Description

Summary:

• High quality company, with strong market share in a consolidated industry selling for ~7x depressed earnings

• Strong ownership who are proven to be good capital allocators repurchasing shares aggressively

• Conservatively financed Company despite screening as highly levered due to finco segment

• Recent corporate action (delisting) caused a change in shareholder base (with forced selling) and US passive funds likely to be buyers going forward

Business

CNH Industrial manufactures agricultural equipment and construction equipment, with ~80% of revenue coming from Agriculture and ~20% coming from Construction. Geographically, North America makes up ~40% of revenue, Europe ~30%, South America ~20%, and APAC ~10%. The Company is the second largest agricultural equipment manufacturer in the world and operates in a largely consolidated market. The largest western companies in the industry are Deere & Co reporting $35b in Ag revenue, CNH at $18b, and AGCO at $13b. Other competitors include Kubota and Class. The Company also has a finance co. which makes inventory finance loans to dealers (35% of total loans) and equipment loans to end customers (65%).   

Agriculture Segment:

CNH’s primary ag brands are Case IH and New Holland. The Company derives a large portion of Ag sales from high horsepower Tractors and high horsepower Combines, together representing ~865% of total Ag sales. As you can see below, they are either #1 or #2 by market share in most of the regions they operate in. The parts business makes up ~20% of total Ag revenue and is less cyclical and high margin. With recent acquisitions (including Raven) and increased R&D spend, CNH is now a leading provider of Precision Agriculture equipment as well. This includes automated sprayers, tillers, planters as well as autonomous tractors and combines.

Construction Segment:

The Construction segment operates primarily under the CASE and New Holland Construction brands. This segment has historically been marginally profitable and is not strategic to the Company. Recent operational improvements have led to impressive earnings over the past 2 years, but I think it’s possible that this segment will be separated eventually. The current goal is to continue to turn it around and get to double digit EBITDA margins and therefore increase optionality. Foreign manufacturers could potentially be buyers as they see value in CNH construction’s dealership infrastructure. 

Brief corporate history:

In 1999, CNH was formed from the merger of Case Corporation and New Holland. Fiat was a large owner of New Holland, as it was previously formed from a combination of Ford Industrial and Fiat’s ag business. In 2013, CNH Global (87% owned by Fiat and publicly traded) was merged with Fiat Industrial (100% owned by Fiat - commercial vehicles), and subsequently spun off from Fiat. Recently a simplification process has taken place. In 2022, CNH spun off the Fiat commercial vehicle business (Iveco). And in January 2024, CNH finalized its delisting of its historical Milan listing, and is now solely traded on the NYSE. It has been a bit of a complicated corporate history which has led to a lack of familiarity with the Agricultural Equipment business among investors. 

Reasons for undervaluation now:

We think there are 2 primary factors that have made the stock cheap:

1. Over extrapolated fears of a continued slowdown in the global agricultural equipment market: 

   • Our view is that the stock price has overreacted to cycle fears. We are not starting from a hyper elevated level for Tractor and Combine sales. The previous peak for 100HP+ Tractors was in 2013 at about 43,000 units in the US – by contrast 2023 unit sales (the recent peak) was about 33,000 units. For US combines, the current peak was about 10,000 units vs a 2013 peak of around 14,000 units.

   • The weak unit sales from 2016-2019 were largely caused by massive overproduction by the OEMs in the preceding years and a willingness on their part to produce lots of units for short term rentals and leases. This caused a large excess of late model used inventory that suppressed industry demand for new units. This has not been the case in the recent cycle and therefore we would expect this downturn to be less severe and shorter in duration. 

(EU units volumes have been down over a longer period although total HP is likely flat to up, as Europe has had a greater shift from smaller farms to larger commerical farms and thus a shift from lower HP units to higher HP units)

2. Forced selling from European passives at the end of last year and the beginning of this year due to the Milan delisting and thus a reshuffling of ownership. 

   • The stock has been a bit of an index orphan as European passives were forced to sell (estimated at ~12% ownership), and the Company is currently under represented in US indices (passive ownership is around 9.1% for CNH vs 21.0% for AGCO). 

In addition, the Company screens as a highly levered business because of the Finco. The reality is that CNH is an extremely conservatively financed company with well under 1x net debt / ebitda of the industrial business.  The finco segment has experienced very low historical loss rates peaking at 1.26% in 2009 and averaging ~30bps over the last 10 years. 

We believe the quality of the business in its current state is underestimated. The lower quality commercial vehicle business has been separated and significant operational improvements have been made. The operational improvements throughout 2023 and 2024 include SG&A restructuring with 5% headcount reductions that are expected to take $160m out of the SG&A costs as well as logistics /supplier optimizations and plant efficiencies that are expected to take $550m cumulatively out of COGs. The Company has averaged 30% ROEs over the last 3 years, compared to the well regarded DE at ~40% and AGCO as ~25%. 

Capital Allocation

Over the last 2 quarters, the Company has repurchased almost $1b worth of stock, equal to ~6% of the total shares out. CNH is under levered so there should be significant free cash flow to deploy in continued repurchases as the Board clearly believes shares are undervalued at current prices. There is $470m remaining on the current repurchase authorization.

Ownership

Exor owns about 29% of CNH. We believe they are good stewards of the business with a clear focus in recent years on simplifying ownership and corporate structures in an effort to highlight value. 

Current Valuations / Return Expectations

CNH consensus EPS for ’24 is $1.48/sh which is described as a below mid cycle earnings year. So, at $10.68 / share the stock is trading at ~7.2x somewhat depressed earnings. We believe a depressed multiple on weak earnings is too harsh. 

We think by 2026 the industry can get back to “mid cycle” earnings on which ag stocks should re-rate back to historical multiples. This should conservatively allow earnings at CNH to recover to 2023 earnings levels at ~$1.75/sh. Deere’s 5yr historical forward P/E is 16.8x. AGCO’s is 12.8x. CNH has averaged 12.2x and is now a higher quality company (since separating IVECO). 

Assuming a mid cycle earnings of $1.75/sh for 2026 and a 13x forward P/E multiple, the stock price would be $22.75 by early 2026, or +113% over the next year and a half. Including cash generated over the next year of ~$1.30/share (mostly returned via repurchase and dividends) would bring the total return to +125%.

Risk:

• Multiple never re-rates even when cycle fears subside

• Prolonged depressed ag cycle

Catalyst

• Near term estimates revisions go from trending negative to stable/positive

• Out year estimates start being revised upward - industrial segment ebitda estimates only growing ~2% from 2024 low out to 2027

• Continued aggressive share repurchases