Is Deere a Buffett Stock?

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Warren Buffett attracts a lot of attention. As the world's third-richest person and most celebrated investor, thousands try to glean what they can from his thinking processes and track his investments.

While we can't know for sure whether Buffett is about to buy Deere (NYS: DE) -- he hasn't specifically mentioned anything about it to me -- we can discover whether it's the sort of stock that might interest him. Answering that question could also inform whether it's a stock that should interest us.

In his most recent 10-K, Buffett lays out the qualities he looks for in an investment. In addition to adequate size, proven management, and a reasonable valuation, he demands:

  1. Consistent earnings power.
  2. Good returns on equity with limited or no debt.
  3. Management in place.
  4. Simple, non-techno-mumbo-jumbo businesses.

Does Deere meet Buffett's standards?

1. Earnings power
Buffett is famous for betting on a sure thing. For that reason, he likes to see companies with demonstrated earnings stability.

Let's examine Deere's earnings and free cash flow:

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Source: Capital IQ, a division of Standard & Poor's. Free cash flow is adjusted based on author's calculations.

Deere's earnings fell somewhat in 2009 during the global economic downturn but have since rebounded.

2. Return on equity and debt
Return on equity is a great metric for measuring both management's effectiveness and the strength of a company's competitive advantage or disadvantage -- a classic Buffett consideration. When considering return on equity, it's important to make sure a company doesn't have an enormous debt burden, because that will skew your calculations and make the company look much more efficient than it actually is.

Since competitive strength is a comparison between peers, and various industries have different levels of profitability and require different levels of debt, it helps to use an industry context.

Company

Debt-to-Equity

Return on Equity (LTM)

Return on Equity (5-Year Average)

Deere

347%

38%

25%

Caterpillar (NYS: CAT)

247%

34%

35%

Illinois Tool Works (NYS: ITW)

39%

20%

17%

Cummins (NYS: CMI)

14%

33%

23%

Source: Capital IQ, a division of Standard & Poor's.

Deere tends to generate very high returns on equity while employing a considerable amount of debt.

3. Management
CEO Sam Allen has been at the job since 2009. Prior to that, he held a number of jobs at Deere since 1975.

4. Business
Farm and construction equipment isn't particularly susceptible to wholesale technological disruption.

The Foolish conclusion
Whether or not Buffett would buy shares of Deere, we've learned that it exhibits some of the characteristics of a quintessential Buffett investment: fairly consistent earnings, a straightforward business, and high returns on equity. However, it's possible Buffett would prefer to see less leveraged returns and how Deere's CEO fares in his new role.

If you'd like to stay up-to-speed on the top news and analysis on Deere or any other stock, add it to your stock watchlist. If you don't have one yet, you can create a watchlist of your favorite stocks by clicking here.

At the time this article was published Ilan Moscovitzdoesn't own shares of any company mentioned.You can follow him on Twitter@TMFDada.Motley Fool newsletter serviceshave recommended buying shares of Illinois Tool Works. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

Copyright © 1995 - 2011 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

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