AGCO Corporation (AGCO) Q3 2008 Earnings Report, Transcript and Summary

Good afternoon. My name is Samarian and I will be your conference operator. At this time I would like to welcome everyone to AGCO, Your Agricultural Company 2008 Third Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers remarks there will be a question-and-answer period. [Operator Instructions]. As a reminder ladies and gentlemen, today's conference is being recorded today, October 29, 2008. Thank you. Mr. Greg Peterson, you may begin.

Thank you Samarian, good morning. We appreciate you joining us for AGCO's third quarter 2008 earnings conference call. Joining me this morning are Martin Richenhagen, our Chairman, President and Chief Executive Officer and Andy Beck, our Senior Vice President and Chief Financial Officer. During this call we will refer to a slide presentation. The slides, earnings press release, and our financial statements are posted on our website at www.agcocorp.com. The non-GAAP measures used in the slide presentation are reconciled to GAAP measures in the appendix to the slides. During the course of this conference call, we will make forward-looking statements, including some related to future sales, earnings, production levels, supplier and production constraints, inflation, foreign income, working capital improvement, cash flow, margins, effective tax rate, capital expenditures, and strategic initiatives. We wish to caution you that these statements are predictions and that actual events or results may differ materially. We refer you to the periodic reports that we file from time-to-time with the Securities and Exchange Commission including the company's Form 10-K for the year ended December 31, 2007 and Form 10-Q for the quarter ended June 30, 2008. These documents discuss important factors that could cause the actual results to differ materially from those contained in our forward-looking statements. A replay of this call will be available on our corporate website. I will now turn the call over to Martin.

Thank you, Greg and good morning everybody. We appreciate your attention this sunny October morning. We've experienced volatility over the last few weeks and you'll likely see more in the weeks and months ahead. We believe AGCO, Your Agriculture Company, is well positioned financially, strategically, and operationally to serve our customers and execute on the positive long-term fundamentals of the agriculture sector. These maintained a high level of financial discipline and it's reflected on our balance sheet with our low level of net debt. Given our overall financial health we're comfortable that we've the right policies in place to protect and grow our business even through this current financial climate. In general, our dealers and our farm customers are in the healthiest financial condition in recent memory. Their balance sheets are strong and in general their access to credit remains very good. Today AGCO Finance, our joint venture with Rabobank provides financing for about 50% of AGCO's retail sales, AGCO Finance is well capitalized. It does not rely on the commercial paper or securitization markets for its funding and its stands ready to increase its participation in financing our retail sales should other credit sources tighten. I also am pleased to tell you that despite the challenges in the financial markets AGCO's backlog remains strong and we have not seen a significant change in the flow of orders. 2008 harvest are at or above last years robust levels. And we expect healthy farm income in all the world's major agricultural markets. Let's turn our attention now to AGCO's third quarter results. I'll begin my remarks on slide 3. You can see from this slide that we have continued our momentum for the third quarter of 2008 which resulted in record quarterly sales and earnings. Strong demand for our high horse power tractors and combines produced an increase in our sales of approximately 29% compared to the third quarter of 2007. And our drafted earnings per share rose to $1.04. We managed through significant material cost increases during the quarter and experienced no debt deterioration of our operating margins. This is quite impressive given the rich mix of sales in the third quarter of 2007 within an unseasonable high percentage of our sales coming from our premium price and products. Slide 4 now illustrates our production schedules for 2007 and 2008. Tractor and combine production levels were up 11% in the third quarter of 2008 compared to the third quarter of 2007. Production was up to support the increased demand across the globe. Our current 2008 forecast calls for unit production of tractors and combines to increase 18% to 19% compared to 2007 levels in order to satisfy the forecasted increase in the market demand. The elevated demand for industrial and farm equipment continued to put stress on AGCO's supply chain. We are working with our suppliers and focusing on key internal processes to meet our production schedules by the end of the year. Slide 5, details in that preview the farm equipments volume by region for the first nine month of 2008. Industry tractor sales in North America were down 5% compared to 2007 levels. The weakest segment continued to be tractors under 40 horsepower that are more closely tied to the general economy. We also experienced declines in the 400 to 100 horsepower category. The professional farming segment continues to benefit from positive cash crop economics and sales are up approximately 33% in the overrun in the horsepower tractor segment and the combine market grew approximately 25% in the first nine months of 2008 compared to the same period in 2007. While AGCO's total unit tractor sales were lower in the first nine month of 2008, AGCO's unit sales of tractor over 100 horsepower and combines both showed strong growth doing the first nine months of 2008. For the full year of 2008, we expect weakness in tractors and that horsepower had continued growth in high horsepower tractor in the North American industry retail market. Industry tractor volumes were up approximately 9% and move up in the first nine months of 2008 versus the same period last year. And strong harvest in France, Germany, Russia, and Central and Eastern Europe are driving increases in European industry volumes. Our forecast for 2008 calls for market conditions in Europe to remain healthy with continued strong growth in Central and Eastern Europe and Russia and more modest growth in Western Europe. South America, the South American industry tractor volumes increased approximately 36% during the first nine months of 2008. Strong conditions in Brazil and Argentina are driving most of the South American growth. Combine sales more than doubled in Brazil and also showed improvement in Argentina. For the full year of 2008 we expect the markets in both Brazil and Argentina to remain strong and contribute to an increase in South America and the industry demand compared to 2007 robust levels. Globally, the markets are healthy and as I mentioned earlier our order boards remain strong. I will now turn the call overt to Andy Beck who will provide you with more details.

Thank you, Martin and good morning. Slide six details AGCO's regional net sales for the third quarter and first nine months of 2008. The bar graph shows our regional sales performance excluding the impact of currency translation. For the third quarter and first nine months of 2008 currency translation had a positive impact of approximately 7% and 11% respectively. If the current exchange rate holds, currency translation will put pressure on our fourth quarter sales. During the third quarter, the Europe, Africa, Middle East segment had sales growth of approximately 15% excluding the impact of currency translation compared to the third quarter of 2007. The growth in our Europe, Africa, Middle East segment in the third quarter was led by Germany, France, Scandinavia and Eastern Europe and Russia. North America sales increased approximately 26% compared to the third quarter of 2007 excluding currency. Strong sales results in tractors, hay tools, sprayers, combines, and parts contributed to the improvement. First nine months of 2008 sales in North America increased approximately 23%, excluding currency. Third quarter sales in South America improved approximately 38% from last year excluding currency translation. Good harvest and farm land expansions are driving double digit sales growth across nearly all the markets in South America even after excluding currency translation impacts. Sales in our Asia-Pacific segment increased approximately 34% in the third quarter compared to 2007 excluding the impact of currency. Improved harvest in Australia and New Zealand, have sales well ahead of the draught impact of 2007 levels. On a year-to-date, sales were up 38% compared to 2007 excluding currency impacts. Globally, our net pricing for the quarter was a little below 5%. Part sales for the third quarter 2008 were $301.1 million, up 19% compared to the same period in 2007, after removing the impact of currency. Growth was strong in all four of our reporting segments. For the first nine months of 2008, part sales were $838.1 million compared to $657 million in 2007. Slide 7 highlights our sales and margin performance. Despite absorbing material cost increases, operating margins of 6.8% for the third quarter of 2008 match those seen in the third quarter of 2007. As Martin mentioned earlier, this was a significant accomplishment given the rich mix of sales we had in the third quarter of 2007. If you recall, in the first half of 2007, sales of our premium price set tractors were unseasonably low due to supplier constraints and the shifting of production of our new high horse power tractor. Production and sales were much heavier in the second half of 2007 and as a result our sales mix was richer and our margins higher especially in the third quarter of 2007. Our South America business reported operating margins of 8.8% for the third quarter of 2008, the absorption benefits from higher volumes were offset by three factors first, raw material cost inflation which hit us hardest in this region; second, the negative currency translation impacts associated with sales of equipment manufactured in Brazil and exported to other countries in South America, and finally increased product development expenses in the region. Third quarter operating income in our North America's segment was positive for the first time in over two years. Volume growth to market strength and new product introduction and distribution improvements, positive pricing environment and expense savings all contributed to the improvement. The positive results in North America all came just by currency pressure continuing in the third quarter. Our effective tax rate was approximately 31% in the third quarter of 2008, we expect the rate to be similar in the fourth quarter. Slide 8 highlights the progress we are making with working capital reductions as we've focused on improving our return on assets. At the end of the third quarter AGCO's working capital sales ratio stood at 6.1% down from 9.5% one year ago. Our goal this year is to hold the line on working capital despite the strong sales growth we are experiencing. Much of our working capital focus is now aimed at lowering dealer inventories in North America which have now remained at 2007 levels. At the end of September 2008 our dealer month supply on a trailing 12 month basis in North America were as follows; five months for tractors, four months for combines, and five months for hay equipments. Other working capital details are as follows; outstanding funding under accounts receivable securitization programs was approximately $453.6 million at the end of September 2008 compared to $433.5 million at the end of September 2007. We led uninterrupted access to funding through our securitization facilities to date and have liquidity back ups in place for this funding source, if needed. Wholesale interest bearing receivables transferred to ACGO Finance, our retail finance joint venture in North America as of September 30, 2008, were approximately $67.1 million. Losses on sales receivables primarily under these securitization facilities which is included in other expense net was $7.2 million in the third quarter of 2008 compared to $8.7 million for the same period in 2007. For the first nine months of 2008, losses on sales of receivables were $21.6 million compared to $25.5 million in the first 9 months of 2007. Slide 9 addresses AGCO's free cash flow which represents cash flow from operations less capital expenditures. The graph on the left side of the slide shows the free cash flow during the first nine months of 2008 compared to 2007. Our seasonal demands for working capital are greatest early in the year as we prepare for the selling season and as you can see we've generated negative free cash flow in the first nine month of 2008 and 2007. The fourth quarter is the seasonally strongest when dealer and company inventories are sold down at the end of the year. The graph on the right displays our annual free cash flow for 2007 and our projection for 2008. Our focus in 2008 has been to minimize our investment and working capital while still supporting strong sales growth this year. Even after recovering increased spending on strategic initiatives and capital expenditures for new products we expect to generate strong free cash flow this year. Slide 10 quantifies the impact of our 2008 initiatives. We'll be making significant investments in our future in the form of increased engineering expenses to support a growing list of new product programs, cost associated with our European system initiative, and spending associated with developing new markets and improving our distribution. Through the end of September our sales and margin growth is paying for these investments and generating improvement in earnings in 2008, compared to 2007. Our initiative spending is focused on long-term growth and profitability improvements for the company. Slide 11 lists our latest view of selected 2008 financial goals. We are projecting 2008 sales to increase 22% to 24% driven by healthy market conditions, pricing, and positive impact of currency. The new sales forecast reflects the negative currency translation impact of the recent appreciation of the dollar, including the recent movement and exchange rates our revised sales forecast would have been higher than our previous guidance. We are targeting 2008 EPS to range from $3.90 to $4 while making significantly investment in our long-term initiatives. We expect to increase capital expenditures including additional investments and production capacity to be in the $230 million and $250 million range and our free cash flow to remain strong in the $175 million to $200 million range. That concludes our comments, operator we are now ready to open the call for questions. Question And Answer

[Operator Instructions]. And your first question will go through the line of Ann Duignan from J.P. Morgan.

Hi, good morning guys.

Good morning Ann.

How you're doing? Martin can you talk a little bit about your outlook for end markets in places like Eastern Europe and South America. There's been a lot of noise about the lack of availability of financing and what that could do to not you're your end markets but end markets across many industries, can you talk a little bit about what you guys are seeing out there and how that might be tempering your outlook for Q4 or not?

Well, actually before 2008 we... lets say don't see any impact. For 2009, we are just working like last year. We are just putting our budget, our plan to get us through next year. We do not have details available yet. Personally I'm rather optimistic about the markets and this includes also finance solutions. I don't know whether you saw that but in Brazil they did just launch a new program to support the smaller farmers. And you might recall that 2 years ago we launched a small, cheap, simple tractor that we call the... let's say we call it the People's Tractor, because this was somewhat supported by a President ruler who at that time also promised us to support the approach by putting the right financial programs in place. And this is now done it's called something like I don't remember Brazilian water... for food for the poor something like that. So we've actually a support program for the smaller farmers which is new to Brazil and that will certainly help the market.

I think it's called food for all or more food something yes.

Yes, That's I agree as you are as always well informed.

Thank you. Can we talk about the outlook for Q4 then from a financial standpoint. I say this to you every quarter but I can't get my model then to the implied earnings estimate that you have out there. In terms of the moving parts that are in your fourth quarter forecast because I would have expected with FX that you would deliver margins in North America probably stronger than you did in Q3. I would expect to lower tax rate because of that. We would also expect some positive mix just on tax spending in North America, can you just... and pricing should be probably more positive in Q4 than it was in Q3 just given the timing of price increases. Can you talk about what do you have in the different line items as much as you can and why you expect earnings to be significantly lower in Q4 than they were in Q3?

Ann, I think you listed out a number of points there, that I think are pretty much right on. We do expect North America to continue to share positive results. We're seeing the market remain strong and that should drive our profitability there in the fourth quarter. We do expect margin improvement both at the gross profit and operating margin line in the fourth quarter as well. Some of those impacts are probably starting to see some positive foreign currency impact where typically we've been... its been a head win for us on the margin side as well as impacting as you say from finally catching up on the pricing versus our material cost increases that we've seen from the inflation on steel and some other commodities. So our fourth quarter actually looks a very good from a margin standpoint with the only negative impact that we've forecasted in here is that our sales will be impacted by the change in the dollar relative to the Euro and the Real that we've just seen recently. So the sales forecast that we're giving is down from what we said a quarter ago, but the underlying sales increase if you take strip currency out from that equation is really higher than what we had before. So, our fourth quarter really remains intact with the exception of some pressure from the currency and that should... would impact our fourth quarter results a little because of translating those European profits and Brazilian profits at the lower rates. We, as I said before we do expect to see some improvement in our margins because of the implication of the products from Brazil and Europe and the North America as well as selling some of our products in South America in dollars which gives us a benefit as well. But there is a lag there in terms of when those margins should improve and because you have inventory on the ground at the old prices with the old exchange rates. So, there is a lag affect that we will see impacting us a little here in the fourth quarter. But, again based on our forecast really not too much changed from what we had before.

Okay and the lagged impact because of inventory on the ground should be a net positive next year then as you work through that inventory?

Yes, we should see the positive margins resulting if the currency stay where they are in to next year.

Okay I'll get back in line in interest of time. Thank you, appreciate this.

And your next question, we'll go to the line of Robert Wertheimer from Morgan Stanley.

Hi, good morning everybody.

Good morning.

I am going to apologize for this question in advance, but when you say you don't see any significant change to orders what date is that coming through, roughly. Do you have October data?

In terms of orders?

Yeah.

Yeah, well we have talked to our people here in the last week or so. We discussed with our General Manager just last week where we stood and we have not seen any significant... any real change to our order patterns, our order boards remains strong, they are up 30% to 40% over last year at this point in time.

And this includes October.

Okay, thank you. That was helpful. And I guess two other questions on I guess some of the upside in 3Q to my model anyway was on SG&A. I wanted to ask if you have done anything in particular on SG&A in the quarter? And the question would be other expense line that I think is generally included securitization cost etcetera was lower and I wonder if there is any light you can shed on that? Thanks.

Yeah, nothing unusual on expenses I would say. We're still getting leverage relative to the sales because of the strong sales growth we're achieving and holding our expenses down with the exception of you can see our engineering and R&D expenses were up as planned. On the other line, you are correct that includes the securitization costs which were a little below last year's indicated in our prepared remarks, the big change is that we did have some foreign currency gains down there in that line that probably... and we had some losses last year. So those usually fluctuate back in quarter little unpredictable but in this quarter we had some gains that gave us a fine benefit here.

Okay. Thank you.

And your next question will go to the line of Terry Darling from Goldman Sachs.

Thanks, Martin and Andy, wondering if you could talk a little bit about sort of scenario analysis here for us. If we did assume that your industry went into a 1998-99 kind of down turn, I wonder if you can talk a little bit about what your strategy would be and kind of what's different this time with regards to your company and how you might be able to weather such a down turn?

Well actually first of all I do not believe in this kind of a down turn but of course in those days you have to be prepared. We just discussed last week a very detailed contingency plan and so we would certainly react very quickly. You might remember that when this for example happened in Brazil 2005 and market went down by about 50% something like that, we were a position to react very, very quickly and still made money. So that means it's a combination of we do things at certain expenses like for example research and development slowing down, certain capacity investments. We have everything phased in a way that we do not commit ourselves to huge investments in one time and of course the normal program like headcount reduction and so on. You know that this is actually a trend start of our industry because we did it so often and so many times. I think important is that we act very quickly, what we did in Brazil we are into the midst of reducing dealer inventories. And so, that means that our wholesales are little lower than they maybe expected but our retails are pretty good. Market share in South America is up from 44 to 49 in September 2008 and basically in those areas where market share is down it's caused by a reduction of orders received from the sugarcane industry we are well trapped is very, very strong, reduced cost by one and those kind start to become a little careful because there are two professionals and secondly announced a new range of big tractors which they are expecting which reduced the market a little bit.

And Martin, in terms of the signal that you would need to receive to formally pull those down cycle leverage it would simply be orders turning down, is that fair?

No, it's also that we have kind of pre warning system so to say first of all informally in way that we talk to a lot of farmers and to all our dealers frequently and then second of course we also use external expertise and people doing actually spots of interview and which let say that the helpline is customers satisfaction but we also ask this from about, are they willing and planning to buy and what are their investment plans for the next year so that means we've certain, we've a lot of information. We also talk to those guys that sell seed and fertilizers. So, when you talk to Monsanto you will certainly can figure out how well they are doing and how much they've sold already. So that means overall there's no trend into a negative correction we could identify so far with the exception of some overall political risks coming may be out of Russia and Argentina. And, we are still a market leader in Island with about five tractors sold every year so that didn't change.

And in terms of the that kind what different this time about the company part of the question, if you go back to 98-99, financials I think the operating income margin was through trough in the 3% or 4% range, wondering if you can help us a little bit with anything that's significantly different this time about either the nature of the cost structure, obviously the balance sheet is stronger, can you talk us through some of those --

That was before I joined the company. I think in the meantime we are in much better shape and I handover to Mr. Beck.

Okay. We are much different company than we are then. I am not sure there is parallels you can draw between the two. There were number of acquisitions including the Valtra acquisition and then some other acquisitions that were done in between those periods of time and now. But I would say that we still feel like we have a relatively flexible cost structure, we do now have an engine business but its only for about a third of our products that we're selling and so you know we're still focusing on staying as flexible as we can. We've done many studies recently on what we should... in our production facilities of what's core and non-core and we've been outsourcing a significant amount of parts in a few of our facilities particularly in Kent [ph] and Hesston, Kansas as a result of some of those studies and in order to be as nimble and flexible as we can to react to market changes.

Okay, that's helpful and shift the gears totally, Andy, I wondered if you can remind us what the cash flow sort of dynamic is with regards to the joint venture with Rabobank, is there a 4Q dividend and that's kind of it or is there cash dispersed on a quarterly basis, can you remind us on that?

Yeah, we get dividend quarterly from them. We look at what all the portfolio needs and projection are and what cash can be released out to maintain our ratios that we have with that finance company. But typically the dividend is a little larger in the fourth quarter but we are getting cash flow every quarter from those joint ventures.

Okay. And just lastly on the new EPS guidance, does it assume the impact of the lower stock price in terms of how the share count is influenced vis-à-vis the convert or has that not been changed?

It does, it does.

Can you may be give us a 4Q or a full year share counts so we can kind of back into that?

Estimate for the fourth quarter that the share count will be more like 94 million to 95 million shares.

Thanks very much.

And your next question will go to the line of Andy Casey from Wachovia Securities.

Thanks, good morning

Good morning

Couple of quick questions, a lot of them have already been answered. Can you talk about how much of the 50 million strategic initiative investment has been taken year-to-date?

It's pretty proportional to the year that spread out fairly evenly I would say, probably little head at three quarters but not too much.

Okay, thanks Andy and then the perennial question was Challenger above breakeven in the quarter?

Yes, Challenger was above breakeven for the quarter, had a very good quarter, and sales were up almost 25% year-to-date or sales are up and Challenger by 50% and our income is up substantially on a year-to-date basis. So, we are profitable in Challenger and doing quite well there.

Okay, thanks. And then if I could just dive into Martin's comment about the political risk in Russia, have you seen any sort of impact on the order activity over there from that?

No, and I just saying that we are of course very diligent and very careful and of course also look into those markets. We have some of our guys going there tomorrow and they actually... you know that we are pretty close to the market and so I am not very scared to be honest because of course also in the last crisis in Russia there was always money to buy farm equipment and the Russians are very creative in how to organize deals and they pay them with lot of credits or cash or safe guarantees. So I'm not too worried about it but I think it's our job to also with regard to kind of early warning system look into those markets that could be a little bit more volatile than others.

Okay, thank you very much.

And your next question, we will go through the line of Jamie Cook from Credit Suisse.

Hi good morning, my first question, you guys commented a little bit on your order book being up I think you said 30% to 40% but can you give us a sense of how much visibility you have into 2009 and how that would compare if we were sitting here last year at the same time?

We can but its confidential, now Andy will talk again.

Tell me something new here. Our order board if you look at tractors as ranges visibility of four to six months and combines more like six to nine months right now and that is substantially higher than where we would have been last year. So from a visibility standpoint much better than a year ago.

It's even so that its on record level.

Okay. And then we've heard in the press that one of your peers was having cancellations of orders in Argentina, have you guys seen any material cancellation across the board? And then Martin too, if you could comment on there are also concerns with the U.S. farmer given the credit crunch that he decides... he or she decides to share to sort of pool cash and pull back on spending for 2009, can you sort of give us your thoughts there?

First, we did not suffer from any cancellation including Argentina. Second, when it comes to the situation in the U.S. farm income for American farmers this year was on record level, it's very high. Next year I expect a similar development. Of course crop prices went slightly down, but are still on a very high level historically. And I am expecting input cost going down, so that means I am not too concerned about farm income 2009. When it comes to the financing, first of all as Andy mentioned already we offer our AGCO Finance solution which is used by a lot farmers in the U.S. Second the CAT [ph] guys... the CAT dealers have in addition to that CAT finance which is also available for farm equipments. And then we have a lot of very strong banks, The Farmers Community works with that were not due to the kind of their business we're not suffering so much from the overall problem. So, that means I do not expect a major impact, and we just discussed that so this is brand new information.

Great thank you very much. I'll get back in queue.

And your next question will go to the line of Mark Koznarek from Cleveland Research.

Hi, good morning.

Good morning.

A question on raw materials. It seems like you have really managed to offset the raw material pressure presumably via price or other kinds of productivity initiatives I'm wondering if you can sort of characterize the impact of raw materials compared to your comment about price adding 5% to revenues, was raw material a similar amount and then where do we expect that raw material inflation to move into 4Q and then when does it begin to roll off in '09 with the commodity prices having fallen so hard?

Right Mark, as you point out and what we've said before, in the third quarter we did see pretty substantial increase in raw material cost and our pricing was somewhere between 4.5% to 5% and that was not completely sufficient to cover those cost increases. We probably lost about almost 50 basis points on our margins as a result. As we get into the fourth quarter, our pricing has accelerated over 5% and the cost due are also projected to go up as a percent as well but we think we will be covered here in the fourth quarter and we will not have any margin impact there. As you point out we are now seeing those raw material prices particularly steel prices come down. We don't expect that to be a significant benefit to us in the fourth quarter but probably into... starting into next year we can start to see some benefit from those lowered prices.

Andy, with the way your purchase contracts are constructed would we have to wait until the second half to begin to see benefit or would it be earlier in the calendar year?

We start the first quarter.

Okay, beginning 4Q or Q1?

Right.

Then capital spending has been raised what is that being focused on, the additional $10 million to $20 million?

A lot of this productivity improvement we expect to lay out but also some capacity investments.

Across the board or in any particular region?

No, it's pretty much across the board with a major project in Kent [ph] because they put up more than we would have had more capacity and that is not related so much to the market because you know that Kent has a very advanced technology which by lets say the... by getting farmers more and more professional is actually more demand, more interested. So that means we see trends going up in markets like France, Spain and also some of the Eastern European markets.

Okay and then just a clarification on that comment earlier about the order book of 30% to 40%, is that a worldwide comment or specific to North America?

That's worldwide.

Okay. Thank you.

And your next question goes to the line Barry Bannister from Stifel Nicolaus.

And just a few clarifications, in your last question somebody asked if you would exceed costs via price and you said I believe that you were bought in to first quarter so it would be after first quarter not at first quarter is that correct?

No, we didn't say that. We said that we thought we would start to see benefit from the lower raw material prices starting in the first quarter of next year. We don't have any... first of all we don't buy a lot raw steel, its very small percentage of our cost of sales. We buy more steel related, steel components with steel content in them and so we're not subject to much of our cost to sales really related to locking in with contracts. So, most of this will roll in and roll out but you have to go back and renegotiate with suppliers and then have that reflected in the rolling out from the inventory level. So, that's why we believe most of this benefit will be more next year than this year.

Okay. And you said Challenger was up 25% year-to-date and up 50% in third quarter?

No, the opposite. Quarter was up about 25% and year-to-date 50%.

Okay. Sorry for the bad connection here. What are the inventory effect year-to-date foreign exchange and in the third quarter?

Okay. Inventory exchange or through September compared to September a year ago, inventories were actually lowered by about $30 million because of exchange, because the rate started changing right at the end of the quarter.

Any idea what we can look for in the fourth quarter?

My estimate is inventories probably about a $100 million.

Okay and then lastly could you give us a little pricing by geography in terms of where you might be getting the most traction of pricing versus costs. And then is there a potential here that with the combination of pricing and currency that North America might snap back at least by '09 to a mid-single digit operating margin as it has enjoyed in past good cycles?

In terms of the pricing, its pretty much across the board. I would say that in South America we're getting more but obviously there is the higher inflation there so there's more cost to cover. In relation to North America certainly we're making significant improvement without the benefit or really despite the currency impacts that we've experienced over the first nine months then you can see what we've done. As the currency now has changed yes, we should get some of that margin back. So I think there is an opportunity to start getting into the low single-digits, mid single-digits operating margin, whether that's in '09 or not I don't have that ability to tell you that until we get our budgets together.

Here is year-to-date effect though of foreign exchange on the North American operating margin and what's the swing would be if the dollar euro had stayed at 128 instead of the actual rate on a year-to-date basis?

Barry, I am not sure I have all that calculated in front me. We will have to... maybe I can share that with you, but certainly we have had some margin impact in North America this year as well as in the previous year, so there has been, but I don't have the number in front of me to tell you how much that is, we'll have to get that for you.

Yeah, in previous calls you said it was in excess of 2% of margin so it's a significant number and I think that weakness we've seen since the end of the third quarter would be good?

Yeah, over the last few years its been more than that, impacting our North American business.

Very good. Okay, thank you.

And your next question we will go to the line of Henry Kirn of UBS,

Is it possible to quantify the impact of the change in currency on the implied first quarter EPS guidance, if my math is right you're $0.94 at the mid point, where could that have been if currency rates have stayed consistent with where they were in the third quarter.

I think you know our estimate is that there would be, it's a negative impact to our quarter by $0.05 to $0.10.

Okay. Have you seen any changes in the competitive landscape with the currency fluctuation, does it benefit you globally overall?

No, and we didn't see it change.

We have not seen any change, no.

Okay, then one final one. If you look at your strategic initiatives going forward, is there any view on how they may trend is as we going into '09.

I think we're pretty good in implementation. Everything is on schedule and so we will go on. We will roll, we will implement one strategic initiative after the other one. One would expect those initiatives that are related to new products or in new markets showing that the a little bit more impact during 2009.

Okay. Thanks a lot.

You are welcome.

And your next question we will go to the line of Joel Tiss from Buckingham Research.

Hi guys, how is it going?

Good.

So, two things, can you explain why are you reducing inventory levels and then your free cash flow is expected to be lower in '08 and '07?

I think inventory levels will be up year-over-year because of the significant increase in sales that we are forecasting. There is a requirement there and a little more inventory on the ground to achieve that. But we are managing at down as best as we can and limiting that increase. So, I think that's the important thing. The reason that our cash flow forecast is a little lower than last year, is that last year was a year where we've made significant improvement on reducing working capital, particularly in the North America business. We focused on that is as one of our key initiatives to turn inventories and our accounts receivable, dealer inventories faster in North America, we've gotten those down significantly down more to industry average levels. And we've achieved a lot of that last year. So I would say it's kind of unusual impact as it relates to working capital last year that we enjoyed that. We don't expect to see this year is more of a normal year and with this significant sales growth we're using working capital and as a result we still believe we'll have a very strong cash flow result but not to the level of 2007.

Okay. And just that quick follow-up, it seems like everyone is kind of dancing around the same thing, can you just talk a little bit about, I am not really looking for forecast, I am just more looking what you're hearing from the farmers. It seems like seed prices and fertilizer prices are still going to be up really strongly in 2009 and it seems like that has to come out of somewhere with crop prices flattening a little bit, can you just give us a little sense of what the farmers are thinking and saying and just to give us a frame for '09 not so much for agro but for the industry?

When you look into the past you can see that very often the farm economy, so our market segment was not so much related to trends in the overall economy and industry. So that means we saw that in both directions, some times of the industry or economy was booming and the farm business did not and the other way around. So, that's one observation. The second observation is that many farmers of course, lets say they are well informed about what's going on, but they do not think that this would have a major impact on their specific business.

Okay, thank you very much.

Ladies and gentlemen we have reached the end of the allotted time for question and answer. I'll now turn the call back over to Mr. Peterson for any concluding remarks.

Thank you. We appreciate everyone's time this morning and your interest in AGCO. Should you have further questions I encourage you to give me a call and with that have a great day.

This concludes today's conference. You may now disconnect. .