of a judgment by the U.K. High Court in October 2018 which provided clarity on the need to provide uniformity of benefits. The cost of this estimated impact will be amortized over a straight-line basis over the average remaining service period of active employees expected to receive benefits, or the average remaining lives of inactive participants, covered by the U.K. defined benefit plan.
As of December 31, 2018, our unfunded or underfunded obligations related to our defined benefit pension plans and ENPP were approximately $206.0 million, primarily related to our defined benefit pension plans in the United Kingdom and the United States. In 2018, we contributed approximately $36.8 million towards those obligations, and we expect to fund approximately $30.5 million in 2019. Future funding is dependent upon compliance with local laws and regulations and changes to those laws and regulations in the future, as well as the generation of operating cash flows in the future. We currently have an agreement in place with the trustees of the U.K. defined benefit plan that obligates us to fund approximately £15.6 million per year (or approximately $19.9 million) towards that obligation through December 2021. The funding arrangement is based upon the current underfunded status and could change in the future as discount rates, local laws and regulations, and other factors change.
See Note 8 of our Consolidated Financial Statements for more information regarding the investment strategy and concentration of risk.
Goodwill, Other Intangible Assets and Long-Lived Assets
We test goodwill for impairment, at the reporting unit level, annually and when events or circumstances indicate that fair value of a reporting unit may be below its carrying value. A reporting unit is an operating segment or one level below an operating segment, for example, a component. We combine and aggregate two or more components of an operating segment as a single reporting unit if the components have similar economic characteristics. Our reportable segments are not our reporting units.
Goodwill is evaluated annually as of October 1 for impairment using a qualitative assessment or a quantitative two-step assessment. If we elect to perform a qualitative assessment and determine the fair value of our reporting units more likely than not exceeds their carrying value, no further evaluation is necessary. For reporting units where we perform a two-step quantitative assessment, the first step requires us to compare the fair value of each reporting unit to its respective carrying value, including goodwill. If the fair value of the reporting unit exceeds its carrying value, the goodwill is not considered impaired. If the carrying value is higher than the fair value of the reporting unit, the second step of the quantitative assessment is required to measure the amount of impairment, if any. The second step of the quantitative assessment results in a calculation of the implied fair value of the reporting unit’s goodwill, which is determined as the excess of the fair value of a reporting unit over the fair values assigned to its assets and liabilities. If the implied fair value of goodwill is less than the carrying value of the reporting unit’s goodwill, the difference is recognized as an impairment loss.
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We utilize a combination of valuation techniques, including a discounted cash flow approach and a market multiple approach, when making quantitative goodwill assessments.
We review our long-lived assets, which include intangible assets subject to amortization, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The evaluation for recoverability is performed at a level where independent cash flows may be attributed to either an asset or asset group. If we determine that the carrying amount of an asset or asset group is not recoverable based on the expected undiscounted future cash flows of the asset or asset group, an impairment loss is recorded equal to the excess of the carrying amounts over the estimated fair value of the long-lived assets. Estimates of future cash flows are based on many factors, including current operating results, expected market trends and competitive influences. We also evaluate the amortization periods assigned to our intangible assets to determine whether events or changes in circumstances warrant revised estimates of useful lives. Assets to be disposed of by sale are reported at the lower of the carrying amount or fair value, less estimated costs to sell.
We make various assumptions, including assumptions regarding future cash flows, market multiples, growth rates and discount rates, in our assessments of the impairment of goodwill, other indefinite-lived intangible assets and long-lived assets. The assumptions about future cash flows and growth rates are based on the current and long-term business plans of the reporting unit or related to the long-lived assets. Discount rate assumptions are based on an assessment of the risk inherent in the future cash flows of the reporting unit or long-lived assets. These assumptions require significant judgments on our part, and the conclusions that we reach could vary significantly based upon these judgments.
The results of our goodwill and long-lived assets impairment analyses conducted as of October 1, 2018, 2017 and 2016 indicated that no reduction in the carrying amount of goodwill and long-lived assets was required.
Our goodwill impairment analysis conducted as of October 1, 2018 indicated that the fair value in excess of the carrying value related to our GSI EME reporting unit was less than 10%. The percentage of the fair value in excess of the carrying value decreased slightly compared to our 2017 annual analysis, and more recent analyses during 2018. The operations of the GSI reporting unit include the manufacturing and distribution of grain storage and protein production equipment. During 2018, we experienced weak industry conditions as well as operational inefficiencies related to our new manufacturing operations in Europe, which impacted the operating margins of the GSI EME operations. Manufacturing and system initiatives are in process to address such inefficiencies in order to reduce costs and improve the output of the manufacturing operations. If market conditions and our overall results do not improve, we may incur an impairment charge related to our GSI EME reporting unit in the future, to be determined under a two-step quantitative assessment as described above. The amount of goodwill allocated to GSI EME reporting unit as of October 1, 2018 was approximately $243.9 million.
Numerous facts and circumstances are considered when evaluating the carrying amount of our goodwill. The fair value of a reporting unit is impacted by the reporting unit’s expected financial performance, which is dependent upon the agricultural industry and other factors that could adversely affect the agricultural industry, including but not limited to, declines in the general economy, increases in farm input costs, weather conditions, lower commodity prices and changes in the availability of credit. The estimated fair value of the individual reporting units is assessed for reasonableness by reviewing a variety of indicators evaluated over a reasonable period of time.
As of December 31, 2018, we had approximately $1,495.5 million of goodwill. While our annual impairment testing in 2018 supported the carrying amount of this goodwill, we may be required to re-evaluate the carrying amount in future periods, thus utilizing different assumptions that reflect the then current market conditions and expectations, and, therefore, we could conclude that an impairment has occurred.
Recoverable Indirect Taxes
Our Brazilian operations incur value added taxes (“VAT”) on certain purchases of raw materials, components and services. These taxes are accumulated as tax credits and create assets that are reduced by the VAT collected from our sales in the Brazilian market. We regularly assesses the recoverability of these tax credits, and establishes reserves when necessary against them, through analyses that include, amongst others, the history of realization, the transfer of tax credits to third parties as authorized by the government, anticipated changes in the supply chain and the future expectation of tax debits from our ongoing operations. We believe that these tax credits, net of established reserves are realizable. Our assessment of realization of these tax assets involves significant judgments on our part, and the conclusions that we reach could vary significantly based upon these judgments. We recorded approximately $156.0 million and $152.3 million, respectively, of VAT tax credits, net of reserves, as of December 31, 2018 and 2017.
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Item 7A. Quantitative and Qualitative Disclosures About Market Risk
The Quantitative and Qualitative Disclosures about Market Risk information required by this Item set forth under the captions “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Foreign Currency Risk Management” and “Interest Rate Risk” under Item 7 of this Form 10-K are incorporated herein by reference.
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Item 8. Financial Statements and Supplementary Data
The following Consolidated Financial Statements of AGCO and its subsidiaries for each of the years in the three-year period ended December 31, 2018 are included in this Item:
Page | |
The information under the heading “Quarterly Results” of Item 7 of this Form 10-K is incorporated herein by reference.
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Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
AGCO Corporation:
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of AGCO Corporation and subsidiaries (the Company) as of December 31, 2018 and 2017, the related consolidated statements of operations, comprehensive income (loss), stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2018, and the related notes and financial statement schedule (collectively, the consolidated financial statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2018 and 2017, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2018, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated March 1, 2019 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
Change in Accounting Principle
As discussed in Note 1 to the consolidated financial statements, the Company has changed its method of accounting for revenue recognition in 2018 due to the adoption of Accounting Standards Codification 606, Revenue from Contracts with Customers.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ KPMG LLP
We have served as the Company’s auditor since 2002.
Atlanta, Georgia
March 1, 2019
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AGCO CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(In millions, except per share data)
Years Ended December 31, | |||||||||||
2018 | 2017 | 2016 | |||||||||
Net sales | $ | 9,352.0 | $ | 8,306.5 | $ | 7,410.5 | |||||
Cost of goods sold | 7,355.3 | 6,541.2 | 5,895.0 | ||||||||
Gross profit | 1,996.7 | 1,765.3 | 1,515.5 | ||||||||
Operating expenses: | |||||||||||
Selling, general and administrative expenses | 1,069.4 | 964.7 | 864.6 | ||||||||
Engineering expenses | 355.2 | 323.4 | 297.6 | ||||||||
Restructuring expenses | 12.0 | 11.2 | 11.9 | ||||||||
Amortization of intangibles | 64.7 | 57.0 | 51.2 | ||||||||
Bad debt expense | 6.4 | 4.6 | 3.2 | ||||||||
Income from operations | 489.0 | 404.4 | 287.0 | ||||||||
Interest expense, net | 53.8 | 45.1 | 52.1 | ||||||||
Other expense, net | 74.9 | 75.5 | 30.0 | ||||||||
Income before income taxes and equity in net earnings of affiliates | 360.3 | 283.8 | 204.9 | ||||||||
Income tax provision | 110.9 | 133.6 | 92.2 | ||||||||
Income before equity in net earnings of affiliates | 249.4 | 150.2 | 112.7 | ||||||||
Equity in net earnings of affiliates | 34.3 | 39.1 | 47.5 | ||||||||
Net income | 283.7 | 189.3 | 160.2 | ||||||||
Net loss (income) attributable to noncontrolling interests | 1.8 | (2.9 | ) | (0.1 | ) | ||||||
Net income attributable to AGCO Corporation and subsidiaries | $ | 285.5 | $ | 186.4 | $ | 160.1 | |||||
Net income per common share attributable to AGCO Corporation and subsidiaries: | |||||||||||
Basic | $ | 3.62 | $ | 2.34 | $ | 1.97 | |||||
Diluted | $ | 3.58 | $ | 2.32 | $ | 1.96 | |||||
Cash dividends declared and paid per common share | $ | 0.60 | $ | 0.56 | $ | 0.52 | |||||
Weighted average number of common and common equivalent shares outstanding: | |||||||||||
Basic | 78.8 | 79.5 | 81.4 | ||||||||
Diluted | 79.7 | 80.2 | 81.7 | ||||||||
See accompanying notes to Consolidated Financial Statements.
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AGCO CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In millions)
Years Ended December 31, | |||||||||||
2018 | 2017 | 2016 | |||||||||
Net income | $ | 283.7 | $ | 189.3 | $ | 160.2 | |||||
Other comprehensive (loss) income, net of reclassification adjustments: | |||||||||||
Defined benefit pension plans, net of taxes: | |||||||||||
Prior service cost arising during the year | (7.0 | ) | — | (2.6 | ) | ||||||
Net loss recognized due to settlement | 0.9 | 0.2 | 0.4 | ||||||||
Net gain recognized due to curtailment | — | — | (0.1 | ) | |||||||
Net actuarial (loss) gain arising during the year | (4.2 | ) | 6.6 | (62.9 | ) | ||||||
Amortization of prior service cost included in net periodic pension cost | 1.3 | 1.3 | 1.1 | ||||||||
Amortization of net actuarial losses included in net periodic pension cost | 11.7 | 11.3 | 8.6 | ||||||||
Derivative adjustments: | |||||||||||
Net changes in fair value of derivatives | (1.1 | ) | 2.0 | (7.7 | ) | ||||||
Net losses reclassified from accumulated other comprehensive loss into income | 7.2 | 2.0 | 1.0 | ||||||||
Foreign currency translation adjustments | (206.8 | ) | 57.8 | 82.4 | |||||||
Other comprehensive (loss) income, net of reclassification adjustments | (198.0 | ) | 81.2 | 20.2 | |||||||
Comprehensive income | 85.7 | 270.5 | 180.4 | ||||||||
Comprehensive loss (income) attributable to noncontrolling interests | 6.0 | (4.1 | ) | (1.7 | ) | ||||||
Comprehensive income attributable to AGCO Corporation and subsidiaries | $ | 91.7 | $ | 266.4 | $ | 178.7 | |||||
See accompanying notes to Consolidated Financial Statements.
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AGCO CORPORATION
CONSOLIDATED BALANCE SHEETS
(In millions, except share amounts)
December 31, 2018 | December 31, 2017 | ||||||
ASSETS | |||||||
Current Assets: | |||||||
Cash and cash equivalents | $ | 326.1 | $ | 367.7 | |||
Accounts and notes receivable, net | 880.3 | 1,019.4 | |||||
Inventories, net | 1,908.7 | 1,872.9 | |||||
Other current assets | 422.3 | 367.7 | |||||
Total current assets | 3,537.4 | 3,627.7 | |||||
Property, plant and equipment, net | 1,373.1 | 1,485.3 | |||||
Investment in affiliates | 400.0 | 409.0 | |||||
Deferred tax assets | 104.9 | 112.2 | |||||
Other assets | 142.4 | 147.1 | |||||
Intangible assets, net | 573.1 | 649.0 | |||||
Goodwill | 1,495.5 | 1,541.4 | |||||
Total assets | $ | 7,626.4 | $ | 7,971.7 | |||
LIABILITIES AND STOCKHOLDERS’ EQUITY | |||||||
Current Liabilities: | |||||||
Current portion of long-term debt | $ | 184.2 | $ | 95.4 | |||
Accounts payable | 865.9 | 917.5 | |||||
Accrued expenses | 1,522.4 | 1,407.9 | |||||
Other current liabilities | 194.2 | 229.8 | |||||
Total current liabilities | 2,766.7 | 2,650.6 | |||||
Long-term debt, less current portion and debt issuance costs | 1,275.3 | 1,618.1 | |||||
Pensions and postretirement health care benefits | 223.2 | 247.3 | |||||
Deferred tax liabilities | 116.3 | 130.5 | |||||
Other noncurrent liabilities | 251.4 | 229.9 | |||||
Total liabilities | 4,632.9 | 4,876.4 | |||||
Commitments and contingencies (Note 12) | |||||||
Stockholders’ Equity: | |||||||
AGCO Corporation stockholders’ equity: | |||||||
Preferred stock; $0.01 par value, 1,000,000 shares authorized, no shares issued or outstanding in 2018 and 2017 | — | — | |||||
Common stock; $0.01 par value, 150,000,000 shares authorized, 76,536,755 and 79,553,825 shares issued and outstanding at December 31, 2018 and 2017, respectively | 0.8 | 0.8 | |||||
Additional paid-in capital | 10.2 | 136.6 | |||||
Retained earnings | 4,477.3 | 4,253.8 | |||||
Accumulated other comprehensive loss | (1,555.4 | ) | (1,361.6 | ) | |||
Total AGCO Corporation stockholders’ equity | 2,932.9 | 3,029.6 | |||||
Noncontrolling interests | 60.6 | 65.7 | |||||
Total stockholders’ equity | 2,993.5 | 3,095.3 | |||||
Total liabilities and stockholders’ equity | $ | 7,626.4 | $ | 7,971.7 | |||
See accompanying notes to Consolidated Financial Statements.
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AGCO CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(In millions, except share amounts)
Additional Paid-in Capital | Retained Earnings | Accumulated Other Comprehensive Loss | Noncontrolling Interests | Total Stockholders’ Equity | ||||||||||||||||||||||||||||||||||
Common Stock | Defined Benefit Pension Plans | Cumulative Translation Adjustment | Deferred (Losses) Gains on Derivatives | Accumulated Other Comprehensive Loss | ||||||||||||||||||||||||||||||||||
Shares | Amount | |||||||||||||||||||||||||||||||||||||
Balance, December 31, 2015 | 83,814,809 | $ | 0.8 | $ | 301.7 | $ | 3,996.0 | $ | (249.0 | ) | $ | (1,209.2 | ) | $ | (2.0 | ) | $ | (1,460.2 | ) | $ | 45.0 | $ | 2,883.3 | |||||||||||||||
Net income | — | — | — | 160.1 | — | — | — | — | 0.1 | 160.2 | ||||||||||||||||||||||||||||
Payment of dividends to shareholders | — | — | — | (42.5 | ) | — | — | — | — | — | (42.5 | ) | ||||||||||||||||||||||||||
Issuance of restricted stock | 15,395 | — | 0.8 | — | — | — | — | — | — | 0.8 | ||||||||||||||||||||||||||||
Issuance of stock awards | 27,333 | — | (0.9 | ) | — | — | — | — | — | — | (0.9 | ) | ||||||||||||||||||||||||||
SSARs exercised | 21,106 | — | (0.9 | ) | — | — | ||||||||||||||||||||||||||||||||