AGCO Corporation (AGCO) Q2 2014 Earnings Report, Transcript and Summary

Good morning. My name is Lisa, and I will be your conference operator today. At this time, I would like to welcome everyone to the AGCO Second Quarter Earnings Release Conference Call. [Operator Instructions] I now turn the call over to Greg Peterson, Head of Investor Relations. You may begin.

Thanks, Lisa, and good morning. Welcome to those of you joining us for AGCO's Second Quarter 2004 (sic) [2014] Earnings Conference Call. On the call this morning, we will refer to a slide presentation which is posted on our website at www.agcocorp.com. The non-GAAP measures used in the slide presentation are reconciled to GAAP measures in the last section of the presentation. We will make forward-looking statements this morning, including demand for our products and the economic and other factors that drive that demand; product development plans and timing of those plans; acquisition, expansion and modernization plans; and our expectations with respect to the cost and benefits of those plans; and the timing of those benefits. Our future revenue, earnings and other financial metrics will also be mentioned. We wish to caution you that these statements are predictions, and that actual events 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, 2013, and the subsequent Form 10-Qs. 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 later today on our website. On the call with me this morning is our Chairman, Martin Richenhagen; and Andy Beck, our Chief Financial Officer. With that, Martin, please go ahead.

Thank you, Greg, and good morning. We appreciate you joining us on the call. I'll begin my remarks on Slide 3. We felt the effects of softer market demand during the second quarter of 2014, and AGCO sales were down about 10% compared to the second quarter of 2013. Farm economics remain healthy, but sentiment has been hurt by falling commodity prices as farmers have become more conservative with their equipment purchase decisions. In the face of more challenging market conditions, we are focusing our efforts on cost and expense control and working capital management throughout our operations. We have made adjustments to our production schedules to reflect revised sales forecast and reduced inventory levels in the second half of 2014. Despite the more difficult operating environment, our increased emphasis on new products with advanced technologies was well-received by our customers, and our retail market performance continued to be positive. We remain confident that long-term agricultural fundamentals are very solid. Further improvements in farm productivity and yields will be needed to meet the growing demand for food and biofuel requirements. We expect these developments to support favorable conditions in our industry also in the future. Slide 4 details industry unit volumes by region for the first 6 months of 2014. The outlook for crop production improved dramatically as we move through the second quarter. When we spoke on our call -- first call, we were concerned that the cold, wet conditions across the U.S. would negatively impact the growing season. Improved weather allowed farmers to complete their planting and be in position for attractive yields. The resulting lower commodity prices have negatively impacted industry conditions, particularly in products that serve row crop farmers, but has favorably impacted the economics for dairy and large stock producers. In North America, industry sales grew in the lower horsepower category, which are typically sold to dairy and large stocks sectors, while sales of higher margin high horsepower tractors declined significantly in the first half of 2014 compared to the same period in 2013. The combine market also fell in response to the lower crop prices. Industry unit retail sales of tractor investment in Europe were down modestly in the first half of 2014. Market results by country remained mixed with declines in our key markets of France and Germany being largely offset by improved demand in Spain and the United Kingdom compared to industry sales in the first 6 months of 2013. South American industry retail tractor volumes decreased significantly during the first half of 2014 compared to the same period in 2013. The decline was most pronounced in Brazil, where demand has been negatively impacted by funding delays in the government financing program and by weaker demand from sugar producers. AGCO's tractor and combine production volumes are illustrated on Slide 5. As I mentioned earlier, we made further reductions to our production schedule during the second quarter in response to soft market conditions. Our production was down about 19% in the second quarter 2014 compared to the second quarter of 2013. We expect production volumes to be down by more than 10% in both the third quarter and the full year versus the comparable period last year. Declines in higher horsepower equipment are expected to be partially offset by increases in lower horsepower machines. I will now turn the call over to Andy, who will provide you more information on our second quarter results.

Thank you, Martin, and good morning to everyone. I will start with a look at AGCO's regional net sales performance for the second quarter and first half of 2014, which are outlined on Slide 6. Currency translation has had a minimal effect on our net sales so far this year. Softer market conditions resulted in sales declines across all of our segments. The Europe/Africa/Middle East segment reported a decrease in net sales of approximately 9%, excluding the positive impact of currency translation, during the second quarter of 2014 compared to the second quarter of 2013. With softer demand from the arable farming sector, France and Germany reported the largest declines. Growth in Africa, Turkey and the United Kingdom offset some of the decrease. North American sales were down approximately 12%, excluding the unfavorable impact of currency translation, during the second quarter 2014 compared to the high levels experienced in the second quarter of 2013. Lower sales of high-horsepower tractors and implements were partially offset by sales growth in lower horsepower tractors and grain storage. AGCO's second quarter 2014 net sales in South America were down 11% compared to strong levels in the second quarter of 2013, excluding negative currency translation impacts. Sales declined across all the South American markets. Net sales in our Asia/Pacific segment decreased approximately 13% in the second quarter 2014 compared to 2013, excluding the impact of currency. Parts sales were $394 million for the second quarter of 2014, an increase of approximately 2% compared to the same period of -- in 2013, excluding the impact of currency translation. Slide 7 details AGCO's sales and margin performance. Operating margins declined about 100 basis points in the second quarter 2014 compared to the prior year period. The negative impact of lower sales and production volumes and higher engineering expenses was partially offset by material cost saving and improved labor efficiency. Europe/Africa/Middle East operating margins decreased about 40 basis points in the second quarter 2014 from the same period in 2013. The benefit of material cost savings and improved labor productivity, particularly at our Fendt plant, nearly offset the negative impact of lower production and product mix. North America's operating margins were 13.9% in the second quarter 2014, which was lower compared to the second quarter of 2013. Lower production levels and a weaker product mix contributed to the margin compression. In South America region, operating margins were 6.8% in the second quarter 2014, a decline of 400 basis points compared to the same period in 2013. Weaker margins resulted from lower sales and production levels and material cost inflation. Margins in the Asia/Pacific region were down due to lower sales and start-up costs associated with our new factory in China. Slide 8 details GSI sales by region and by product. GSI sales were up about 7% for the first 6 months of 2014 compared to the same period in 2013. The largest increase occurred with grain storage sales in both Europe and in Brazil. We are forecasting GSI sales to be up approximately 10% for the full year of 2014 compared to 2013 with most of the growth occurring outside the U.S. Longer term, the growth trend -- the global trends of population growth and changing diets are generating demand for additional grain storage and protein production capacity. Slide 9 looks at our depreciation and capital expenditure trends. Our CapEx has been elevated the last few years to facilitate our plant productivity and new facility projects as we -- as well as new product introductions, which support our growth and margin ambitions. During 2014, we expect our capital expenditures to remain at high levels in order to continue to work to meet the Tier 4 emissions requirements, refresh and expand our product line and establish assembly capabilities in China. Slide 10 addresses AGCO's free cash flow, which represents cash used in operating activities less capital expenditures. Our seasonal requirements for working capital are greater in the first half of the year and thereby, resulted in negative free cash flow in both the first 6 months of 2013 and '14. Our cash used in the first half of 2014 resulted from higher levels of working capital. AGCO's inventory position at the end of June was higher than a year ago due to increased inventory attributable to the transition to Tier 4 products, higher replacement parts inventory and increases caused by declining sales. As Martin mentioned earlier, we have made further reductions to our production schedule, and we are extending our normal summer shutdowns. We are still targeting "end of the year" inventory levels at or below last year's levels. At the end of June 2014, our North American dealer month supply on a trailing 12-month basis was 6 months for tractors and about 5 months for combines. Losses on sales of receivables associated with the receivable financing facilities, which is included in other expense net, were approximately $6.7 million during the second quarter 2014 compared to $6.5 million in the same period of 2013. Slide 11 highlights AGCO's plans for returning cash to our shareholders. As we discussed last quarter, we have significantly expanded our share repurchase program to $500 million, which should be completed by mid-2015. During the first quarter of 2014, we entered into 2 accelerated share repurchase agreements totaling approximately $290 million. Through the end of June, we received approximately 4.2 million shares, which lowered our weighted average share count by 3.4 million shares for the first 6 months of 2014. The lower share count positively impacted our EPS by approximately $0.10 for the first half of 2014. The accelerated share repurchase agreements were completed last week, and we received an additional 1.2 million shares. Also in July, the remaining convertible notes were redeemed. The redemption increased our shares outstanding by approximately 1.1 million shares, but did not impact the fully diluted share count used in our EPS calculation for the 6 months ended 2014. Our 2014 outlook for the 3 major regional markets is captured on Slide 12. We have lowered our full year industry forecast across all 3 regions. In North America, forecasts for lower farm income are expected to result in softer demand from the professional farming sector. Improved economics for dairy and livestock producers should partially offset a slowdown in row crop sales. We have lowered our South American industry forecast to reflect FINAME funding interruptions, a weaker sugar sector and lower demand in Argentina. In Western Europe, we are expecting demand declines in the arable farming sector and are forecasting more significant drops in the demand for higher horsepower equipment. Assuming more normal weather conditions, we are looking for some recovery in the U.K. and parts of southern Europe. After several years of strong industry sales in France and Germany, we are expecting continuing softening of demand in those markets in 2014 compared to 2013. Slide 13 highlights the assumptions underlying our 2014 outlook. The 2014 forecast assumes price increases of approximately 1.5% on a consolidated basis and at current exchange rates, we expect the currency translation to be relatively neutral. In 2014, expenditures on new product development and Tier 4 emissions requirements are expected to cause an increase in engineering expense of about $10 million. We also look for new products and our productivity and purchasing initiatives to offset the negative effect of lower sales and production on our gross margin. For 2014, our SG&A expense will include expenses associated with site and manufacturing start up, as well as market support cost amounting to about $10 million for our Chinese operations. We are targeting an effective tax rate of approximately 34% to 35% for 2014. Slide 14 lists our views of selected 2014 financial goals. We are projecting 2014 sales to be down about 5% compared to 2013 with the impact of softer market conditions expected to be partially offset by pricing and market share gains. We expect to hold gross margins at 2013 levels as the benefit of pricing and our cost-reduction projects are anticipated to be offset by the negative impact of lower volumes and weaker product mix. Based on these assumptions, we are targeting 2014 earnings per share of approximately $5 per share. We expect third quarter 2014 sales volumes to decrease to allow for adjustments in dealer and company inventory levels. These impacts, along with a weaker sales mix, are expected to result in third quarter 2014 earnings per share in a range from $0.75 to $0.80 per share. We expect 2014 capital expenditures to be in the $400 million range, and free cash flow to be approximately $250 million after funding the elevated level of capital expenditures. With that, operator, we're ready to take questions.

[Operator Instructions] Your first question comes from the line of Ross Gilardi from Bank of America.

Yes. Just had a couple of questions. Your comments on inventories, I mean, it seems like you're sticking with the goal of being back at 2013 levels -- year-end 2013 levels by year-end 2014. And I believe that's about a 20% decline from where we are right now yet it looks like you're only forecasting like a 10% production decline in the second half of the year if I'm eyeballing your charts correctly. So can you talk about that a bit more, and how you're really thinking about production in the second half? And how do you know if you're cutting deeply enough given the demand environment?

Well, Ross, that's a good question, and certainly the challenge in that, we've got to meet our sales forecast in order for us to meet our inventory objectives here. One thing you have to keep in mind is a lot of the higher inventory is associated with Tier 4 transition-type inventory. So a lot of this is built-up engines that we grew really in the second half of 2013. So at the end of June, there's a much sizable increase in inventory. But as we look for comparables at the end of the year, it'll be much more level. So we'll still have stockpiled inventory of engines at the end of 2014, but we also had them at the end of 2013. So that makes it much more comparable. The other increases that we have are related to replacement parts inventory. As we work through the harvest season, we want to have sufficient supply of inventory to meet our customer demands and be at the top service levels for our customers. But then we'll look for that inventory to come back down by the end of the year as well. So there are other aspects other than just looking at the production schedule and our sales levels. So there's parts and engine inventory and other things that will also be much more comparable to last year's level by the end of the year.

So is it possible to quantify those buckets, Andy, relative to where you were at the end of 2013? So if you look at the $2.4 billion of inventory now versus the $2 billion, how much of that would be related to final Tier 4? How much would be replacement parts? And how much of it is just over -- too much inventory [ph]?

Yes. The Tier 4 impact is about $150 million, and the replacement part impact is about $90 million when we compare June 2014 versus June 2013.

Okay. And then GSI, you're still calling for 10% growth despite 7% year-to-date growth, which implies acceleration in the second half. So are you seeing anything in your order books now to support that? Or is that just more your hopes for the second half?

Yes. Greg?

Right. So the GSI business, Ross, we have seen -- over the last month or so, we have seen a pickup in our storage orders in North America, not huge, but we have seen a little bit of a pickup. Kind of on the flip side of that, though, with the very good result of planting and the fact that we're basically on schedule with the crop this year, we are anticipating -- because of that, we're anticipating a more normal crop, which means less drying need by the farmers, which means less sales in that aspect of our business. So that's kind of a counterweight to the increased storage. And then also important to note on the protein side, that business hasn't grown as much this year as we anticipated. We came into the year, I think, talking about more growth in total for the GSI business and then with the combination of some issues in the U.S. with some of the bird health, and then in China, the growth hasn't been as strong as we expected in those areas. So this year, more of the growth is coming on the grain side. Last year, about half...

But to answer your question, we are confident that we will deliver.

What do you think is behind the pickup in storage orders in North America? Is it just expectations of a big crop, some more grain to store or is it something deeper that...

No, that's it.

Okay. Great. And just lastly, on your free cash flow outlook, so you're holding that despite a big outflow in the first half of the year, and clearly a lot of that's tied to your inventory developments and ability to get that down. But can you comment on that? And sort of along with that, just attitude towards additional share repurchases since you've kind of worked through your initial $500 million pretty quickly?

Sure. On the cash flow, as you said, we're holding firm our forecast. And so with our earnings coming down, we will have to offset that with improvement in our working capital. So obviously, we've got to hit our inventory expectations, and we hope to do a little better on accounts receivable there as well. And then we did reduce our expectation on CapEx slightly, about $25 million or so. So I think those 2 factors will allow us to still have a great shot at hitting that cash flow at the end of the year. In terms of share repurchases, as we said in our comments, we've completed now the ASR contracts that we entered into early in 2014. So as we get into the second half, we intend to continue to buy back shares actively. We have not entered into a new ASR at this point, but it would be something that we would consider. But rest assured, we'll be still buying back shares in the second half.

Your next question comes from the line of Jamie Cook from Crédit Suisse. Jamie L. Cook - Crédit Suisse AG, Research Division: I just guess a couple of questions. And while I understand it's hard to predict how we think about 2015, obviously, you've done a lot internally to improve the profitability of the company, both at the peak and both at the trough. So Andy, I don't know if you'd be willing to sort of talk about -- we can make our own assumptions on the market, but if we were to assume a 10% to 15% decline in sales, just sort of how we should think about decremental margins going forward, given the improvements you made operationally and recognizing, look, that some businesses or segments are more profitable than other. I guess my second question is to Martin, and I don't know if you'd be willing to say given where commodity prices are today, what you think that implies for how we should think about orders going forward? And then last, my question is, can you just talk about sort of by region how -- just dealer inventory levels?

Jamie, nice point. What I would say is, actually, I think, more or less, everybody now in our industry was a little bit careful about 2014. So we saw the market becoming more difficult. And while we were in a position to deliver pretty much as planned in the first and second quarter, we see that, let's say, our expectations for the third and fourth quarter are, by far -- are lower than what we have seen last year. So that means this basically is a more conservative assumption to 2014. As you know, we don't talk about 2015 when it comes to sales, and I think also it's more difficult than in previous years. But we start the process, our planning process, about more or less in August. So that means we talk to dealers and to bigger customers in order to figure out how they see the market. And we also, of course, try to talk to research firms and try to identify or just collect information throughout the industry. So I think it's too early to talk about 2015 when it comes to revenues and so on. I'm very confident that we are on a good track when it comes to our own performance, starting with market share development. And then with the internal efficiency gains and productivity gains, I would like to hand over to Andy. I don't know how much you are prepared, willing to share with Jamie.

I think the question is obviously as, Jamie, as you're asking what happens to AGCO if we go down in our revenue from here. I think if you looked historically and look and see what our incremental margins at the gross margin level are, they're ranging, depending on mix and market, and all those kind of things, somewhere between 25% and 30%. What we're seeing in these latest reductions is more like 30% because it's a fairly rich product mix that we're taking out. It's all the high horsepower equipment in some of our key markets. So from an incremental gross margin standpoint, that implies a reduction in earnings and margin. What we have to do in terms of engineering and operating expense is much more difficult to define, and it's -- will depend on the severity of any change in demand and what we think the length of that decline in demand would be. So certainly, on engineering, we have opportunities to reduce our budget, but it does imply that we'll have fewer products in the next 3, 4 years coming out. So we have to take those matters very seriously. And then on the SG&A cost, we're doing everything we can. We lowered our SG&A from what we had previously anticipated already this year by, I would say, close to $25 million, $30 million. And I think there is some room to further reduce SG&A in the future if demand goes down. But again, it's tough work and things that we'd have to decide in terms of what projects we want to eliminate, how we want to go to market and those types of things.

What I would like to add is that we, of course, after so many strong years, we use this kind of, I would call it, opportunity to look into our processes again and into our organization in order to make sure that we are as lean as possible. And I see certain opportunities, and we have launched several projects, which will support further improvement also in 2015, mainly in Europe. But some of those certainly are quite aggressive ones also here in the U.S. Jamie L. Cook - Crédit Suisse AG, Research Division: I'm sorry, and then just last on the dealer inventories. Can you just talk about how you're feeling about those?

Yes, the dealer inventories in terms of where we are, we're not in too bad a shape. You have to keep in mind that in North America is where there's more dealer inventory carried than what you see typically in, like South America or Western Europe. So in North America, we have 5, 6 months of inventory out there. Our dealer inventory is lower than where it was a year ago. But on a month supply basis, it is higher because the demand is down. So got a little work to do left on dealer inventory in North America.

And our strategy here is not to basically improve revenues on the wholesale level and load dealer inventory up. So that means what we try to do is be as efficient as possible. So that means we just decline certain ideas to move inventories from us to dealers in Europe so that because we think that doesn't help. So we want to make sure that our dealers stay efficient, and we do as well, which means that we plan to have further production cuts in the second half of 2014.

Right, and just a little more facts there. In Europe and Western Europe, and our Western European market, our dealer inventories are up slightly, pretty much level with the end of the year. But again on a month supply basis would be higher. So we have some work to do there. And then South America, our dealer inventories are up, and we have some work to do there. But in Europe and South America, dealers are carrying about 2 to 3 months' worth of inventories. So the severity of any change is not as difficult to achieve.

Your next question comes from the line of Nicole DeBlase from Morgan Stanley.

Yes. So maybe just digging into a little bit of a quarterly cadence that you guys laid out on the call. It seems to me like 4Q, you're implying like $1.45 to $1.50 of EPS in your guidance, and that does represent year-on-year growth in earnings. So I'm just curious what gives you the confidence that you can return to year-on-year earnings growth in the fourth quarter?

Well, you're right in terms of the fourth quarter does look fairly comparable to what we did a year ago. And if you recall, we had I would say a fairly weak quarter, fourth quarter last year in terms of our margins at the gross margin level. We had some pricing, higher -- lower pricing than anticipated, and so that pulled our margins down and some other inefficiencies. And then also in South America, recall that the South America business was interrupted in the last part of the year by the interruption of the FINAME funding. So we lost a lot of business there at the end of the year in South America, which made us pretty unproductive there. So we expect to see improvement in our results in South America in the fourth quarter and an improvement in overall margins, and also some of these expense cuts that we -- Martin referred to, take shape in the fourth quarter. So we'll see lower expenses in the fourth quarter. So all that combined allows us to think that we can be pretty level with the fourth quarter last year.

Nicole, I would like to make one remark here. So this plan is as realistic as it can be seen as of today. So we don't plan to come back now every quarter and lower our guidance. So we think it's the best we can do and the best we know, and I think it's, in a way, conservative.

Okay. I really appreciate that. And then my follow-up question is just on pricing in the market, given that you guys need to move some of this inventory, how are pricing trends holding up, especially within used equipment?

Used equipment pricing is -- has stayed pretty strong. We haven't seen significant changes in used equipment pricing, no immediate red flags there. So you're right. That is an important factor, but things are holding up.

It is because a used Fendt tractor is still better than a new John Deere. So that's one of the reasons.

Your next question comes from the line of Ann Duignan. Ann P. Duignan - JP Morgan Chase & Co, Research Division: Just a couple of quick follow-ups. First, on the elevated inventory for Tier 4. I'm not sure I understand why you'd have elevated inventory for transition to Tier 4. Are there manufacturing problems transitioning? Or help me understand why we'd have inventories of Tier 4.

No, Ann. We basically are in a position to produce and deliver certain tractors with previous technologies, let's put it like this, under the new legislation, but the engines need to be in-house already now. And so we basically have a higher inventory of engines in the first -- in the last quarter, which will be then used up during the next -- first quarter and the second quarter of 2015. Andy can you give you a little bit more flavor for that. Ann P. Duignan - JP Morgan Chase & Co, Research Division: Yes, I think understand that, but I thought the engines had to be in-house by year-end '13. Is it just a timing issue?

That's right. So they were in-house by the end of 2013, and so now, we're using those inventories down for the high horsepower models. And we're rebuilding our inventory of the lower-horsepower models now in the second half of the year for next year's transition of the low-horsepower Tier 4 model.

So what you saw last year on the high horsepower, you see again basically more or less the same on the smaller tractors this year. Ann P. Duignan - JP Morgan Chase & Co, Research Division: Okay. Okay. That's helpful, and then just a bonus contingent here I guess but when you talk about 5 months and 6 months of dealer inventories based on 12-month trailing sales, and we're coming out of peak sales, it's a little bit, I don't know, it doesn't -- it's kind of apples and oranges. Have you calculated where your dealer inventories would be if you calculated them on an annualized 3-month trailing sales?

Well, Ann, I think the way you would do that is [indiscernible] put 6 months and industry's down -- high horsepower industry down 10%, 15%. So you can look at it that way and say we've done an extra -- maybe an extra month if you're looking at it on a forward basis. Ann P. Duignan - JP Morgan Chase & Co, Research Division: Yes, I'm just curious. And then just finally on the fundamentals. I know you talk about the dairy industry being strong in the U.S., but the dairy industry is kind of falling off a cliff in Europe and New Zealand on the back of New Zealand's increase in production. How long do you think it would be before the U.S. dairy industry starts to be impacted by global prices?

I think there is not a global dairy price. So I think dairy prices are more regional in a way. So the price development in New Zealand have no impact whatsoever to Europe or to the U.S. and onto the market is comparably small for us. In general, I think there's impact between the various European countries and then there might be a slight impact between -- but not so much because this is not really where Brazil is very strong at. So, therefore, I think -- to be honest, I couldn't answer that question. I think the chances of an upside in Europe are most probably there. I don't know how stable the situation in the U.S. is. Ann P. Duignan - JP Morgan Chase & Co, Research Division: Yes. I would just argue that they all compete for exports to China, but I'll leave it there and get back in line.

But the Chinese don't eat cheese, and they don't drink milk. Ann P. Duignan - JP Morgan Chase & Co, Research Division: They are lactose intolerant. That's true. They do buy a lot of dry milk powder though.

Okay. I didn't know that.

Your next question comes from the line of Rob Wertheimer from Vertical Research.

Yes. I wanted to just ask a bit, maybe Ann touched on it with various stuff. But just curious about what is affecting Europe quarter-over-quarter? Obviously, the grain mix is different. I didn't know whether there was any flow of used equipment east that was hitting an issue or whether it's just a little bit of a soft patch and it's not structural. Just what your thoughts were there.

Yes. I think it's very difficult to really find out. One thing is certain markets recover from a rather low level, and they're mainly U.K. and Finland and Scandinavia. So Eastern Europe is a little weak, I would say, and that could have a certain impact coming from Russia or Ukraine. I don't see that so much. I think it's more like a kind of -- the idea of farmers to put investment a little bit on hold, and then we have 2 major market -- Spain, by the way, also recovered a little bit. So we have 2 major markets that do not do so well, and they are important for AGCO. One is Germany, where we have a very high market share, and the other one is France. And I think in France, it's more related to the overall political situation. The anti-business attitude of the President and his government, and that scares people, not only farmers, but also farmers and I think that makes them hold investments back. And the Germans are kind of pessimistic per se, and I think they watch carefully the overall environment. And they have a rather new fleet of product because they invested quite a bit in the last years. And therefore, I think they're also more conservative than they have been in the past. I don't see real financial reasons for that. You can see that the big professional farms still invest, but the normal midsize and smaller family farms, you can talk to those guys and they say, "Well, actually, I decided to keep my combine or my tractor maybe a year longer."

All right. That was really helpful.

We saw that, by the way, also during the financial crisis.

Yes. But basically, what you're saying is you're not seeing anything that's particularly structurally farm economics-related, more a little bit confidence and not particularly Eastern Europe-related, but a little bit more confidence, at least in Germany.

Yes. It's more confidence-related than structural, with the exception of maybe some of the regions of Europe where you have those very small farms, who still see concentration and you still see development towards bigger farms.

Great. That was helpful. If I can ask one quick follow-up again on the inventory. I'm just a little bit curious. Your production was down 19% I guess in the quarter year-over-year. Inventory didn't really go down quarter-over-quarter, I know there's a little bit of mix-and-match there. But specifically, you mentioned production was down on tractor and combine. Did you cut production on other products? Was there a little bit of build in the other products? Or is that maybe just the wrong track?

Yes. I wouldn't say there's a big change in the other products, Rob. I don't think that's the issue. It's, again, around replacement parts, some of this Tier 4 inventory and some inefficiencies in terms of when we change production, we still have material coming in, and we've got to work that through our system. And that's causing some of the increase as well.

I think we have opportunities here because during the last years, we always talked about inventories, and that's not really our strength. Our factories are organized in a way that we basically can do build-to-order in every facility in all factories globally. And therefore, we are just now taking a fresh look on how to reorganize ourselves because the management is not really satisfied with how we are doing, and so I would expect to see some effects, positive effects of this rather soon.

Your next question comes from Seth Weber from RBC Capital Markets.

I'm just kind of following up on Rob's question. Bigger picture, have you seen anything with -- we've been hearing about decelerating farmland value growth here in North America. Have you heard anything about that as being a concern to the farmers? Is that causing them to slow down their purchases at all?

Actually, I didn't see that. I'm also not sure whether that will really happen because I think demand for farmland still is much higher than supply. So I would be surprised to see something like this. Certainly, not in Europe and Brazil but also in U.S. I don't think that this is a trend.

We do, Seth, have an issue with rent prices being high, but those typically adjust every 12 to 18 months kind of along with commodity prices. So that's something that'll work through the system probably over the next year or so.

Yes, I would agree. So renting prices will reflect market conditions as they always do, and they lag behind in the -- globally, they would lag behind I would say.

Sure. Okay. Andy, on the China factories start-up costs, how long do you expect that to continue to be a headwind?

This year will be, and then as we -- we've just started producing some of our new platform tractors there, and that continues to ramp up this year, and then we'll ramp up further next year. So our cost will continue to go up, but we'll have revenue to support it in a much better way as we move into next year. So I would expect it not to get any worse next year but hopefully get better.

I think timing is pretty good. So you heard that the smaller tractor business is much stronger right now so -- and we opened the factory successfully. We have produced already almost a couple of thousand tractors in the meantime. It's a very good product, excellent design, brand-new design, and that will help us.

Okay. And do you have a target for what percentage of sales you might think come from new products either this year or next year? I mean, you call it out in the press release.

No, we don't. We have a target internally, but we never talked about it so far. We need to think about whether we want to do that.

Your next question comes from Andrew Kaplowitz from Barclays.

It's Alan Fleming in for Andy. I don't think anybody's asked you, so if you could just give us an update on your order boards in your key regions and maybe talk about a little bit more in detail about the cadence of orders that you saw through the quarter.

Our order board is down across the board compared to where we were at the -- a year ago, ranging from about 15% down in Europe to more like 30% down in South America. The -- you have to keep in mind when you look at orders, as the order board declines and dealers don't really feel the need to put orders in when they can get delivery fairly quickly, and that's kind of the situation we're in. So it's not really reflective of what the sales decline will be. It's more about availability and how much dealers feel they need to slot their orders. So in terms of visibility for AGCO, in terms of our order board, we're -- for the most part, we're at somewhere around 3 months. So we have good -- reasonable visibility of our third quarter, but not full visibility of our fourth quarter yet. So we'll be working on that obviously during the third quarter to get our orders filled for the fourth quarter.

Okay. And then maybe on the cadence of the orders through the quarter, Andy?

Yes. I'm not sure specifically what you're asking for in terms of orders -- our orders coming in are obviously weaker than what they were coming in maybe a year ago.

I think the cadence is the same, just the volume is lower.

All right, if I could press you a little more on South America, it seems that the demand out of Brazil has stabilized a little bit over the last couple of months. Can you talk about your confidence that the FINAME situation has kind of worked itself through the system and that we're seeing a bottoming here?

Well, I think the FINAME program is operating normally now, and so that's really not as big of a concern it was at the beginning of the year. I'd say it's working a little more slowly, but it is working well. The issue is always around funding of the program and whether the government will provide adequate funding to meet the demand. So since the demand is down, the pressure on additional funding is coming down. So I would expect that we won't have any further disruptions this year, but it's something that we can't control.

Okay. And then one more for me. You had previously talked about some expected market share gains, I think, in Europe and maybe even in North America. So can you talk about how that has trended so far this year versus your expectations and kind of the puts and takes you're seeing across the regions in terms of market share?

No, we don't want to do that now [indiscernible] but, of course, this is something which is always also very interesting for competition. So we always wait till we get the official numbers.

Your next question comes from Vishal Shah from Deutsche Bank.

Yes. I just wanted to get your thoughts on how we should think about the Section 179 extension and what you think is going to be the time frame for extension this year, and how that's impacting large ag demand here in the U.S.

Yes. So we're somewhat optimistic that we'll see that get reestablished but likely after the election such that we won't feel much of an impact this year but probably some next year. So it's probably a late this year kind of event if it happens.

Great. And just on the South American margin outlook, you talked about materials cost inflation in that region. Can you talk about how we should think about margins as the demand recovers slowly in that region?

Well, in the second half, I think we're still going to see margin challenges versus what we achieved last year. The impacts, as we said, are mainly around production levels, lower sales, so we're losing leverage on our cost structure there. The inflation on our labor and on our materials is rather high, and we've worked very hard to offset that, and the pricing environment is difficult there. The other factor is that the weakening real has impacted our cost of some of our materials as we import those in. So those factors are affecting our demand. In the second half, we would expect that our margins to be still down in the third but hopefully up in the fourth for the reasons I described earlier that we had a difficult fourth quarter last year and the comparables should be easier for us to beat, and so we would expect to improve our margins in the fourth quarter this year.

And that's all the time we have for questions. I now turn the call back over to the presenters.

Thank you very much, and we appreciate everyone's interest in AGCO today. And if you do have additional questions, I encourage you to contact me later today. Thanks, and have a good day.

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