RECORD crop production in 2014 drove a major correction in grain prices that also lowered farmer income. Collectively, this resulted in declining North American sales of agricultural equipment.

This trend has continued into 2015 and is unlikely to abate for quite some time, according to a report by Rabobank, "Contraction Today, Consolidation Tomorrow?"

Despite the challenges, there is room for growth through consolidation and mergers among the original equipment managers (OEMs) and other farm input businesses.

"At its core, demand for agricultural equipment and machinery is driven by grain demand, commodity prices and farmer income," said Ken Zuckerberg, executive director and senior analyst of Rabobank's Food & Agribusiness Research & Advisory. "The drop in corn and soybean prices inevitably led to the decline in demand for farm machinery and equipment, as these items are usually the first farm input purchase to be delayed or eliminated during a downturn."

The pressure on tractor and combine sales has continued into 2015 (Figure) and is unlikely to stabilize until 2017, at the earliest, the report notes. Rabobank expects that, in North America, revenues derived from sales of tractors and combines will likely fall 25% in 2015, 10% in 2016 and 2.5% in 2017, with the inflection point for positive growth of approximately 5% occurring in 2018.

North American sales of tractors decreased 14-18% in the first six months of the year on the basis of retail units sold. The contraction in revenues has been even worse, with the three major equipment manufacturers — Deere, CNH and AGCO — reporting revenue declines ranging from 22% to 37% for North American agricultural and turf equipment.

Small-horsepower tractors — used mainly in the dairy and livestock sectors — provided some boost and remained a bright spot for growth, as did certain farm implement categories such as mower conditioners and disk mowers.

Market recovery

An oversupply of inventory — especially for used equipment — exists that must clear out before the market recovers, the report states.

"There remains an oversupply of used equipment inventories sitting on dealer lots, driven by aggressive short-term lease programs and low interest rates, which encouraged frequent trade-in activity," the report explains.

So far in 2015, inventories have shown positive unit sales growth; the last time this happened was in 2008 — just before the 19.6% decline in tractor and combine sales and an 18.6% decline in inventory. "If this pattern repeats, the industry must brace itself for a major drop in 2016," Rabobank warned.

Advances in "digital agriculture" that link smart data-gathering equipment with personal computers add value for farmers, but equipment makers also may be able to capture a piece of that added value and encourage new technology-enhanced products that complement traditional farming equipment.

Consolidation

"In response to the broader downturn, OEMs have responded by temporarily suspending production, working closely to reduce inventory levels and attempting to mitigate overhead expenses," Zuckerberg said. "Unfortunately, these measures are temporary and defensive and do not solve the long-term structural challenges associated with lower demand and limited organic growth prospects in a mature market like North America."

In the longer term, Rabobank said it believes that the industry will need to undergo a restructuring to address such challenges.

First off, North America is a mature, highly saturated market with limited opportunities for organic growth. The report notes that ongoing farm consolidation since the 2008 financial crisis has resulted in larger corporate-style farming systems that use their size and buying power to negotiate directly with companies, putting incremental pressure on prices.

Over the last 25 years, worldwide consolidation has concentrated the manufacturing and sales of farm field equipment into a handful of major competitors. The six largest global players, based on 2014 agricultural equipment revenue, are Deere & Co., CNH Industrial and AGCO, followed by Kubota, Claas and Mahindra & Mahindra.

Deere and CNH are similar in size when measured by total revenue, but Deere's agricultural equipment business is 40% larger. Deere is more than 2.5 times larger than Kubota and AGCO.

"It seems logical that a strategic transaction among this peer group could occur in order to create a more formidable challenger to the market leader," the report says.

In the farm machinery sector, an oversupply of medium- and larger-sized tractors and combines, coupled with limited growth opportunities, makes the consolidation argument event stronger, according to Rabobank.

Rabobank said expansion into new and/or adjacent markets also could occur in the next 12-24 months in order to accelerate growth, including for grain storage, grain treatment, feed processing, chemical blending, animal storage and protein production systems and milking equipment.

Volume:87 Issue:39