Q4 2007 Deere & Company Earnings Conference Call on Nov ...online.wsj.com/public/resources/documents/DE-Transcript-20071121… · PRESENTATION Operator Good morning and welcome to

F I N A L T R A N S C R I P T

DE - Q4 2007 Deere & Company Earnings Conference Call

Event Date/Time: Nov. 21. 2007 / 10:00AM ET

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C O R P O R A T E P A R T I C I P A N T S

Marie ZieglerDeere & Company - VP - Investor Relations

Bill RatzburgDeere & Company - Director - Investor Relations

Mike MackDeere & Company - CFO

C O N F E R E N C E C A L L P A R T I C I P A N T S

Jamie CookCredit Suisse - Analyst

Ann DuignanBear, Stearns - Analyst

Andrew CaseyWachovia - Analyst

Andrew ObinMerrill Lynch - Analyst

Terry DarlingGoldman Sachs - Analyst

Alex BlantonIngalls & Snyder - Analyst

Mark CosnerCleveland Research - Analyst

David BleusteinUBS - Analyst

Daniel DowdSanford Bernstein - Analyst

Joel TissLehman Brothers - Analyst

Robert WertheimerMorgan Stanley - Analyst

David RasoCitigroup - Analyst

P R E S E N T A T I O N

Operator

Good morning and welcome to the Deere & Company fourth quarter earnings conference call. Lines have been placed on listenonly until the question-and-answer session of today's conference. I'd now like to turn the call over to Ms. Marie Ziegler, VicePresident, investor relations. Please go ahead.

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Nov. 21. 2007 / 10:00AM, DE - Q4 2007 Deere & Company Earnings Conference Call


Marie Ziegler - Deere & Company - VP - Investor Relations

Good morning. Also on today's call are Mike Mack, our Chief Financial Officer, as well as Susan Carlix, Karen Thompson and BillRatzburg from the DIR staff. Today we'll take a closer look at Deere's fourth quarter earnings and then spend a few minutestalking about our markets and where things are headed next year. After that, we'll respond to your questions. Please note thatslides are available to compliment the call this morning. They can be accessed on our website at www.deere.com. First thougha reminder. This call is being broadcast live on the internet and recorded for future transmission and use by Deere, Thomsonand third parties. Participants in the call, including the Q&A session, agree that their likeness and remarks and all media maybe stored and used as part of the earnings call.

This call includes forward-looking comments and concerns concerning the Company's projections, plans, and objectives forthe future and are subject to important risks and uncertainties. Actual results might differ materially from those projected inthese forward-looking statements. Additional information concerning factors that could cause actual results to differ materiallyis contained in the Company's most recent Form 8-K and periodic reports filed with the Securities and Exchange Commission.The Company, except as required by law, undertakes no obligation to update or revise its forward-looking information.

This call also may include financial measures that are not in conformance with GAAP; that would be Accounting PrinciplesGenerally Accepted in the United States of America. Additional information concerning these measures, including reconciliationsto comparable GAAP measures, are posted on our website at www.deere.com/financial reports, under fourth quarter 2007reports. Call participants should consider the other information on risks and uncertainties and non-GAAP measures in additionto the information presented on this call.

And now, for a closer look at the quarter, here's Bill Ratzburg.

Bill Ratzburg - Deere & Company - Director - Investor Relations

Thanks, Marie. This morning let's start with a comment on the two-for-one stock split approved our shareholders one week agotoday. As shown on Slide 3, the additional shares will be distributed on December 3rd and begin trading at the new price onDecember 4th. Slide 4 then clarifies what the earnings per share would have been on a pro forma basis. In addition, the appendixcontains a slide showing earnings per share by quarter for 2007 on a pro forma basis.

Turning to actual results, this morning Deere reported record fourth quarter net income of $422 million on record fourth quarterequipment operations net sales of $5.4 billion as shown on Slide 5. On a continuing operations basis, income increased 53%and diluted earnings per share rose 57%. On Slide 6, fourth quarter total worldwide equipment operations net sales were up21% compared to the prior-year quarter. There were about two points of price realization. In fact, all three equipment divisionshad positive price realization in the quarter. This is particularly gratifying given the impact of the U.S. housing downturn hashad on the construction, forestry, commercial and consumer sectors. About four points related to positive currency translationand LESCO added about another five points. The remainder is primarily from increased volume, with our fourth quarter productiontonnage up 26% as can be seen on Slide 7 where we have provided a table with production tonnage data.

Getting an initial look at 2008, you'll note that production tonnage for the worldwide equipment operations is expected to beup about 7% from 2007. For the first quarter of next year, tonnage is expected to increase about 18% supported by a strongAG market. Regarding our Company outlook, let's turn to Slide 8. For the first quarter of 2008, we expect company-wideequipment operations net sales to be up about 25% with AG contributing the bulk of that increase and with sales from LESCObasically accounting for the rest. Net income is expected to be up about $325 million for the quarter -- net income is expectedto be about $325 million for the quarter. For the full year, we are forecasting net equipment sales to be up about 12% comparedwith fiscal year 2007. This includes about two points of net price realization. The estimated net income is approximately $2.1million for the year.






Let's turn now to a review of our individual businesses starting with Agricultural Equipment on Slide 9. For the fourth quarter,Deere's worldwide AG sales were up 35%, with the bulk of the increase resulting from higher volumes. Operating profit increasedto $388 million with incremental margins of about 30%. The quarter benefited from substantially higher production tonnagereflecting good market conditions as well as prebuilding components globally in preparation for an expected strong 2008 andfrom improved price realization. Looking ahead, global AG fundamentals are very encouraging. Worldwide stock to use ratiosremain at very low levels, particularly for corn and wheat. In fact, on Slide 10 you'll note that for wheat, corn and soybeanscombined on a global basis, use exceeded demand in each of the last three years. This supports crop prices,which in turnsupports good levels of farm income globally, and as shown for the United States on Slide 11 with total cash receipts for 2007now expected to increase to about $292 billion, a rise of over $35 billion compared to 2006.

The current Deere U.S. Commodity price assumptions from these farm income forecasts are on Slide 12. These prices reflect theglobal need for increased production of wheat, corn, and soybeans. In the U.S., although soybean stocks are incredibly low, themarket price favors corn plantings. Regardless of what happens between soybean, wheat and corn plantings next spring, theoutlook for our customers' income is strong and supportive of equipment demand. In addition, as seen on Slide 13, we nowexpect about 2.9 billion bushels of this years U.S. corn crop to be used in ethanol production. This is a modest decline from ourprevious expectation but still a significant increase over last years level. As a result, our outlook for industry sales of AgriculturalEquipment in the U.S. and Canada, as shown on Slide 14, is up 10% to 15% from 2007.

In addition, our outlook for South America is up about 10% to 15 %. In Brazil, uncertainty still exists over the status ofgovernment-backed financing programs. Slide 15 demonstrates that farm incomes continue to recover in Brazil and Argentina.In Western Europe, shown on Slide 16, our 2008 outlook is for industry sales to be flat to up slightly for the fiscal year. In Australia,certain areas have received timely rains. Some expect to see a bit of recovery, with the industry to be up 5% to 10% in 2008. Soputting this all together, Slide 17 depicts a stronger, worldwide outlook for the sale of John Deere farm machinery. We project2008 Deere Agricultural Equipment sales to be up about 17%. Strong growth is expected in Central Europe and the CIS, includingRussia. In addition, Ningbo Benye, our newest acquisition, should contribute about $100 million to 2008 AG revenues. There'sabout one point of positive currency translation included.

We have spoken about our exciting new product programs and some of you have seen some of them in person. The responseto our early order programs, which involves sprayers, seeding equipment and combines, has been exceptionally strong. Inconclusion, in 2007 AG incremental margins were constrained by significant growth investments. In the 2008 they will beimpacted by additional growth investments, tier-three product costs and tier-four engineering costs and are expected to beabout 25%.

Let's move now to our commercial and consumer equipment business on Slide 18, where reported sales were up 35% in thequarter, with about $220 million of that increase coming from LESCO. Operating profit declined slightly. As expected, LESCOhad a small operating loss accounting for most of the decline. Slide 19 has the key details relating to LESCO. It should be pointedout that to affect accounting integration into Deere's financial systems, LESCO reported two months results in the third quarterof this year and four months results in the fourth quarter. Turning to the commercial and consumer equipment outlook on Slide20, for fiscal 2008, we anticipate sales to be up about 10%, about eight points of which is related to LESCO. 2007 was verysuccessful due to new products, and the robust pace of new product introductions should continue in 2008, as exemplified bythe exciting new models of zero turning radius mowers broadening the John Deere line for commercial customers and consumers.

Let's now focus on construction and forestry on Slide 21, where sales were down 11% in the quarter. Despite 19% lowerproduction volumes, quarterly operating profit was relatively strong at $134 million or over 11% of net sales, and basically evenwith 2006 with some positive price realization. Please keep in mind that in the comparison, in the fourth quarter of 2006 therewere approximately $22 million in expenses for closing a plant in Canada and then also in the fourth quarter of 2006, rawmaterial costs were higher than usual.

Turning to Slide 22, you will see the primary assumptions in the construction and forestry forecast, with new housing startsdeclining further -- excuse me -- to an average of 1.1 million for the year, the lowest level since 1991, with non-residential






spending -- excuse me -- expected to be flat while at a good level -- pardon me -- and with very modest GDP growth. On Slide23, our net sales of construction and forestry equipment are forecasted to be about flat for 2008. This is given the underlyingassumptions and results primarily from the division's rapid response to changing market conditions in 2007, which shouldpermit production to more closely align with retail demand in 2008 and an excellent line up of new products, including [radial]alarms, skid steer loaders, H-series skiders and J-series backhoes.

Moving now to our credit, as you see on Slide 24, credit reported net income in the quarter of about $96 million up from about$88 million a year ago, on the strength of a larger credit portfolio and continued excellent past due and write-off experience.Our forecasted credit net income for fiscal 2008 is about $ 375 million, again on the strength of a larger credit portfolio. Slide25 confirms John Deere credit's provision for losses remains at a very low rate. Before moving on to retail sales let's look atreceivables and inventory. Slide 26 lists the change in receivables and inventory at the end of the fourth quarter of 2007 versusthe end of the fourth quarter of 2006 by division. You'll note that reported trade receivables and inventory at October 31st were$397 million higher than a year ago. The AG division came in higher than planned. Last quarter we discussed building aheadin the U.S. and Canada in anticipation of a strong market in 2008. As the quarter progressed we saw similar favorable marketconditions arise globally and took similar actions across the rest of the division.

Looking at it year over year, currency translation accounted for about $200 million or one-third of the AG division increase. Forcommercial and consumer equipment, LESCO added about $165 million. For construction and forestry, the sale of Nortrax Southhad about a $50 million impact on trade receivables and inventory. Our 2008 forecast calls for flat inventories and receivablesin the face of stronger sales. As we discussed in the press release, Slide 27 highlights the strong continuing focus on assetmanagement in 2007. Even with the approximate $400 million increase in trade receivables and inventory, they remain flat at25% of trailing 12-month sales at year end compared to a year ago.

Before turning to housekeeping, let's look at the latest on retail sales. Slide 28 shows the product category detail for the monthof October expressed in units. For utility tractors, the industry was flat and Deere was down a single digit. For row-crop tractors,the industry was up 24% and Deere was up double digits but less than the industry. For four-wheel drive tractors, the industrywas up 59% and Deere was up double digits and more than the industry. For combines, the industry was up 8% and Deere wasflat. Deere dealer inventories in the U.S. and Canada remain in very good shape, as Deere inventories at the end of Septemberremain below industry levels in each of the categories just cited. On Slide 29, you'll see that for row-crop tractors Deere endedOctober with inventories at 21% of trailing 12-month sales. Combine inventories were at very low levels, 1% of trailing 12-monthsales.

Turning to Slide 30, in Western Europe sales of John Deere tractors and combining were each up a single digit in October.Moving to Slide 31, Deere's retail sales of commercial and consumer equipment in the U.S. and Canada were down a single digitin October. Construction and forestry sales in the U.S. and Canada were down double digits on both a first-in-the-dirt and asettlement basis. To provide more clarity on the composition of Deere sales, Slide 32 provides some new detail for the fiscalyears 2006 and 2007. You can see the strong year-over-year growth in many parts of the world. We anticipate providing thisinformation on an annual basis.

Now, let's touch on a few housekeeping items. Regarding raw materials and freight, let's move to Slide 33. In the fourth quarter,these costs rose approximately $20 million versus last year. Our fiscal year 2007 ended with an increase in raw material andfreight of about $185 million, slightly lower than our guidance. In 2008 we expect these costs to increase by $150 million to $175 million. Looking at R&D expense on Slide 34, spending was up 15% in the fourth quarter due to the large number of newproduct launches, especially in the AG division. Turning to Slide 35, please note that next year's pension and OPEB expense isexpected to be down by about $125 million, with about 60% of the decrease affecting cost of sales and about 40% of thedecrease impacting selling, administrative and general expense. This decrease results primarily from a higher discount rate andsolid asset performance.

Now, moving to Slide 36, SA&G expense for the equipment operations was up 29% in the fourth quarter, with about 17 pointsof that increase coming from global growth initiatives and currency translation. Our fiscal year 2008 forecast includes an increase






in SA&G expense of about 5% over 2007, of which LESCO adds about $100 million. In addition, we'll have higher growth expenses,which will be partially offset by the reduction in pension and OPEB expense. Regarding the tax rate on Schedule 37, the fiscalyear 2008 forecast assumes a full-year tax rate of about 35%. Actual shares outstanding at the end of the quarter were 219.8million, as shown on Slide 38. You can also see the history of share repurchases since 2004. On May 30th of this year, Deere'sboard of directors authorized a new 20 million share repurchase program. During the fourth quarter of 2007, we completedthe previous share repurchase program by acquiring about 300,000 shares, and acquired about 2.6 million shares under thenew program.

Slide 39 provides some additional information related to our fiscal year 2007. For equipment operations, capital expenditureswere $575 million, depreciation and amortization was $429 million, and we made $511 million in pension and OPEB contributions.For financial services, capital expenditures relating to Wind totaled $448 million in 2007. Slide 40 provides similar informationfor the upcoming year -- excuse me. For equipment operations, capital expenditures are currently forecast to be between $600million $700 million, depreciation and amortization is expected to be about $450 million, and we anticipate funding about $300million in pension and OPEB contributions over the year. For financial services, capital expenditures relating to Wind are expectedto total about $550 million in 2008, as they build their portfolio.

Looking ahead, 2007 was a year of exceptional results. Based on our forecast, Deere is on track for another year of outstandingfinancial performance with very strong cash generation in 2008. This demonstrates the power of SVA as a central theme inmanaging the Company and guiding its future course. We are, at the same time, in a strong position to benefit from powerfulglobal economic tailwinds, involving increased affluence and growing demand for food, feed, and biofuels. Our plans forbuilding, growing, and then sustaining a great business are right on course, and we are looking forward to another excitingyear in 2008.


Thank you, Bill. We are now ready to begin the Q&A portion of the call. The operator will instruct us on the polling procedure,but as a reminder, in consideration of others, please limit yourself to one question with a related follow up. If you have additionalquestions, we ask that you rejoin the queue and we'll get to those as time permits. Laura?

Q U E S T I O N S A N D A N S W E R S

Operator

Thank you. (OPERATOR INSTRUCTIONS) Our first question comes from Jamie Cook, and please state your company name.

Jamie Cook - Credit Suisse - Analyst

Hi, good morning, Credit Suisse.


Good morning, Jamie.


Congratulations.







Thank you.


Marie, my first question is in regards to your incrementals forecast for the farm division. I think you said 25% for 2008. I'm justtrying to understand that. To me that seems a bit conservative. I understand you said there's growth investment and spendingrelated to tier three and tier four, but can you just quantify that for me and how much that is relative to what you spent in '07?And I guess the other thing, too, I would expect that you would get some benefit in 2008 from -- at least in the back half of theyear from the plant opening in Montenegro, so if you could just flush through that for me?


There is no question that we will get some benefit from the opening of Montenegro, and that factory is up and running andbeginning to make the transition between the tractor production that's been in Horizontina that'll be gradually moving intothe factory at Montenegro. However, we do continue spending at a pretty good rate as we invest to grow in other markets, Ithink that's one of the reasons why it's so helpful to see what's -- the detail that you do on Slide 32, which provides some coloron what's happening in terms of the different markets. We do continue to require investments in developing a dealer organization,for example, as we move into Eastern -- or Central Europe and the CIS. I don't have a specific break down in terms of how muchwe're going to spend incrementally on tier three, tier four in growth, other than, Jamie, all I can say is it is about five points ofmargin -- of incremental margin relative to that and about normal 30.


Okay, and then just my second follow-up question. As you look -- I understand your forecast is for the industry, but as you lookat Deere in your internal sales forecast, I guess as you look at '08 are you expecting any negative impact from third-party supplierconstraints or any internal capacity constraints and if so, where?


We -- actually I just went around and checked with our operating units and we have the material plans and -- to meet theforecasts that we have just provided to you. So, we know that there are tight periodically in different commodities, but we canmeet these build plans -- these build schedules.


Okay, so you're not seeing any third-party supplier constraints or capacity constraints?


I'm not saying there aren't any, because again, at any given time there are some areas where there are -- there is tightness, butagain, we have the material plans and the agreements with our suppliers to meet these projections.







Great, thank you. I'll get back in queue.


Thank you.

Operator

Thank you. Our next question comes from Ann Duignan. Please State your company name.

Ann Duignan - Bear, Stearns - Analyst

Hi, good morning, Bear, Stearns.


Good morning, Ann.


Just building on what Jamie was talking about, Marie, could you just expand a little bit on your outlook for worldwide AGtonnage up 9% in '08 versus revenues up 17%. I know you're saying that you have committment internally that you can meetthis forecast, but how much of the forecast is constrained by either your capacity constraints or supplier capacity constraints?


That's not an issue at this point. Again, we're taking customer orders on tractors and as you look at that 9% tonnage, Ann, whatmight be helpful is to remember that we did a prebuild in the fourth quarter so we have some pretty significant increases. Theother thing that comes into play here is some of that 17% increase is coming from just the incremental add of like Ningbo, youget currency and you do get pricing on that.


-- comment on the early order program for combine.


While combines and sprayers and planters all have had very good early order programs. Maybe one other thing that might adda little bit of color is as you think about that up 9%, remember that reflects all product lines in the AG markets, and as you'reseeing very good levels of activity in things that are, candidly, primarily related to beans and corn, big tractors, big combines,the sprayers and planters. You look at cotton, that's a very tough segment right now. Smaller tractors, which would have moreof an economic tie, would be a little tougher and also hand forge equipment, so that estimate is hooking at all segments of themarket.







Okay, and just in the interest of time, my second -- follow-up question is around your share repurchase program. If I looked atSlide 38 where you lay out your share repurchases through history, it really does beg the question as to why Deere would notconsider an accelerated share repurchase program. If you look at -- you could have bought back -- you bought back 14 millionshares for less than $1 billion dollars two years ago and 17 million shares last year for $1.3 billion. I guess philosophically, whywould the Company not consider an accelerated share repurchase program?


Well, we've been buying these in the open market since the inception of this program and I think we do have at our option theflexibility of either accelerating or decelerating this and we aren't going to signal the pace at this but we view this as a steadyapproach as what makes sense in our circumstance. So a balanced use of cash, investment in the business, dividends as well asshare buyback, but as you're pointing out, we do have quite a bit of liquidity available to us.


And you wouldn't consider an accelerated share repurchase program at this point, given your liquidity?


Not going to --


We're not going to say right now what the pace is going to be for next year.


Okay. I'll get back in line. Thank you.


Thank you, Ann.

Operator

Thank you. Our next question comes from Andrew Casey, and please State your company name.

Andrew Casey - Wachovia - Analyst

Happy Thanksgiving, everybody, Wachovia.


Thank you, Andy, you too.







A question on the outlook for AG equipment first. Can you comment further on the early order program for combines andfour-wheel drive tractors, specifically it'll be helpful if you could talk about the percent of plant combine production that'salready booked for '08 and then if you can further comment on four-wheel drive, order to delivery lead times whether theyextend past January 1st?


Be happy to. We don't actually have early order programs on tractors. We have early order programs on seasonal equipment.Tractor availability for the 9000's as you know, that's a new product for us and we are very delighted with the market's responseto it. Availability would actually go into July right now. On 8000's -- just anticipating another question on 8000's -- you're lookingat about April. In terms of combines, the take rate has -- again, that's a new product family with significant improvements inproductivity for our customers and we are seeing extremely good market reception to those combines. We actually are -- westill have a little bit of availability left, but suffice it to say that our numbers are quite high.


So if I go back a few years, Marie, this type of surge in ordering by the customer base, what time in history would that remindyou of? Would it be end of '96 or before that?


I'm not sure that I have -- in my history have a period where you've seen in the corn and beans this kind of earlier activity, Andy.I don't have anything. We didn't used to run early order programs like we do today so I don't have a good a feel.

Mike Mack - Deere & Company - CFO

Prior recent peak for performance in the AG division I think was 1997, and that would be (inaudible) and SBA performance,before we started a new model.


I appreciate that, thanks, Mike. The spirit of the question was really given that you don't really have an order -- early orderprogram on tractors, it seems like these lead times are extraordinarily long and they're happening a lot quicker than usual. Isthat a fair assessment?


We're doing our very best to meet customer demand. I think you're aware that we did prebuild in the fourth quarter and wetalked about that with our receivable builds, so we are doing our very best to meet our customer demands. We are -- on the9000's it is fair, though, to note that we are in a product transition so you cleaned out the inventories of the older stuff as youtransition to the new stuff and the market response to those products has been just extraordinary, so we're really quite pleased.Don't forget you're looking also at a global market for these bigger products on combines and on the big tractors, so we'resatisfying customer demand in many geographies.







Okay, thank you very much.

Operator

Thank you. Our next question comes from Andrew Obin. Please State your company name.

Andrew Obin - Merrill Lynch - Analyst

Hi, yes, good morning, Merrill Lynch.


Good morning, Andrew.


Just to follow up on your ability to raise production, how disciplined are you willing to be next year and are you willing to walkaway from business to maintain your focus on operations, to keep pricing? How much cushion do you have to raise productionthe second half of the year if demand, let's say, comes in two times what you're expecting?


Well, I don't think it's appropriate probably to speculate with specific numbers, but suffice it to say that we do have additionalability and it would vary timing wise and by geography, but we are very interested in meeting our customer demand. That said,we are also interested doing so on a rational, reasonable and sustainable fashion and we've talked about that also for someperiod of time, so I think we're doing a very good job of balancing that in the face of good market conditions and new productsthat have been introduced.


But would you raise -- am I correct in thinking you will raise prices before raising production in --?


I think it would be inappropriate for us to speculate in this forum on pricing.


Andrew, we have expanded some of our capacity in terms of making capital investments in Waterloo and Montenegro andengine test [self] capacity in [Toreaon]. but nevertheless in the face of a surge, there's only so much you can respond to at acertain period of time, so I think that there are some constraints at some point.







Let me just ask you, I was just a bit surprised by your outlook for construction equipment for next year, given just how weakresidential is and what retail sales data shows, for example, for you, for Caterpillar. What makes you confident that constructionand forestry will effectively bottom out in '08?


Well I think what you're seeing is that in '08 we are able to produce to retail demand. Don't forget that in the comparison youhave in it a time when we took out about $250 million out of inventories. both dealer & Company owned, so you've got thatability to produce to retail and that is a significant factor. You also have the overseas forestry markets which we see down alittle bit but still holding up very good. You are also -- for the independent rental companies we've had a very significant declinein 2007. Our markets for our -- were down about 70% in that segment. We expect that to be flattish next year, so you've got anumber of factors at play there. But the single biggest factor then is the fact that we have managed those inventories and sowe're able to produce to retail. Now, obviously, if the market conditions change, we may have to reassess that, but our outlookis based on housing starts, which we indicated, of 1.1 million --


So given [you're just talking and the] communication from your customers and your dealers supports the forecast, that's theright read, right?


Yes, absolutely right. We actually had talk to our dealers and very recently we had annual meetings and dealer advisory meetingsand we surveyed them and they feel that their inventories are in alignment with the current market outlook.


Thank you very much.


Thank you, Andrew.

Operator

Thank you. Our next question comes from Terry Darling. Please state your company name.

Terry Darling - Goldman Sachs - Analyst

Goldman Sachs.


Good morning, Terry.







Good morning, Marie. A couple clarifications. You were kind enough to mention that the impact of the growth initiatives, tierthree tier four is probably about five percentage points incremental margin hit in FY '08. What was that hit in FY '07, if youwould?


I don't have a specific quantification, but incremental margins generally for the AG division for the full year were around 30%and so there would have been some impact. I don't have it -- I'm sorry, I'm struggling, I don't have --


Can you give us a feel though, Marie, higher, lower or about the same?


Tier four investments are higher in '08 as compared to '07.


The ramp up in the growth expenditures -- the year-over-year increment in growth would be less.


So overall a harder hit in '08, that's helpful. Question on your pricing outlook. I think you're mentioning 1%, which is lower thanthe 2%.


No, two points is what we said.


I'm sorry, I missed that, thank you.


For the whole Company.


And then wondering if you could just talk a little bit about you're --







Terry, excuse me, it's one point of currency. That may be where the confusion is, but two points of price.


Okay, so -- I guess still on price you're assuming no stronger pricing next year than this year, despite the industry utilizationbeing much higher entering the year?


Well don't forget you can't look at it on a single-year basis. We have a string of price increases -- of positive price realization,and again I'm looking at the overall Company. You've got different factors going on in that up to, but we are looking at positiveprice realization in this Company since 2002, a string of them, so you can't just look at it in a single year. The other thing thattwo points reflects is, frankly, some really tough conditions in the construction equipment market, where we hope not to losepricing but it's hard to envision that you'll have a lot of upside when you've got market conditions such as they are.


So looking at the pieces maybe a little better AB, a little worse construction?


That would be fairly assumption.


And then finally, I'm wondering if you can comment on your external engine business growth and maybe qualify how thisgrowth is trending '08 versus '07. Are you expecting stronger growth, weaker growth, because I think that's probably a factorwe haven't talked about yet?


Generally speaking, for the external side of the business , probably a little less robust growth as we go into 2008 reflecting someof the -- a little more difficulty in some of the construction-related sectors that might impact that. On the other hand obviouslypretty good activities in our own internal business.


Okay, thanks very much.

Operator

Thank you. Your next question comes from Alex Blanton. Please state your company name.






Alex Blanton - Ingalls & Snyder - Analyst

It's Ingalls & Snyder.


Hi, Alex.


Marie, the inventory for the quarter, it was down slightly from the fourth quarter -- third quarter but up quite a bit from lastyear, up almost $400 million. How much of that is coming from acquisitions?


LESCO added 165 and --


I'm sorry?


LESCO added $165 million year over year and then we had --we have about a $50 million going the other way from the sale ofour Nortrax South operations, so the net is $115 million.


Net 15 --


$115 million.


I'm sorry?


Net is $115 million.


And does that represent the prebuild you're talking about, the --?







No, no, no, those are two different divisions. The prebuild occurred in AG.


Well I know, but I'm talking the overall went up about almost $400 million, and $115 million came from acquisitions, so therewas another almost $300 million somewhere else.


And that's AG and that is correct, and that would be our -- a lot of that is prebuild. There's some growth just supporting somehigher markets but a lot of it is prebuilds.


And the second question is --


And currency. Currency is two -- for the AG division, currency is about $200 million and in total it's about $300 million for thefull company, which is what we show on the slide.


Oh, okay, so the currency had a lot to do with that?


Sure.


Okay. The rest of world was up 27% according to Slide 32, which is astounding really and different from, I think, most of yourexperience in the past where the larger Deere tractors have had to compete with smaller cheaper tractors in emerging nationsand not that effectively, but now, it seem as if your products are really catching on in some of these emerging nations. Whatdo you think are the biggest growth drivers in places like Central Europe, Russia? I mean in Russia they have tractor producersbut you seem to be doing very well there and also in Central and South America. Those are very big sales increases.


Well, I think our tractors do very well in Russia and the other (inaudible) countries as well, and so you're right that that's an areaof strength for us and I think our line up in the horsepower sizes is very good match for that so we anticipate some strongdemand in those countries for some time. In markets like Latin America, I think this additional capacity we have and new productline up also positions very well for the growth that's going to be occurring in Brazil and we have continuously been investing






in the small tractor line up in other parts of the world, as well, so we can compete more effectively and have a better valueproposition.


And you say you're reducing the size of the tractors to be more competitive to local markets?


It depends on the market.


Or changing the features so that it's featured appropriately for the market.


More compatible, because 50% increase in Central Europe, these are really quantum changes.


Some of that;s currency too, don't forget.


How much of that?


Well for the full Company I'd have to go back to the --


For the Company it's -- 5% of the 8% is currency, full Company.


Yes, I know, full Company, but do you have it broken down by region?


No, absolutely not.







Okay. All right, thank you.


Thank you, Alex. Next question, please.

Operator

Thank you. Our next question comes from [Mark Cosner]. Please state your company name.

Mark Cosner - Cleveland Research - Analyst

Good morning, it's Cleveland Research.


Good morning, Mark.


Morning. Question about the operating margin in the AG equipment, given that you had this 56% volume production thatdidn't all go to revenue. I would have assumed that there would have been considerable over absorption of your fixed costsand therefore a higher reported margin and it didn't seem to come through. The margin is quite good at face value, butconsidering your production plan, it actually seems like it might have been a little bit light and so I'm wondering if you couldtalk about that and then what this over production implies for how to think about margin improvement in the early part of '08?


Well again, our guidance for 2008 for the AG division is incremental margins be 25%. In terms of what happened in the fourthquarter, we did cite in the press release that we did have some higher R&D. A lot of that is AG oriented in the quarter becauseof this huge number of product launches, like of the 9000 series tractors, the cotton pickers, the new combines, and so we hadintroduction expenses that would have affected SG&A and plus a lot of growth -- a lot of the increase. LESCO certainly wouldstill be related to the AG division. The other thing is that when you increase your production, when -- not all of that ended upgetting sold so it's not all included in sales of that increase in our ending receivables and inventory, and so some portion ofthat, we only got a manufacturing margin on. We didn't actually get the selling margin and that'll flow through over the courseof next year.


So because you only captured the manufacturing margin, you're saying there's actual margin dilution that occurred here in thequarter, and that we're going to get a supplement in the early part of next year?







Well I wouldn't say on the timing exactly and in terms of when that benefit will arrive, but again. you're talking about a portionof that build in the AG division.


Okay, Then on LESCO, that was a public company before you bought it so you can -- if you look at the financials it was marginallyprofitable and clearly, it lost some money in the fourth quarter. What's the outlook for next year? Is it going to be gradual profitimprovement or are there some -- are you expecting something more dramatic there and if so, why?


Well, LESCO is also absorbing -- we are absorbing some of our integration expenses as we are moving through our outlook, hasbeen and continues to be that they will be profitable after we have owned them for a year. Of course, that'll occur later nextyear in what -- later in 2008 for us. For the full-year outlook is that LESCO is basically break-even on an operating profit basis,and they're performing basically in line with plan.


Full year 2008 break even?


Yes.


Okay, very good. Thank you.


Thank you. Next question?

Operator

Thank you. Our next question comes from David Bluestein. Please state your company name.

David Bleustein - UBS - Analyst

It's UBS. Good morning.


Morning David.







Can you give us some sense for the size of the facility in Brazil, either a tractor capacity or expected revenues in '08 or expectedrun rate in '09, just some quantification of that thing?


That's a great question and it's one that we have actually declined to answer obviously for competitive reasons. But it does --there's no question that it improves our ability to respond to the market. Not only in the horsepowers in which we had traditionallycompeted in, but it's also allowed us to broaden our horsepower offerings, and the first two models that were in production inMontenegro are actually higher horsepower tractors -- 180 and 200 horsepower -- and they were ones we did not previouslymanufacture in Horizontina. But other than that, I'm not able to be specific.


Okay, fair enough. Which raw materials are driving the expected increase in 2008?


We're assuming that we'll see some higher tire prices based on what we've already seen. We think in our landscape business,because of where oil prices are, that'll drive some higher cost for irrigation pipe and that'll also -- those oil prices will affect ourin-bound logistics. We're in contract negotiations for steel right now. so we'll prefer to take a pass on that, but that gives yousome idea of the things that we're thinking about.


Okay. And then the last one is the pipeline of projects or acquisitions that you see that currently meet your financial targets, isthere a big pipeline? Are there a lot of global opportunities for you to invest your dollars at those -- at your current financialtargets?


Well, we have a lot more focus and resource devoted to this now than we did a year ago and certainly much more than a coupleyears ago. It takes time. You have to have a number in the pipeline to make these come to fruition. We are going to maintain adisciplined approach towards this in terms of our criteria, and we're not going to deviate from that. These have to at the endof the day create economic profit or we aren't going to be investing in it, but we are active in virtually all of our divisions andlots of geographies looking for opportunities.


Okay, terrific. Thank you.

Operator

Thank you. Our next question comes Daniel Dowd and please state your company name.






Daniel Dowd - Sanford Bernstein - Analyst

Bernstein.


Hi, Daniel.


How are you? You mentioned in there that the Brazilian-- there were uncertainties around government-backed financingprograms. Can you give a little more color on that?


Be happy to. Our business -- our plan for 2008 has that farmers are required to make their tsunami-backed payments on the17th of December; that is what the legislation is. And as you know, about two-thirds of our customers have already made theirpayments and that's actually been something we've talked about a couple conference calls ago. The reason we felt that weshould at the least put that in there, though, is that there are some constituents in Brazil continuing to lobby the governmentfor potentially an extension or for some additional terms and so I think we feel until we get to that date and see what actuallyhappens , that continues to be an area of uncertainty. Again our base case -- our business plans are all based on those farmersmaking those payments on the 17th of December.


Okay, that's helpful. Can I just terms of construction for just a minute? You indicated that prices were actually up in that market.Can you talk about under the market conditions how that came about and were there specific things that were driving that?


Well, it would be our price realization, which is a combination of list prices, as you know, and what happened with -- whathappens with the discounts and I would say that you'd have to attribute some portion of this to the excellent discipline thatwe have had in our asset management. We are really quite proud of what's been accomplished there in terms of the success ofour build to order es -- it's called estimate to cash in that division -- in terms of responding to the changing market conditionsand that is in contrast, candidly, to what we have done in the past. And again, I think it's a reflection of the discipline with theFDA and the ORA. Again, in any quarter you can always get some unusual things. Our outlook is certainly still quite cautious interms of what's happening with pricing, but I think that's certainly reflects well on the divisions management efforts.


It certainly does. So is your view that the inventory drawdown that you and others have done in that sector over the last threeyears has actually stabilized pricing generally or do you think this is actually just Deere observed this and probably othermanufacturers did not?







I would be -- really I have no way of responding to what other manufacturers have been doing. I can really only comment onDeere.


Okay, thank you.


It's a reflection of, again, the quick response to the changes in the market conditions at Deere.


Thank you.


Thank you.

Operator

Thank you. Our next question comes from Joel Tiss and please state your company name.

Joel Tiss - Lehman Brothers - Analyst

Hey, Joel at Lehman Brothers. How you doing?


Pretty good, and you?


All right. Just that same spirit of -- the question over again, can you talk in the non-AG businesses on the pricing on the like-for-likeproducts? I know you're introducing a lot of new products and maybe if you include the change in the mix then prices wouldbe positive, but what about on the like-for-like products?


On the non-AG businesses, we haven't announced the pricing for 2008 on the construction and I don't have -- I don't think --none of us have seen -- I don't know what's coming out on the commercial and consumer side. Typically, the pricing strategythere is that you get a little bit of benefit from the features in the markets but on the consumer side --







Yes, more on the commercial side and we do have a very extensive product introduction on the commercial mowing side andthe CNC division this year and it'll be the best product line up we've had there on the large frame zero turning radius mowerssince we've ever been in the business, so that's going to be real positive on that side.


That, in fact, is helping support our sales outlook in what is otherwise a tougher market.


Okay, yes, and I meant in 2007. But in the AG business, if the volumes are better than expected, would it be fair for us to assumethat the incremental -- that the pressure on the incremental margins would be to the upside?


I think I will have to let you make your own conclusions on that.


All right. And just last, the credit portfolio, can you talk a little bit about the mix of what's in there between AG and construction?Thank you.


Yes, I actually have to look that up though. In terms of the credit portfolio -- I'm almost there. Their mix -- do you happen toknow what page that's on? Portfolio compen -- okay, I got it. By market, AG equipment is about 60% of the portfolio, construction'sabout 20% to 25%, commercial and consumer about 10%, and AG financial services, which would really be the farm plan, isabout 5%.


Okay, thank you.


Thank you, Joel.

Operator

Our next question comes from Robert Wertheimer and please state your company name.

Robert Wertheimer - Morgan Stanley - Analyst

Hi, good morning. It's Morgan Stanley. Hello, everyone.







Good morning.


I have two quick questions, one on the outlook for Western Europe where you have it, I think, for the market flat to up slightly.I know that's a market that hasn't grown much secularly, but it's been doing much better than that now, so what is causing tosee a slowdown?


Well again, it is a market that essentially we have for a very long time viewed as one somewhat in decline as they've beenchanging the common agricultural policy payouts. We did in 2007 see some pull ahead, actually, into 2006 because of thechange in a value-added tax in Germany. In 2008, again, you see very good farm income but really coming from a -- unlike theU.S., where you have a dip in industry demands so you've also got some recovery here, you really didn't ever have that in theWestern European markets. They have a lot more livestock so the income streams are a lot more diversified than they wouldbe in the U.S. market, so you're just really coming at it from a better base, if you will.


Is that something you're seeing in the order flow or is it more just a projection, let's say?


Well, we don't do those things in a vacuum to be fair, but we've -- again when we look at where maybe more of the growth is,it seems to be occurring a little further east.


Thank you. My second question is on credit net income guidance which I think is up around 4%, which is fine but it seems a bitlow given how strong your volumes will be and have been recently. Is that funding pressures or is that higher provisioning orwhat is that?


No, it's not funding pressures. A couple of things. The first one is that, if you'll recall in 2007 we increased our leverage in thecredit company and that occurred mid year, so the 2008 results really reflect a full year of the higher leverage and the impacton an after-tax basis was about $6 million. So if you -- if that leverage change had occurred at the beginning of 2007, creditsincome would have been $6 million less, so that's in place. The other thing is remember as you, when you book a note you haveto take the full provision on the note at the time you book it, but if -- let's say you book it mid year you may only get a partialyear's worth of income. So increased volume in a given year can actually mute, if you will, somewhat expected income becauseof the provisioning. We don't -- we have seen our portfolio perform very well in terms of past dues and write-offs. We anticipatewe'll see maybe a slight increase in write-offs next year but still remaining below historic trend levels, so there's no issues in theportfolio. It's really growth and then the leverage.







I should also say there's no issues relative to the margins. We have a very conservative interest rate risk management approachto this since we're able to keep that in a very narrow band and that's not an issue.


That's very helpful. Thank you.

Operator

Thank you. Our --


I think we're almost at the top of the hour. I've got time for one more question.

Operator

Thank you. We'll take the final question from David Raso. Please state your company name.

David Raso - Citigroup - Analyst

Citigroup. Question on getting more comfortable with the construction and forestry guidance. First, the retail outlook for '08-- and I apologize if I missed it -- what is the retail outlook for construction and for forestry?


Oh, we don't have the industry guidance, David. We have our own sales guidance, which is -- as you're aware of is flat -- flattish.Certainly, with housing, one would expect certain segments to be under some pressure. On the other hand we expectnon-residential spending to remain at a very high level, remain flat with 2007.


So can I at least read into that the level of under production in '07 could allow you to have flat production even in a down retail?


Oh, that's what we've said.


Okay.







A little bit, no question.


And that said, can you help us understand the sale of the Nortrax assets and there's even word of maybe further, there's somebenefit, obviously, now that it's an external third-party sale, regardless of how fast the dealership turns that inventory, still nowwhen you sell that to Nortrax and now owners it's a third-party sale. Is there any benefit in your '08 construction guidance fromthis ?


Actually, it turns out it would be a slight detriment because you don't pick up the used equipment sales that we're runningthrough the income statement in the margin -- the retail margin on the serv -- the parts and the complete goods and theservicing, so it actually would be a slight negative. It's not worthy.


Very small.


Yes.


And then when it comes to the external engine sales in this division, can you just give an idea of the growth in that businessand if you can roughly size it for us?


Well, we a year ago talked about a business that was roughly 300,000 engine units and roughly half external and we have nowput sales dollars on it. We don't, as you know , manage the business separately. it's incorporated with our equipment lines asintegral, so I don't have any other financial -- I don't have the financials on those.


Well, is it a growing -- basically a lot of it seems to be housed in this line item and people are trying to figure out how you're outperforming.


That would not be correct.







It's not mostly in construction?


No, that would not be correct.


Okay. And then lastly, the forestry comment about down Europe, when I think of international forestry -- given what's goingon in Russia and so fourth -- is your forestry international expected to be down next year?


Well, we had some unusual circumstances in Europe that -- and Europe is certainly a big piece of the business. You may recallthere was some storms damage that occurred early in the year. You had some harvesting. There's also taxes, Europe has taxeson the export of logs that have actually supported the forestry business in Finland and the Nordic countries, in particular. Sowe're looking at the absence of the storm damage, having a slightly -- slight -- putting some slight downward pressure, if youwill, on the sales, but still looking for a very decent year, and I'm stopping short of projecting what you might see in any givenmarket.


I'm sorry, my question though was all international forestry, down as per your European comment?


Don't have that level of detail available for you, David.


Okay, thank you very much. We'll talk off line.


Thank you so much for participating in the call, everyone.

Operator

Thank you. This does conclude today's conference call. We thank you for your participation. You may now disconnect your lines.






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Cover PageCorporate ParticipantsMarie Ziegler (83 Turns)Bill Ratzburg (7 Turns)Mike Mack (7 Turns)

Conference Call ParticipantsJamie Cook (6 Turns)Ann Duignan (5 Turns)Andrew Casey (5 Turns)Andrew Obin (6 Turns)Terry Darling (10 Turns)Alex Blanton (15 Turns)Mark Cosner (6 Turns)David Bleustein (5 Turns)Daniel Dowd (6 Turns)Joel Tiss (5 Turns)Robert Wertheimer (5 Turns)David Raso (10 Turns)

PRESENTATION1. Operator2. Marie Ziegler3. Bill Ratzburg4. Marie Ziegler

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