Item 1. Business.
This Annual Report on Form 10-K contains forward-looking statements that are subject to risks and uncertainties. All statements other than statements of historical fact included in this Annual Report on Form 10-K are forward-looking statements. Forward-looking statements give our current expectations and projections relating to our financial condition, results of operations, plans, objectives, future performance and business. All forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those that we expected. Important factors that could cause actual results to differ materially from our expectations, or cautionary statements, and other important information about forward-looking statements are disclosed under Item 1A, “Risk Factors” and Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Safe Harbor Statement” in this Annual Report on Form 10-K.
The Company
John Deere Capital Corporation (Capital Corporation) and its subsidiaries are collectively called the Company. John Deere Financial Services, Inc. (JDFS), a wholly-owned finance holding subsidiary of Deere & Company, owns all of the outstanding common stock of Capital Corporation. See “Relationships of the Company with John Deere” for additional information regarding agreements between the Company and Deere & Company. The Company conducts business in Australia, New Zealand, the United States (U.S.), and in several countries in Africa, Asia, Europe, and Latin America.
The Company provides and administers financing for retail purchases of new equipment manufactured by Deere & Company’s agriculture and turf and construction and forestry operations and used equipment taken in trade for this equipment. The Company generally purchases retail installment sales and loan contracts (retail notes) from Deere & Company and its wholly-owned subsidiaries (collectively called John Deere). John Deere generally acquires these retail notes through John Deere retail dealers. The Company also purchases and finances a limited amount of non-Deere retail notes. The Company also finances and services revolving charge accounts, in most cases acquired from and offered through merchants in the agriculture and turf and construction and forestry markets (revolving charge accounts). The Company also provides wholesale financing for inventories of John Deere agriculture and turf and construction and forestry equipment owned by dealers of those products (wholesale receivables). In addition, the Company leases John Deere equipment and a limited amount of non-Deere equipment to retail customers (financing and operating leases). The Company also offers credit enhanced international export financing to select customers and dealers, which generally involves John Deere products. Retail notes, revolving charge accounts, wholesale receivables, and financing leases are collectively called “Receivables.” Receivables and equipment on operating leases are collectively called “Receivables and Leases.”
Capital Corporation was incorporated under the laws of Delaware and commenced operations in 1958. At November 3, 2019, the Company had 1,666 full-time and part-time employees.
John Deere’s internet address is http://www.JohnDeere.com. The information contained on John Deere’s website is not included in, nor incorporated by reference into, this Annual Report on Form 10-K.
Business of John Deere
John Deere’s operations are categorized into three major business segments:
The agriculture and turf segment primarily manufactures and distributes a full line of agriculture and turf equipment and related service parts, including: large, medium, and utility tractors; tractor loaders; combines, cotton pickers, cotton strippers, and sugarcane harvesters; harvesting front-end equipment; sugarcane loaders and pull-behind scrapers; tillage, seeding, and application equipment, including sprayers, nutrient management and soil preparation machinery; hay and forage equipment, including self-propelled forage harvesters and attachments, balers, and mowers; turf and utility equipment, including riding lawn equipment and walk-behind mowers, golf course equipment, utility vehicles, and commercial mowing equipment, along with a broad line of
associated implements; integrated agricultural management systems technology and solutions; and other outdoor power products.
The construction and forestry segment primarily manufactures and distributes a broad range of machines and service parts used in construction, earthmoving, road building, material handling, and timber harvesting, including: backhoe loaders; crawler dozers and loaders; four-wheel-drive loaders; excavators; motor graders; articulated dump trucks; landscape loaders; skid-steer loaders; milling machines; recyclers; slipform pavers; surface miners; asphalt pavers; compactors; tandem and static rollers; mobile crushers and screens; mobile and stationary asphalt plants; log skidders; feller bunchers; log loaders; log forwarders; log harvesters and related logging attachments.
John Deere’s worldwide agriculture and turf and construction and forestry operations are sometimes collectively referred to as the “Equipment Operations.” The products and services produced by the segments above are marketed primarily through independent retail dealer networks and major retail outlets.
The financial services segment includes the operations of the Company (described herein), and additional operations in the U.S., Canada, Brazil, China, India, Russia, and Thailand. The segment primarily finances sales and leases by John Deere dealers of new and used agriculture and turf equipment and construction and forestry equipment. In addition, it provides wholesale financing to dealers of the foregoing equipment, finances retail revolving charge accounts, and offers extended equipment warranties.
For fiscal 2019, worldwide net income attributable to Deere & Company was $3.253 billion, or $10.15 per share, compared with $2.368 billion, or $7.24 per share, in 2018.
John Deere’s net sales and revenues increased 5 percent to $39.258 billion in 2019, compared with $37.358 billion in 2018. Net sales of Equipment Operations increased in fiscal 2019 to $34.886 billion, compared with $33.351 billion last year. Wirtgen results are included for the full year while 2018 contained ten months of Wirtgen activity. The two additional months added about 1 percent to John Deere’s 2019 net sales.
Agriculture & turf sales increased for 2019 due to price realization and higher shipment volumes, partially offset by the unfavorable effects of currency translation. Construction and forestry sales were higher for 2019 primarily due to higher shipment volumes and price realization, partially offset by the unfavorable effects of currency translation. The inclusion of Wirtgen’s sales for two additional months in 2019 accounted for about 4 percent of construction and forestry’s net sales increase.
The financial services operations reported net income of $539 million for fiscal 2019 compared with $942 million in fiscal 2018. Excluding adjustments associated with the U.S. tax reform legislation enacted on December 22, 2017 (tax reform), the decrease was mainly due to impairments and higher losses on operating lease residual values and unfavorable financing spreads, partially offset by income earned on a higher average portfolio.
Outlook for John Deere
Net income attributable to Deere & Company for fiscal 2020 is forecast to be in a range of $2.7 billion to $3.1 billion.
Agriculture & Turf. Deere & Company’s worldwide sales of agriculture and turf equipment are forecast to decline about 5 to 10 percent for fiscal year 2020, including price realization of 2 percent and a negative currency translation effect of 1 percent. Industry sales of agricultural equipment in the U.S. and Canada are forecast to be down about 5 percent, driven by lower demand for large equipment. Full year industry sales in the EU28 member nations are forecast to be about the same as are South American industry sales of tractors and combines. Asian sales are forecast to be about the same as 2019. Industry sales of turf and utility equipment in the U.S. and Canada are expected to be about the same for 2020.
Construction & Forestry. Deere & Company’s worldwide sales of construction and forestry equipment are anticipated to decrease about 10 to 15 percent for 2020, with price realization having a favorable effect of 1 percent and foreign currency translation having an unfavorable effect of 1 percent. The outlook reflects slowing construction activity as well as John Deere’s efforts to assist dealers to manage their inventory levels. In forestry, global industry sales are expected to be about the same as 2019.
Financial Services. Fiscal year 2020 net income for the financial services operations is expected to benefit from lower losses on lease residual values as well as income earned on a higher average portfolio. These items are forecast to be partially offset by a higher provision for credit losses, less-favorable financing spreads, and higher selling and administrative expenses. Net income attributable to the Company for 2020, which does not include the financial services operations in Canada, Brazil, China, India, Russia, and Thailand or the insurance business related to extended equipment warranties, is projected to be approximately $460 million. The Company’s outlook reflects lower losses on lease residual values and income earned on a higher average portfolio, partially offset by less-favorable financing spreads, a higher provision for credit losses, and higher selling and administrative expenses.
Relationships of the Company with John Deere
The results of operations of the Company are affected by its relationships with John Deere, including, among other items, the terms on which the Company acquires Receivables and Leases and borrows funds from John Deere, the reimbursement for interest waiver and low-rate finance programs from John Deere, the compensation paid by John Deere in connection with the Company’s purchase of trade receivables from John Deere, and the payment to John Deere for various expenses applicable to the Company’s operations. In addition, the Company and John Deere have joint access to certain lines of credit.
The Company’s acquisition volume of Receivables and Leases is largely dependent upon the level of retail sales and leases of John Deere products. The level of John Deere retail sales and leases is responsive to a variety of economic, financial, climatic, legislative, and other factors that influence demand for its products. The majority of the Company’s businesses are affected by changes in interest rates, demand for credit, and competition.
The Company bears substantially all of the credit risk (net of recovery from withholdings from certain John Deere dealers and merchants) associated with its holding of Receivables and Leases. A small portion of the Receivables and Leases held (less than 5 percent) is guaranteed by certain subsidiaries of Deere & Company. The Company also performs substantially all servicing and collection functions. Servicing and collection functions for a small portion of the Receivables and Leases held (less than 5 percent) are provided by John Deere. John Deere is reimbursed for staff and other administrative services at estimated cost and for credit lines provided to the Company based on utilization of those lines.
The terms and the basis on which the Company acquires retail notes and certain wholesale receivables from John Deere are governed by agreements with John Deere, generally terminable by either John Deere or the Company on 30 days notice. As provided in these agreements, the Company agrees to the terms and conditions for purchasing the retail notes and wholesale receivables from John Deere. Under these agreements, John Deere is not obligated to sell notes to the Company, and the Company is obligated to purchase notes from John Deere only if the notes comply with the terms and conditions set by the Company.
The basis on which John Deere acquires retail notes and wholesale receivables from the dealers is governed by agreements with the John Deere dealers, which may be terminated in accordance with their terms and applicable law. In acquiring these notes from dealers, the terms and conditions, as set forth in agreements with the dealers, conform with the terms and conditions adopted by the Company in determining the acceptability of retail and certain wholesale notes to be purchased from John Deere. The dealers are not obligated to sell these notes to John Deere and John Deere is not obligated to accept these notes from the dealers. In practice, retail and wholesale notes are acquired from dealers only if the terms of these notes and the creditworthiness of the customers are acceptable to the Company. The Company acts on behalf of both itself and John Deere in determining the acceptability of the notes and in acquiring acceptable notes from dealers.
The basis on which the Company enters into leases with retail customers through John Deere dealers is governed by agreements between dealers and the Company. Leases are accepted based on the terms and conditions, the lessees’ creditworthiness, the anticipated residual values of the equipment, and the intended uses of the equipment.
Deere & Company has an agreement with Capital Corporation pursuant to which it has agreed to continue to own, directly or through one or more wholly-owned subsidiaries, at least 51 percent of the voting shares of capital stock of Capital Corporation and to maintain the Company’s consolidated tangible net worth at not less than $50.0 million. This agreement also obligates Deere & Company to make payments to the Company such that its consolidated ratio of earnings to fixed charges is not less than 1.05 to 1 for each fiscal quarter. For 2019 and 2018, the Company’s ratios were 1.51 to 1 and 1.78 to 1, respectively, and never less than 1.36 to 1 and 1.69 to 1 for any fiscal quarter of 2019 and 2018, respectively. Deere & Company’s obligations to make payments to the Company under the agreement are independent of whether the Company is in default on its indebtedness, obligations or other liabilities. Further, Deere & Company’s obligations under the agreement are not measured by the amount of the Company’s indebtedness, obligations, or other liabilities. Deere & Company’s obligations to make payments under this agreement are expressly stated not to be a guaranty of any specific indebtedness, obligation, or liability of the Company and are enforceable only by or in the name of Capital Corporation. No payments were required under this agreement during the periods included in the consolidated financial statements.
The Company purchases certain wholesale trade receivables from John Deere. These trade receivables arise from John Deere’s sales of goods to independent dealers. Under the terms of the sales to dealers, interest is primarily charged to dealers on outstanding balances, from the earlier of the date when goods are sold to retail customers by the dealer or the expiration of certain interest-free periods granted at the time of the sale to the dealer, until payment is received by the Company. Dealers cannot cancel purchases after John Deere recognizes a sale and are responsible for payment even if the equipment is not sold to retail customers. The interest-free periods are determined based on the type of equipment sold and the time of year of the sale. These periods range from one to twelve months for most equipment. Interest-free periods may not be extended. Interest charged may not be forgiven and the past due interest rates exceed market rates. The Company receives compensation from John Deere at approximate market interest rates for these interest-free periods. The Company computes the compensation from John Deere for interest-free periods based on the Company’s estimated funding costs, administrative and operating expenses, credit losses, and required return on equity.
Description of Receivables and Leases
Receivables and Leases arise mainly from retail and wholesale sales and leases of John Deere products and used equipment accepted in trade for them, and from retail sales of equipment of unrelated manufacturers. Receivables and Leases also include revolving charge accounts receivable. At November 3, 2019 and October 28, 2018, at least 90 percent of the Receivables and Leases administered by the Company were for financing that facilitated the purchase or lease of John Deere products.
John Deere Financial, f.s.b. (Thrift), is a wholly-owned subsidiary of Capital Corporation. It holds a federal thrift charter and is regulated by the Office of the Comptroller of the Currency (OCC). The U.S. Federal Reserve Board has oversight of the Company, as the owner of the Thrift. The Thrift is headquartered in Madison, Wisconsin and offers revolving charge products including John Deere Financial Multi-Use Account, PowerPlanâ, and John Deere Financial Revolving Plan throughout the U.S. The John Deere Financial Multi-Use Account is used by farmers and ranchers to finance their purchase of production inputs from agribusiness merchants, including seed, fertilizer, and crop protection. The John Deere Financial Multi-Use Account is also used by agriculture and turf customers to finance the purchase of parts and service from John Deere dealers. The PowerPlanâ revolving charge account is primarily used by construction and forestry customers to finance the purchase of equipment parts, equipment rentals, and service work performed at John Deere construction and forestry dealers. John Deere Financial Revolving Plan is used primarily by retail customers of John Deere dealers to finance purchases of turf and utility equipment. See Note 4 to the Consolidated Financial Statements under “Revolving Charge Accounts Receivable.”
The Company finances wholesale inventories of John Deere agriculture and turf and construction and forestry equipment. A large portion of the wholesale financing is provided by the Company to dealers from whom it also purchases agriculture and turf and construction and forestry retail notes. See Note 4 to the Consolidated Financial Statements under “Wholesale Receivables.”
The Company generally requires that theft and physical damage insurance be carried on all goods leased or securing retail notes and wholesale receivables. In certain markets, the customer may, at the customer’s own expense, have the Company or the seller of the goods purchase this insurance or obtain it from other sources. Insurance is not required for goods purchased under revolving charge accounts.
Receivables and Leases are eligible for acceptance if they conform to prescribed finance and lease plan terms. Guidelines relating to down payments and contract terms on retail notes and leases are described in Note 4 and Note 7 to the Consolidated Financial Statements.
In limited circumstances, Receivables and Leases may be accepted and acquired even though they do not conform in all respects to the established guidelines. The Company determines whether Receivables and Leases should be accepted and how they should be serviced. Acceptance of these Receivables and Leases is dependent on having one or more risk mitigation enhancements that may include the pledge of additional collateral as security, the assignment of specific earnings to the Company, or the acceptance of accelerated payment schedules. Officers of the Company are responsible for establishing policies and reviewing the performance of the Company in accepting and collecting Receivables and Leases. The Company normally makes all of its own routine collections, settlements, and repossessions on Receivables and Leases.
John Deere retail notes and wholesale receivables are generally supported by perfected security interests in goods financed under laws such as the Uniform Commercial Code (UCC), certain federal statutes, and state motor vehicle laws in the U.S. and by security in goods or other security under applicable laws in other countries and jurisdictions. UCC financing statements are also prepared and filed on leases; however, these filings for operating leases are made for informational purposes only.
Finance Rates on Retail Notes
As of November 3, 2019 and October 28, 2018, approximately 95 percent of the retail notes held by the Company bore a fixed finance rate. A portion of the finance income earned by the Company arises from reimbursements from John Deere in connection with financing the retail sales of John Deere equipment on which finance charges are waived or reduced by John Deere for a period from the date of sale to a specified subsequent date. See Note 4 to the Consolidated Financial Statements for additional information.
Average Original Term and Average Actual Life of Retail Notes and Leases
Due to prepayments (often from trade-ins and refinancing), the average actual life of retail notes and leases is considerably shorter than the average original term. The following table shows the average original term for retail notes and leases acquired and the average actual life for retail notes and leases liquidated (in months):
Maturities
The following table presents the contractual maturities of net Receivables and Leases owned by the Company at November 3, 2019 (in millions of dollars), and a summary of net Receivables and Leases owned by the Company at the end of the last five years (in millions of dollars):
Total net Receivables and Leases by geographic area are as follows (in millions of dollars):
Receivables and Leases have significant concentrations of credit risk in the agriculture and turf sector and construction and forestry sector.
Delinquencies
Past due balances of Receivables still accruing finance income, which represent the total balance held (principal plus accrued interest) with any payment amounts 30 days or more past the contractual payment due date, are as follows (in millions of dollars):
Total non-performing Receivables, which represent loans for which the Company has ceased accruing finance income, are as follows (in millions of dollars):
During the first quarter of 2019, the Company amended the timing in which finance income and lease revenue is generally suspended on retail notes, revolving charge accounts, and finance lease accounts from 120 days delinquent to 90 days delinquent. This change in estimate was made on a prospective basis and did not have a significant effect on the
Company’s consolidated financial statements. Management’s methodology to determine the collectability of delinquent accounts was not affected by the change. See Note 5 to the Consolidated Financial Statements for additional information.
Write-offs and Recoveries
Total Receivable write-offs and recoveries, by product, were as follows (in millions of dollars):
Total Receivable write-offs and recoveries from outside the U.S. were as follows (in millions of dollars):
Allowance for Credit Losses
The total Receivable allowance for credit losses, by product, at November 3, 2019, October 28, 2018, October 29, 2017, October 30, 2016, and November 1, 2015, and the Receivable portfolio, by product, as a percent of total portfolio is presented below (in millions of dollars):
The total Receivable allowance for credit losses, by geographic area, at November 3, 2019, October 28, 2018, October 29, 2017, October 30, 2016, and November 1, 2015, and the Receivable portfolio, by geographic area, as a percent of total portfolio is presented below (in millions of dollars):
The allowance for credit losses is an estimate of the losses inherent in the Company’s Receivable portfolio. The level of the allowance is based on many quantitative and qualitative factors, including historical net loss experience by product category, portfolio duration, delinquency trends, economic conditions in the Company’s major markets and geographies, commodity price trends, and credit risk quality. The Company has an established process to calculate a range of possible outcomes and determine the adequacy of the allowance. Historical Receivable recoveries and write-offs are considered as part of the loss experience by product category. The adequacy of the allowance is assessed quarterly by product category. Different assumptions or changes in economic conditions would result in changes to the allowance for credit losses and the provision for credit losses.
The allowance is determined at an aggregate level by product category for all Receivables that are performing in accordance with payment terms and are not materially past due. The Company assigns loss factors to each aggregation and loss factors are applied to the applicable Receivable balance to determine the allowance level for each product category. The loss factors are determined based on quantitative and qualitative factors as described above.
The Company also reviews Receivables for impairment based on delinquencies and changes in cash flows or collateral. These Receivables consist of materially past due Receivables, customers that have provided bankruptcy notification, and other Receivables requiring significant collection efforts, including litigation. The Company identifies these Receivables during reviews of portfolio credit quality. The Company includes the impairment on non-performing Receivables as a separate component in the allowance unless it has already been recognized as a loss.
The total allowance reflects management’s estimate of credit losses inherent in the Receivables portfolio at the balance sheet date. See further discussion of the allowance for credit losses in the Critical Accounting Policies.
Competition
The businesses in which the Company is engaged are highly competitive. The Company competes for customers with commercial banks and finance and leasing companies based upon its service, finance rates charged, and other finance terms. The proportion of John Deere equipment retail sales and leases financed by the Company is influenced by conditions prevailing in the agriculture and turf equipment and construction and forestry equipment industries, in the financial markets, and in business generally. The Company financed a significant portion of John Deere equipment retail sales and leases in many of the countries in which the Company operated during 2019 and 2018.
The Company emphasizes convenient service to customers and endeavors to offer terms desired in its specialized markets, such as seasonal schedules of repayment and rentals. The Company’s retail note finance rates and lease rates are generally believed to be in the range offered by other sales finance and leasing companies, although not as low as those of some banks and other lenders and lessors.
Regulation
In several U.S. states, state law limits the maximum finance rate on receivables. The present state limitations have not, thus far, significantly limited variable-rate finance charges or the fixed-rate finance charges established by the Company. However, if interest rate levels should increase significantly, maximum state rates could affect the Company by preventing the variable rates on outstanding variable-rate retail notes from increasing above the maximum state rate and by limiting the fixed rates on new notes. In some states, the Company may be able to qualify new retail notes for a higher maximum rate limit by using retail installment sales contracts (rather than loan contracts) or by using fixed-rate rather than variable-rate contracts.
In addition to rate regulation, various U.S. state and federal laws and regulations apply to some Receivables and Leases, principally retail notes for goods sold for personal, family, or household use and John Deere Financial Revolving Plan, John Deere Financial Multi-Use Account, and PowerPlanâ accounts receivable. To date, these laws and regulations have not had a significant adverse effect on the Company.
The Thrift holds a federal thrift charter and is subject to regulation and examination by the OCC. The U.S. Federal Reserve Board has oversight of the Company, as the owner of the Thrift.
The manner in which the Company offers financing outside the U.S. is affected by a variety of country specific laws, regulations, and customs, including those governing property rights and debtor obligations, that are subject to change and that may introduce greater risk to the Company.
Item 1A.
Item 1A. Risk Factors.
The Company is a subsidiary of JDFS, a wholly-owned finance holding subsidiary of Deere & Company. The results of operations of the Company are affected by its relationships with Deere & Company. See “Relationships of the Company with John Deere” on page 4 for additional information regarding the relationship between the Company and Deere & Company.
The following risks are considered the most significant to the Company’s business based upon current knowledge, information, and assumptions. This discussion of risk factors should be considered closely in conjunction with “Management’s Discussion and Analysis” beginning on page 19, including the risks and uncertainties described in the “Safe Harbor Statement” on pages 23-24, the Notes to Consolidated Financial Statements beginning on page 37, and the risk factors of Deere & Company included in Exhibit 99 to this Annual Report on Form 10-K and incorporated herein by reference. These risk factors and other forward-looking statements that relate to future events, expectations, trends, and operating periods involve certain factors that are subject to change, and important risks and uncertainties that could cause actual results to differ materially. Some of these risks and uncertainties could affect particular lines of business, while others could affect all of the Company’s businesses. Although each risk is discussed separately, many are interrelated. The Company, except as required by law, undertakes no obligation to update or revise this risk factors discussion, whether as a result of new developments or otherwise. The risks described in this Annual Report on Form 10-K and the “Safe Harbor Statement” in this report are not the only risks faced by the Company.
The Company is subject to interest rate risks. Changes in interest rates can reduce demand for equipment, adversely affect interest margins, and limit the ability to access capital markets while increasing borrowing costs.
Rising interest rates could have a dampening effect on overall economic activity and/or the financial condition of the Company’s customers, either or both of which could negatively affect customer demand for John Deere equipment and customers’ ability to repay obligations to the Company. In addition, credit market dislocations could have an impact on funding costs which are very important to the Company because such costs affect the Company’s ability to offer customers competitive financing rates. In addition, changing interest rates could have an adverse effect on the Company’s net interest rate margin-the difference between the yield the Company earns on its assets and the interest rates the Company pays for funding, which could in turn affect the Company’s net interest income and earnings. Actions by credit rating agencies, such as downgrades or negative changes to rating outlooks, can affect the availability and cost of funding for the Company and can increase the Company’s cost of capital and hurt its competitive position.
International, national and regional trade laws, regulations and policies (particularly those related to or restricting global trade), and government farm programs and policies could significantly impair John Deere’s profitability and growth prospects.
International, national, and regional laws, regulations, and policies directly or indirectly related to or restricting the import and export of John Deere’s products, services, and technology, including protectionist policies in particular jurisdictions or for the benefit of favored industries or sectors, could harm John Deere’s multinational business and subject John Deere to civil and criminal sanctions. John Deere’s profitability and growth prospects are tied directly to the global marketplace. Restricted access to global markets impairs John Deere’s ability to export goods and services from its various manufacturing locations around the world, and limits the ability to access raw materials and high quality parts and components at competitive prices on a timely basis. Trade restrictions, including withdrawal from or modification of existing trade agreements, the failure to ratify the United States-Mexico-Canada Agreement, negotiation of new trade agreements, and imposition of new (and retaliatory) tariffs against certain countries or covering certain products, including developments in U.S.-China trade relations, could limit John Deere’s ability to capitalize on current and future growth opportunities in international markets and impair John Deere’s ability to expand the business by offering new technologies, products and services. These trade restrictions, and changes in-or uncertainty surrounding-global trade policies may affect John Deere’s competitive position. Furthermore, the ability to export agricultural and forestry commodities is critical to John Deere’s agricultural and forestry customers. Policies impacting exchange rates and commodity prices or those limiting the export or import of commodities could have a material adverse effect on the international flow of agricultural and other commodities that may result in a corresponding negative effect on the demand for agricultural and forestry equipment in many areas of the world. John Deere’s agricultural equipment sales could be especially harmed because farm income strongly influences sales of agricultural equipment around the world. Furthermore, trade restrictions could impede those in developing countries from achieving a higher standard of living, which could negatively impact John Deere’s future growth opportunities arising from increasing global demand for food, fuel, and infrastructure. Additionally, changes in government farm programs and policies, including direct payments and other subsidies, can significantly influence demand for agricultural equipment. Furthermore, sanctions and export controls imposed by the U.S. and other governments restricting or prohibiting transactions with certain persons, including financial institutions, to certain countries, or involving certain products expose John Deere to potential criminal and civil sanctions. Embargoes and sanctions laws are changing rapidly for certain geographies, including with respect to Russia, Venezuela, Nicaragua, and Turkey. Although John Deere has a compliance program in place designed to reduce the likelihood of potential violations of import and export laws and sanctions, violations of these laws or sanctions could have an adverse effect on John Deere’s and the Company’s reputation, business, results of operations and financial condition.
Changes in government banking, monetary, and fiscal policies could have a negative effect on the Company.
Policies of the U.S. and other governments regarding banking, monetary, and fiscal policies intended to promote or maintain liquidity, stabilize financial markets, and/or address local deficit or structural economic issues may not be effective and could have a material impact on the Company’s customers and markets. The Company’s operations and results could also be impacted by financial regulatory reform that could have an adverse effect on the Company and its customers by limiting their ability to enter into hedging transactions or to finance purchases of John Deere products. Government policies on spending can also affect John Deere, especially its construction and forestry business due to the impact of government spending on infrastructure development. The Company’s and John Deere’s operations, including those outside of the United States, may also be affected by non-U.S. regulatory reforms being implemented to further regulate non-U.S. financial institutions and markets.
Changes in tax rates, tax legislation, or exposure to additional tax liabilities could have a negative effect on John Deere and the Company.
John Deere and the Company are subject to income taxes in the U.S. and numerous foreign jurisdictions. John Deere’s domestic and international tax liabilities are dependent upon the location of earnings among these different jurisdictions. Tax rates in various jurisdictions may be subject to significant change. John Deere’s and the Company’s effective tax rates could be affected by changes in the mix of earnings in countries with differing statutory tax rates, changes in the valuation of deferred tax assets and liabilities, or changes in tax laws or their interpretation. If John Deere’s and the Company’s effective tax rates were to increase, or if the ultimate determination of our taxes owed is for an amount in excess of amounts previously accrued, John Deere’s and the Company’s operating results, cash flows, and financial condition could be adversely affected.
Changing worldwide demand for food and different forms of bio-energy could have an effect on the price of farm commodities and consequently the demand for certain John Deere equipment and could also result in higher research and development costs related to changing machine fuel requirements.
Changing worldwide demand for farm outputs to meet the world’s growing food and bio-energy demands, driven in part by government policies and a growing world population, are likely to result in fluctuating agricultural commodity prices, which directly affect sales of agricultural equipment. Lower farm commodity prices directly affect farm incomes, which could negatively affect sales of agricultural equipment. While higher commodity prices benefit John Deere’s crop-producing agricultural equipment customers, higher commodity prices also could result in greater feed costs for livestock and poultry producers, which in turn may result in lower levels of equipment purchased by these customers. Furthermore, changing bio-fuel demands may cause farmers to change the types or quantities of the crops they raise, with corresponding changes in equipment demands. Finally, changes in governmental policies regulating bio-fuel utilization could affect commodity demand and commodity prices, demand for John Deere’s diesel-fueled equipment, and result in higher research and development costs related to equipment fuel standards. These changes could have a negative effect on the Company’s results.
As John Deere seeks to expand its business globally, growth opportunities may be impacted by greater political, economic, and social uncertainty and the continuing and accelerating globalization of businesses could significantly change the dynamics of John Deere’s and the Company’s competition, customer base, and product offerings.
John Deere’s efforts to grow its businesses depend to a large extent upon access to additional geographic markets and its success in developing market share and operating profitably in such markets. In some cases, such as Argentina, these countries have greater political and economic volatility, greater vulnerability to infrastructure and labor disruptions and differing local customer product preferences and requirements than John Deere’s other markets. Negative market conditions resulting from economic and political uncertainties in these and other countries could reduce customer confidence, resulting in declines in demand and increases in delinquencies and default rates, which could affect write-offs and provisions for credit losses. Operating and seeking to expand business in a number of different regions and countries exposes the Company and John Deere to multiple and potentially conflicting cultural practices, business practices, and legal and regulatory requirements that are subject to change, including those related to tariffs and trade barriers, investments, property ownership rights, taxation, sanctions and export control requirements, repatriation of earnings, and advanced technologies. Expanding business operations globally also increases exposure to currency fluctuations which can materially affect the Company’s and John Deere’s financial results. As these emerging geographic markets become more important to John Deere, its competitors are also seeking to expand their production capacities and sales in these same markets. While John Deere maintains a positive corporate image and its brands are widely recognized and valued in its traditional markets, the brands are less well known in some emerging markets which could impede John Deere’s efforts to successfully compete in these markets. Although John Deere is taking measures to adapt to these changing circumstances, John Deere’s and the Company’s reputation and/or business results could be negatively affected should these efforts prove unsuccessful.
The Company is subject to extensive anti-corruption laws and regulations.
The Company’s global operations must comply with all applicable laws, which include the U.S. Foreign Corrupt Practices Act (FCPA), the UK Bribery Act, and other anti-corruption laws. These anti-corruption laws generally prohibit companies and their intermediaries from making improper payments or providing anything of value to improperly influence government officials or private individuals for the purpose of obtaining or retaining a business advantage regardless of whether those practices are legal or culturally expected in a particular jurisdiction. Although the Company has a compliance program in place designed to reduce the likelihood of potential violations of such laws, violations of these laws could result in criminal and civil sanctions and have an adverse effect on the Company’s reputation, business, and results of operations and financial condition.
Negative economic conditions and outlook can materially weaken demand for John Deere’s equipment and services, limit access to funding, and result in higher funding costs for the Company and John Deere.
The demand for the Company’s and John Deere’s products and services can be significantly reduced in an economic environment characterized by high unemployment, cautious consumer spending, lower corporate earnings, U.S. budget issues, and lower business investment. Negative or uncertain economic conditions causing John Deere’s customers to lack confidence in the general economic outlook can significantly reduce their likelihood of purchasing John Deere’s equipment. Sustained negative economic conditions and outlook affect housing starts and other construction which dampens demand for certain construction equipment. John Deere’s turf operations and its construction and forestry business are dependent on construction activity and general economic conditions. Decreases in construction activity and housing starts could have a material adverse effect on John Deere’s results of operations. If negative economic conditions affect the overall farm economy, there could be a similar effect on John Deere’s agricultural equipment sales. In addition, uncertain or negative outlook with respect to ongoing U.S. budget issues as well as general economic conditions and outlook can cause significant changes in market liquidity conditions. Such changes could impact access to funding and associated funding costs, which could reduce the Company’s earnings and cash flows. Additionally, the Company’s and John Deere’s investment management activities could be adversely affected by changes in the equity and bond markets, which would negatively affect earnings.
In addition, demand for the Company’s and John Deere’s products and services can be significantly reduced by concerns regarding the diverse economic and political circumstances of the individual countries in the eurozone, the debt burden of certain eurozone countries and their ability to meet future financial obligations, uncertainty related to the anticipated withdrawal of the United Kingdom from the European Union, the risk that one or more other European Union countries could come under increasing pressure to leave the European Union, or the long-term stability of the euro as a single common currency. The Company may need to obtain certain banking licenses to continue business in the United Kingdom if the United Kingdom withdraws from the European Union without any deal. Persistent disparity with respect to the widely varying economic conditions within the individual countries in the eurozone, and its implications for the euro as well as market perceptions concerning these and related issues, could adversely affect the value of the Company’s and John Deere’s euro-denominated assets and obligations, have an adverse effect on demand for John Deere’s products and services in the eurozone, and have an adverse effect on financial markets in Europe and globally. More specifically, it could affect the ability of the Company’s and John Deere’s customers, suppliers, and lenders to finance their respective businesses, to access liquidity at acceptable financing costs, if at all, and the availability of supplies and materials and on the demand for John Deere’s products.
The Company’s consolidated financial results are reported in U.S. dollars while certain assets and other reported items are denominated in the currencies of other countries, creating currency exchange and translation risk.
The Company operates in many areas of the world, involving transactions denominated in a variety of currencies. The Company is subject to currency exchange risk to the extent that its costs are denominated in currencies other than those in which it earns revenues. Additionally, the reporting currency for the Company’s consolidated financial statements is the U.S. dollar. Certain of the Company’s assets, liabilities, expenses, and revenues are denominated in other countries’ currencies. Those assets, liabilities, expenses, and revenues are translated into U.S. dollars at the applicable exchange rates to prepare the Company’s consolidated financial statements. Therefore, increases or decreases in exchange rates between the U.S. dollar and those other currencies affect the value of those items as reflected in the Company’s consolidated financial statements, even if their value remains unchanged in their original currency. Substantial fluctuations in the value of the U.S. dollar could have a significant impact on the Company’s results.
Because the Company is a financing company, the Company’s operations and financial results could be impacted materially should negative economic conditions affect the financial industry.
Negative economic conditions can have an adverse effect on the financial industry in which the Company operates. The Company provides financing for a significant portion of John Deere’s sales in many of the countries in which the Company operates. The Company is exposed to the risk that customers and others will default on contractual obligations. The Company may experience credit losses that exceed its expectations and adversely affect its financial condition and results of operations. The Company’s inability to access funds at cost-effective rates to support its financing activities could have a material adverse effect on the Company’s business. The Company’s liquidity and ongoing profitability depend largely on timely access to capital in order to meet future cash flow requirements, and to fund operations and costs associated with engaging in diversified funding activities. Additionally, negative market conditions could reduce customer confidence levels, resulting in declines in credit applications and increases in delinquencies and default rates, which could materially impact the Company’s write-offs and provision for credit losses.
The Company’s results could be adversely affected by a decrease in the value or higher than estimated returns of equipment on operating lease.
The Company estimates the end-of-lease term residual value at the inception of the operating leases based on a number of factors, including historical sales, end-of-lease term return experience, intended use of the equipment, and current economic conditions in John Deere’s markets. Used equipment values may decrease as a result of any one or a combination of factors including market conditions, supply of and demand for used equipment, and technological advancements in new equipment. Lower residual value estimates could result in increasing operating lease depreciation, impairment losses, and losses on the sale of matured operating lease inventory, which would decrease the Company’s earnings.
John Deere’s business results depend largely on its ability to understand its customers’ specific preferences and requirements, and to develop, manufacture, and market products that meet customer demand.
John Deere’s ability to match new product offerings to diverse global customers’ anticipated preferences for different types and sizes of equipment and various equipment features and functionality, at affordable prices, is critical to its success. This requires a thorough understanding of John Deere’s existing and potential customers on a global basis. Failure to deliver quality products that meet customer needs at competitive prices ahead of competitors could have a significant adverse effect on John Deere’s business, which could have a negative effect on the Company’s results.
John Deere’s business may be directly and indirectly affected by unfavorable weather conditions or natural calamities that reduce agricultural production and demand for agriculture and turf equipment which could have a negative effect on the Company’s results.
Poor or unusual weather conditions, particularly during the planting and early growing season, can significantly affect the purchasing decisions of John Deere’s customers, particularly the purchasers of agriculture and turf equipment. The timing and quantity of rainfall are two of the most important factors in agricultural production. Insufficient levels of rain prevent farmers from planting new crops and may cause growing crops to die or result in lower yields. Excessive rain or flooding can prevent planting from occurring at optimal times, and may cause crop loss through increased disease or mold growth. Temperatures outside normal ranges can also cause crop failure or decreased yields, and may also affect disease incidence. Temperature affects the rate of growth, crop maturity, and crop quality. Natural calamities such as regional floods, hurricanes or other storms, droughts, diseases, and pests can have significant negative effects on agricultural and livestock production. The resulting negative impact on farm income can strongly affect demand for agricultural equipment. Sales of turf equipment, particularly during the important spring selling season, can be dramatically impacted by weather. Adverse weather conditions in a particular geographic region may adversely affect sales of some turf equipment. Drought conditions can adversely affect sales of certain mowing equipment and unusually rainy weather can similarly cause lower sales volumes, which could have a negative effect on the Company’s results.
Security breaches and other disruptions to the Company’s information technology infrastructure could interfere with the Company’s operations and could compromise the Company’s and its customer’s information, exposing the Company to liability that would cause the Company’s business and reputation to suffer.
In the ordinary course of business, the Company relies upon information technology networks and systems, some of which are managed by third parties, to process, transmit and store electronic information, and to manage or support a variety of business processes and activities, including loan application and collection of payments from dealers or other purchasers of John Deere equipment. The Company uses information technology systems to record, process and summarize financial information and results of operations for internal reporting purposes, and to comply with regulatory financial reporting, legal, and tax requirements. Additionally, the Company collects and stores sensitive data, including personally identifiable information (PII) of the Company’s customers and employees, in data centers and on information technology networks. The secure operation of these information technology networks and the processing and maintenance of this information is critical to the Company’s business operations and strategy. Despite security measures and business continuity plans, the Company’s information technology networks and infrastructure may be vulnerable to damage, disruptions, or shutdowns due to attacks by cyber criminals or breaches due to employee or supplier error or malfeasance or other disruptions during the process of upgrading or replacing computer software or hardware, power outages, computer viruses, telecommunication or utility failures, terrorist acts, natural disasters or other catastrophic events. The occurrence of any of these events could compromise the Company’s networks, and the information stored there could be accessed, publicly disclosed, lost, or stolen. Any such access, disclosure, or other loss of information could result in legal claims or proceedings, liability, or regulatory penalties under laws protecting the privacy of personal information, disrupt operations, and damage the Company’s reputation, which could adversely affect the Company’s business, results of operations and financial condition. In addition, as security threats continue to evolve and increase in frequency and sophistication, the Company may need to invest additional resources to protect the security of its systems.
The Company is subject to governmental laws, regulations, and other legal obligations related to privacy and data protection.
The legislative and regulatory framework for privacy and data protection issues worldwide is rapidly evolving and is likely to remain uncertain for the foreseeable future. The Company collects PII and other data as an integral part of its business processes and activities. This data is subject to a variety of U.S. and foreign laws and regulations, including oversight by various regulatory or other governmental bodies. Many foreign countries and governmental bodies, including the European Union and other relevant jurisdictions where the Company conducts business, have laws and regulations concerning the collection and use of PII and other data obtained from their residents or by businesses operating within their jurisdiction. The European Union General Data Protection Regulation imposes stringent data protection requirements and provides significant penalties for noncompliance. New privacy laws will continue to come into effect around the world in 2020, with one of the most significant being the California Consumer Privacy Act on January 1, 2020. Any inability, or perceived inability, to adequately address privacy and data protection concerns, even if unfounded, or comply with applicable laws, regulations, policies, industry standards, contractual obligations, or other legal obligations could result in additional cost and liability to the Company or company officials, damage our reputation, inhibit sales, and adversely affect our business.
The Company’s ability to execute its strategy is dependent upon the ability to attract, train, and retain qualified personnel.
The Company’s continued success depends, in part, on its ability to identify, attract, motivate, train, and retain qualified personnel in key functions. In particular, the Company is dependent on its ability to identify, attract, motivate, train, and retain qualified personnel with the requisite education, background, and industry experience. Failure to attract, train, and retain qualified personnel, whether as a result of an insufficient number of qualified applicants, difficulty in recruiting new personnel, or the allocation of inadequate resources to training, integration, and retention of qualified personnel, could impair the Company’s ability to execute its business strategy and could adversely affect the Company’s business. In addition, while the Company strives to reduce the impact of the departure of its employees, the Company’s operations or ability to execute its business strategy may be impacted by the loss of personnel.
Changes affecting the availability of the London Interbank Offered Rate (“LIBOR”) may have consequences for the Company that cannot yet reasonably be predicted.
The Company has outstanding debt, derivative and receivable transactions with variable interest rates based on LIBOR. The LIBOR benchmark has been subject of national, international, and other regulatory guidance and proposals for reform. In July 2017, the U.K. Financial Conduct Authority announced that it intends to stop persuading or compelling banks to submit rates for calculation of LIBOR after 2021. These reforms may cause LIBOR to perform differently than in the past and LIBOR may ultimately cease to exist after 2021. Alternative benchmark rate(s) may replace LIBOR and could affect the Company's debt securities, derivative instruments, receivables, debt payments and receipts. At this time, it is not possible to predict the effect of any changes to LIBOR, any phase out of LIBOR or any establishment of alternative benchmark rates. Any new benchmark rate will likely not replicate LIBOR exactly, which could impact our contracts which terminate after 2021. There is uncertainty about how applicable law, the courts or the Company will address the replacement of LIBOR with alternative rates on variable rate retail loan contracts and other contracts that do not include alternative rate fallback provisions. In addition, any changes to benchmark rates may have an uncertain impact on our cost of funds and our access to the capital markets, which could impact our results of operations and cash flows. Uncertainty as to the nature of such potential changes may also adversely affect the trading market for our securities.
Item 1B.
Item 1B. Unresolved Staff Comments.
None.
Item 2.
Item 2. Properties.
The Company’s properties principally consist of office equipment; Company-owned office buildings in Johnston, Iowa and Madison, Wisconsin; and leased office space in Reno, Nevada; Miami, Florida; Rosario, Argentina; Brisbane, Australia; Santiago, Chile; Gloucester, England; Langar, England; Ormes, France; Bruchsal, Germany; Vignate, Italy; Luxembourg City, Luxembourg; Monterrey, Mexico; Poznan, Poland; and Parla, Spain.
Item 3.
Item 3. Legal Proceedings.
The Company is subject to various unresolved legal actions which arise in the normal course of its business, the most prevalent of which relate to retail credit matters. The Company believes the reasonably possible range of losses for these unresolved legal actions would not have a material effect on its consolidated financial statements.
Item 4.
Item 4. Mine Safety Disclosures.
Not applicable.
PART II
Item 5.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities.
(a)All of Capital Corporation’s common stock is owned by JDFS, a finance holding company that is wholly-owned by Deere & Company. In 2019 and 2018, Capital Corporation declared and paid cash dividends of $330.0 million and $375.0 million, respectively, to JDFS. In turn, JDFS declared and paid comparable dividends to Deere & Company.
(b)Not applicable.
(c)Not applicable.
Item 6.
Item 6. Selected Financial Data.
Omitted pursuant to instruction I(2).
Item 7.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Results of Operations
Overview
Organization
The Company primarily generates revenues and cash by financing John Deere dealers’ sales and leases of new and used agriculture and turf equipment and construction and forestry equipment. In addition, the Company also provides wholesale financing to dealers of the foregoing equipment and finances retail revolving charge accounts.
Trends and Economic Conditions
The Company’s business is currently affected by the following key trends and economic conditions. The Company’s business is closely related to John Deere’s business. John Deere’s agriculture and turf equipment sales increased 2 percent in 2019 and are forecast to decrease 5 to 10 percent for 2020. Industry agricultural machinery sales in the U.S. and Canada for 2020 are forecast to decline about 5 percent, compared to 2019. Industry sales in the European Union (EU)28 member nations and South American industry sales of tractors and combines are forecast to be about the same in 2020. Asian sales are also forecast to be about the same in 2020. Industry sales of turf and utility equipment in the U.S. and Canada are expected to be about the same. John Deere’s construction and forestry sales increased 10 percent in 2019. The segment’s sales are forecast to decrease 10 to 15 percent in 2020. Global forestry industry sales are expected to be about the same as 2019 sales. Net income attributable to the Company in 2020 is expected to be approximately $460 million.
John Deere’s results reflected continued uncertainties in the agricultural sector. Trade tensions and difficult growing and harvesting conditions have caused farmers to become cautious about major equipment purchases. Financial services’ results were also pressured by operating lease losses. The favorable general economic conditions supported demand for smaller equipment and led to strong sales and operating profit for the construction and forestry operations. Despite the present challenges, the longer-term outlook for John Deere’s businesses remains positive. John Deere believes it is well positioned to be a leader in the delivery of smarter, more efficient, and sustainable solutions. In addition, a series of measures to create a leaner organization structure have been initiated that will allow John Deere to operate with more speed and agility.
Items of concern include trade agreements, the uncertainty of the effectiveness of governmental actions in respect to monetary and fiscal policies, the impact of sovereign debt, eurozone and Argentine issues, capital market disruptions,
changes in demand and pricing for used equipment, and geopolitical events. Significant fluctuations in foreign currency exchange rates and volatility in the price of many commodities could also impact the Company’s results.
2019 Compared with 2018
The total revenues and net income attributable to the Company in millions of dollars, along with the Company’s ratio of earnings to fixed charges, were as follows:
Total revenues generally increased in 2019 due to a higher average portfolio and higher financing rates. Net income was lower in 2019 due to impairments and higher losses on operating lease residual values, prior year favorable discrete adjustments to the provision for income taxes associated with tax reform, and unfavorable financing spreads. These factors were partially offset by income from a higher average portfolio.
Revenues
The finance income and lease revenues earned by the Company were as follows (in millions of dollars):
The increase in finance income earned on retail notes was primarily due to higher average financing rates and higher average portfolio balances. Finance income earned on revolving charge accounts and wholesale receivables, as well as lease revenues, increased in 2019 primarily due to higher average portfolio balances.
Revenues earned from John Deere totaled $746.0 million in 2019, compared with $643.2 million in 2018. The increase was primarily the result of increased compensation paid by John Deere for waived or reduced finance charges on Receivables and Leases. Revenues earned from John Deere are included in the revenue amounts discussed above and in “Other income” on the statement of consolidated income.
Expenses
Significant expenses incurred by the Company were as follows (in millions of dollars):
The increase in interest expense was primarily due to higher average borrowing rates and higher average borrowings.
The increase in administrative and operating expenses was primarily due to impairments and higher losses on operating lease residual values.
The provision for credit losses decreased primarily due to lower net write-offs of revolving charge accounts and wholesale receivables, partially offset by higher net write-offs of retail notes. The provision for credit losses, as a percentage of the total average balance of Receivables financed, was .14 percent for 2019 and .16 percent for 2018.
The depreciation of equipment on operating leases increased primarily due to higher average balances of equipment on operating leases.
The higher provision for income taxes in 2019 was primarily related to the tax reform benefits recorded in the prior year. See Note 16 to the Consolidated Financial Statements for additional information.
Receivables and Leases Acquired and Held
For the fiscal years ended November 3, 2019 and October 28, 2018, Receivable and Lease (excluding wholesale) acquisition volumes and balances held were as follows (in millions of dollars):
Retail notes bearing fixed finance rates totaled approximately 95 percent of the total retail note portfolio at November 3, 2019 and October 28, 2018.
Total Receivables 30 days or more past due, non-performing Receivables, and the allowance for credit losses were as follows (in millions of dollars and as a percentage of the Receivables balance):
Receivables 30 days or more past due continue to accrue finance income. The Company ceases to accrue finance income once Receivables are considered non-performing. An allowance for credit losses is recorded for the estimated uncollectible amount.
During the first quarter of 2019, the Company amended the timing in which finance income and lease revenue is generally suspended on retail notes, revolving charge accounts, and finance lease accounts from 120 days delinquent to 90 days delinquent. This change in estimate was made on a prospective basis and did not have a significant effect on the Company’s consolidated financial statements. Management’s methodology to determine the collectability of delinquent accounts was not affected by the change. See Note 5 to the Consolidated Financial Statements for additional past due information.
The allowance is subject to an ongoing evaluation based on many quantitative and qualitative factors, including historical net loss experience by product category, portfolio duration, delinquency trends, economic conditions in the Company’s major markets and geographies, commodity price trends, and credit risk quality. The Company believes its allowance is sufficient to provide for losses inherent in its existing Receivable portfolio.
Deposits withheld from dealers and merchants, representing mainly the aggregate dealer retail note and lease withholding accounts from individual John Deere dealers to which losses from retail notes and leases originating from the respective dealers can be charged, amounted to $137.5 million at November 3, 2019, compared with $166.0 million at October 28, 2018.
2018 Compared with 2017
The comparison of the 2018 results with 2017 is in the Company’s 2018 Form 10-K.
Capital Resources and Liquidity
The cash provided by operating and financing activities was used primarily to fund Receivables and Leases. Cash provided by operating activities was $1,760.1 million in 2019. Cash provided by financing activities totaled $2,028.5 million, resulting primarily from a net increase in total external borrowings of $1,897.9 million and an increase in payables to John Deere of $491.8 million, partially offset by dividends paid of $330.0 million. Cash used for investing activities totaled $3,778.4 million in 2019, primarily due to the cost of Receivables acquired (excluding wholesale) exceeding the collections of Receivables (excluding wholesale) by $1,617.7 million, an increase in wholesale receivables of $758.8 million, and the cost of equipment on operating leases acquired exceeding the proceeds from sales of equipment on operating leases by $1,253.3 million. Cash, cash equivalents, and restricted cash decreased $.9 million during 2019.
Over the last three years, operating activities have provided $4,357.8 million in cash. In addition, an increase in total borrowings of $5,650.7 million provided cash inflows. These amounts have been used mainly to fund Receivable and Lease acquisitions, which exceeded collections of Receivables and proceeds from sale of equipment on operating leases by $8,997.5 million, and to pay $990.0 million in dividends. Cash, cash equivalents, and restricted cash decreased $522.6 million over the three-year period.
The Company relies on its ability to raise substantial amounts of funds to finance its Receivable and Lease portfolios. The Company has access to most global markets at reasonable costs and expects to have sufficient sources of global funding and liquidity to meet its funding needs. The Company’s ability to meet its debt obligations is supported in several ways. The assets of the Company are self-liquidating in nature. A solid equity position is available to absorb unusual losses on these assets and all commercial paper is backed by unsecured, committed borrowing lines from various banks. Liquidity is also provided by the Company’s ability to securitize these assets and through the issuance of term debt. Additionally, liquidity may be provided through loans from John Deere. The Company’s commercial paper outstanding at November 3, 2019 and October 28, 2018 was $1,345.5 million and $1,987.3 million, respectively, while the total cash, cash equivalents, and marketable securities position was $635.8 million and $608.4 million, respectively. The amount of cash, cash equivalents, and marketable securities held by foreign subsidiaries was $134.7 million and $108.3 million at November 3, 2019 and October 28, 2018, respectively.
Capital Corporation has a revolving credit agreement to utilize bank conduit facilities to securitize retail notes (see Note 6). At November 3, 2019, this facility had a total capacity, or “financing limit,” of up to $3,500.0 million of secured financings at any time. The facility was renewed in November 2019 with a capacity of $3,500.0 million. After a two-year revolving period, unless the banks and Capital Corporation agree to renew, Capital Corporation would liquidate the secured borrowings over time as payments on the retail notes are collected. At November 3, 2019, $1,433.7 million of short-term securitization borrowings was outstanding under the agreement.
During 2019, the Company issued $6,743.9 million and retired $4,583.3 million of long-term borrowings, which were primarily medium-term notes. During 2019, the Company also issued $3,309.9 million and retired $2,914.1 million of retail note securitization borrowings and maintained an average commercial paper balance of $2,341.2 million. At November 3, 2019, the Company’s funding profile included $1,460.9 million of commercial paper and other notes payable, $4,277.0 million of securitization borrowings, $1,855.3 million of intercompany loans from John Deere, $26,769.0 million of unsecured term debt, and $4,128.4 million of equity capital. The Company’s funding profile may be altered to reflect such factors as relative costs of funding sources, assets available for securitizations, and capital market accessibility.
Total interest-bearing indebtedness amounted to $34,362.2 million at November 3, 2019, compared with $31,391.2 million at October 28, 2018. Total short-term indebtedness amounted to $13,309.8 million at November 3, 2019, compared with $11,959.0 million at October 28, 2018. Total long-term indebtedness amounted to $21,052.4 million at
November 3, 2019, compared with $19,432.2 million at October 28, 2018. The ratio of total interest-bearing debt, including securitization indebtedness, to stockholder’s equity was 8.3 to 1 and 7.7 to 1 at November 3, 2019 and October 28, 2018, respectively.
Stockholder’s equity was $4,128.4 million at November 3, 2019, compared with $4,070.0 million at October 28, 2018. The increase in 2019 was primarily due to net income attributable to the Company of $419.2 million, partially offset by dividend payments of $330.0 million, unrealized losses on derivatives and debt securities of $23.8 million, and a change in the cumulative translation adjustment of $7.7 million.
Capital Corporation declared and paid cash dividends to JDFS of $330.0 million in 2019 and $375.0 million in 2018. In turn, JDFS paid comparable dividends to Deere & Company.
Lines of Credit
The Company has access to bank lines of credit with various banks throughout the world. Some of the lines are available to both the Company and Deere & Company. Worldwide lines of credit totaled $7,915.4 million at November 3, 2019, $5,143.0 million of which were unused. For the purpose of computing the unused credit lines, commercial paper and short-term bank borrowings, excluding secured borrowings and the current portion of long-term borrowings, of the Company and John Deere were primarily considered to constitute utilization. Included in the total credit lines at November 3, 2019 was a 364-day credit facility agreement of $2,800.0 million, expiring in fiscal April 2020. In addition, total credit lines included long-term credit facility agreements of $2,500.0 million, expiring in April 2023, and $2,500.0 million, expiring in April 2024. The agreements are mutually extendable and the annual facility fees are not significant. These credit agreements require the Company to maintain its consolidated ratio of earnings to fixed charges at not less than 1.05 to 1 for each fiscal quarter and its ratio of senior debt, excluding securitization indebtedness, to capital base (total subordinated debt and stockholder’s equity excluding accumulated other comprehensive income (loss)) at not more than 11 to 1 at the end of any fiscal quarter. All of these credit agreement requirements have been met during the periods included in the consolidated financial statements.
Debt Ratings
The Company’s ability to obtain funding is affected by its debt ratings, which are closely related to the outlook for and the financial condition of John Deere, and the nature and availability of support facilities, such as its lines of credit and the support agreement with Deere & Company.
To access public debt capital markets, the Company relies on credit rating agencies to assign short-term and long-term credit ratings to the Company’s securities as an indicator of credit quality for fixed income investors. A securities rating is not a recommendation to buy, sell, or hold securities and may be subject to revision or withdrawal at any time. A credit rating agency may change or withdraw Company ratings based on its assessment of the Company’s current and future ability to meet interest and principal repayment obligations. Each agency’s rating should be evaluated independently of any other rating. Lower credit ratings generally result in higher borrowing costs, including costs of derivative transactions, and reduced access to debt capital markets.
The senior long-term and short-term debt ratings and outlook currently assigned to unsecured Company debt securities by the rating agencies engaged by the Company are the same as those for John Deere. Those ratings are as follows:
Safe Harbor Statement
Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995: Statements under “Overview,” “Outlook for John Deere,” and other forward-looking statements herein that relate to future events, expectations, and trends involve factors that are subject to change, and risks and uncertainties that could cause actual results to differ materially.
Factors that could materially affect the Company’s operations, access to capital, expenses, and results include changes in, uncertainty surrounding, and the impact of governmental trade, banking, monetary, and fiscal policies, including financial regulatory reform and its effects on the consumer finance industry, derivatives, funding costs, and other areas. Actions by central banks, financial, and securities regulators may affect the costs and expenses of financing the Company and the financing rates it is able to offer. The Company’s business is affected by general economic conditions in the global markets in which the Company operates because deteriorating economic conditions and political instability can result in decreased customer confidence, lower demand for equipment, higher credit losses, and greater currency risk. The Company’s business is also affected by actions of banks, financing and leasing companies, and other lenders that compete with the Company for customers; capital market disruptions; significant changes in capital market liquidity and associated funding costs; interest rates (including the availability of IBOR reference rates) and foreign currency exchange rates and their volatility; changes to and compliance with privacy regulations; changes in weather patterns; the political and social stability of the global markets in which the Company operates; the effects of, or response to, terrorism and security threats; wars and other conflicts; natural disasters; and the spread of major epidemics.
Significant changes in market liquidity conditions, changes in the Company’s credit ratings, and any failure to comply with financial covenants in credit agreements could impact access to funding and funding costs, which could reduce the Company’s earnings and cash flows. Financial market conditions could also negatively impact customer access to capital for purchases of John Deere’s products and customer confidence and purchase decisions, borrowing and repayment practices, and the number and size of customer loan delinquencies and defaults. A debt crisis, in Europe or elsewhere, could negatively impact currencies, global financial markets, social and political stability, funding sources and costs, asset and obligation values, customers, and Company operations and results. Security breaches, cybersecurity attacks, technology failures, and other disruptions to the Company’s information technology infrastructure also could materially affect results. The Company’s operations could be impaired by changes in the equity, bond, and other financial markets, which would negatively affect earnings.
The anticipated withdrawal of the United Kingdom from the European Union and the perceptions as to the impact of the withdrawal may adversely affect business activity, political stability, and economic conditions in the United Kingdom, the European Union, and elsewhere. The economic conditions and outlook could be further adversely affected by (i) the uncertainty concerning the timing and terms of the exit, (ii) new or modified trading arrangements between the United Kingdom and other countries, (iii) the risk that one or more other European Union countries could come under increasing pressure to leave the European Union, or (iv) the risk that the euro as the single currency of the Eurozone could cease to exist. Any of these developments, or the perception that any of these developments are likely to occur, could affect economic growth or business activity in the United Kingdom or the European Union, and could result in the relocation of businesses, cause business interruptions, lead to economic recession or depression, and impact the stability of the financial markets, availability of credit, currency exchange rates, interest rates, financial institutions, and political, financial, and monetary systems. Any of these developments could affect our businesses, liquidity, results of operations, and financial position.
The liquidity and ongoing profitability of the Company depend largely on timely access to capital in order to meet future cash flow requirements and to fund operations, costs, and purchases of John Deere’s products. If general economic conditions deteriorate or capital markets become more volatile, funding could be unavailable or insufficient. Additionally, customer confidence levels may result in declines in credit applications and increases in delinquencies and default rates, which could materially impact the Company’s write-offs and provision for credit losses.
In addition, the Company’s business is closely related to John Deere’s business. Further information, including factors that could materially affect the Company’s and John Deere’s financial results, is included in the most recent Deere & Company Form 10-K (including, but not limited to, the factors discussed in Item 1A. Risk Factors of the Form 10-K) and other Deere & Company and Capital Corporation quarterly and other filings with the SEC.
Off-Balance Sheet Arrangements
The Company had other miscellaneous contingencies at November 3, 2019 that were not material and for which it believes the probability for payment is substantially remote. The Company had no accrued liability at November 3, 2019 related to these contingencies.
Aggregate Contractual Obligations
The payment schedule for the Company’s contractual obligations at November 3, 2019 in millions of dollars is as follows:
* Principal payments.
**        Payments related to securitization borrowings of $4,282.3 million classified as short-term on the balance sheet related to the securitization of retail notes are included in this table based on the expected payment schedule (see Note 9).
*** Includes projected payments related to interest rate swaps.
The previous table does not include unrecognized tax benefit liabilities of approximately $32.5 million at November 3, 2019 since the timing of future payments is not reasonably estimable at this time (see Note 16). It also does not include unused commitments to extend credit to customers and John Deere dealers as discussed in Note 19 to the Consolidated Financial Statements. For additional information regarding short-term borrowings, long-term borrowings, and lease obligations, see Notes 9, 10, and 11, respectively, to the Consolidated Financial Statements.
Critical Accounting Policies
The preparation of the Company’s consolidated financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect reported amounts of assets, liabilities, revenues, and expenses. Changes in these estimates and assumptions could have a significant effect on the financial statements. The accounting policies below are those management believes are the most critical to the preparation of the Company’s financial statements and require the most difficult, subjective, or complex judgments. The Company’s other accounting policies are described in the Notes to the Consolidated Financial Statements.
Allowance for Credit Losses
The allowance for credit losses represents an estimate of the losses inherent in the Company’s Receivable portfolio. The level of the allowance is based on many quantitative and qualitative factors, including historical net loss experience by product category, portfolio duration, delinquency trends, economic conditions in the Company’s major markets and geographies, commodity price trends, and credit risk quality. The Company has an established process to calculate a range of possible outcomes and determine the adequacy of the allowance. The adequacy of the allowance is assessed quarterly by product category. Different assumptions or changes in economic conditions would result in changes to the allowance for credit losses and the provision for credit losses.
The total allowance for credit losses at November 3, 2019, October 28, 2018, and October 29, 2017 was $100.6 million, $106.7 million, and $113.8 million, respectively. The allowance decreased in 2019 and in 2018 due primarily to decreases in loss experience.
The assumptions used in evaluating the Company’s exposure to credit losses involve estimates and significant judgment. The historical loss experience on the Receivable portfolios represents one factor used in determining the allowance for credit losses. Compared to the average loss experience over the last five fiscal years, this percent has varied by an average of approximately plus or minus .04 percent. Holding other factors constant, if this estimated loss experience on the Receivable portfolio were to increase or decrease .04 percent, the allowance for credit losses at November 3, 2019 would increase or decrease by approximately $14 million.
Operating Lease Residual Values
The carrying value of the equipment on operating leases is affected by the estimated fair values of the equipment at the end of the lease (residual values). Upon termination of the lease, the equipment is either purchased by the lessee or sold to a third party, in which case the Company may record a gain or a loss for the difference between the estimated residual value and the sale price. The residual values are dependent on current economic conditions and are reviewed when events or circumstances necessitate an evaluation. Changes in residual value assumptions would affect the amount of depreciation expense and the amount of investment in equipment on operating leases.
The total operating lease residual values at November 3, 2019, October 28, 2018, and October 29, 2017 were $3,876.5 million, $3,740.9 million, and $3,471.9 million, respectively. The changes in 2019 and 2018 were due primarily to the increasing levels of operating leases.
Estimates used in determining end of lease market values for equipment on operating leases significantly impact the amount and timing of depreciation expense. Hypothetically, if future market values for this equipment were to decrease 10 percent from the Company’s present estimates, the total impact would be to increase the Company’s annual depreciation for equipment on operating leases by approximately $132.9 million.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
Financial Instrument Risk Information
The Company is naturally exposed to various interest rate and foreign currency risks. As a result, the Company enters into derivative transactions to manage certain of these exposures that arise in the normal course of business and not for the purpose of creating speculative positions or trading. The Company manages the relationships of the types and amounts of its funding sources to its Receivable and Lease portfolios in an effort to diminish risk due to interest rate and foreign currency fluctuations, while responding to favorable financing opportunities. Accordingly, from time to time, the Company enters into interest rate swap agreements to manage its interest rate exposure. The Company also has foreign currency exposures at some of its foreign and domestic operations related to financing in currencies other than the functional currencies. The Company has entered into agreements related to the management of these foreign currency transaction risks.
Interest Rate Risk
Quarterly, the Company uses a combination of cash flow models to assess the sensitivity of its financial instruments with interest rate exposure to changes in market interest rates. The models calculate the effect of adjusting interest rates as follows. Cash flows for Receivables are discounted at the current prevailing rate for each Receivable portfolio. Cash flows for unsecured borrowings are discounted at the applicable benchmark yield curve plus market credit spreads for similarly rated borrowers. Cash flows for securitized borrowings are discounted at the swap yield curve plus a market credit spread for similarly rated borrowers. Cash flows for interest rate swaps are projected and discounted using forward rates from the swap yield curve at the repricing dates. The net loss in these financial instruments’ fair values, which would be caused by increasing the interest rates by 10 percent from the market rates at November 3, 2019 and October 28, 2018, would have been approximately $87.9 million and $68.8 million, respectively.
Foreign Currency Risk
The Company’s policy is to hedge the foreign currency risk if the currency of the borrowings does not match the currency of the Receivable portfolio. As a result, a hypothetical 10 percent adverse change in the value of the U.S. dollar relative to all other foreign currencies would not have a material effect on the Company’s cash flows.
Item 8.
Item 8. Financial Statements and Supplementary Data.
See accompanying table of contents of financial statements on page 30.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
Not applicable.
Item 9A.
Item 9A. Controls and Procedures.
Disclosure Controls and Procedures
The Company’s principal executive officer and its principal financial officer have concluded that the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended (the Exchange Act)) were effective as of November 3, 2019, based on the evaluation of these controls and procedures required by Rule 13a-15(b) or 15d-15(b) of the Exchange Act.
Management’s Report on Internal Control Over Financial Reporting
The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control system was designed to provide reasonable assurance regarding the preparation and fair presentation of published financial statements in accordance with generally accepted accounting principles.
All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation in accordance with generally accepted accounting principles.
Management assessed the effectiveness of the Company’s internal control over financial reporting as of November 3, 2019, using the criteria set forth in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on that assessment, management believes that, as of November 3, 2019, the Company’s internal control over financial reporting was effective.
This Annual Report does not include an attestation report of the Company’s independent registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s independent registered public accounting firm pursuant to rules of the Securities and Exchange Commission that permit the Company to provide only management’s report in this Annual Report.
Changes in Internal Control Over Financial Reporting
During the fourth quarter, there were no changes that have materially affected or are reasonably likely to materially affect the Company’s internal control over financial reporting.
Item 9B.
Item 9B. Other Information.
Not applicable.
PART III
Item 10.
Item 10. Directors, Executive Officers, and Corporate Governance.
Omitted pursuant to instruction I(2).
Item 11.
Item 11. Executive Compensation.
Omitted pursuant to instruction I(2).
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.
Omitted pursuant to instruction I(2).
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence.
Omitted pursuant to instruction I(2).
Item 14.
Item 14. Principal Accountant Fees and Services.
For the years ended November 3, 2019 and October 28, 2018, professional services were performed by Deloitte & Touche LLP, the member firms of Deloitte Touche Tohmatsu, and their respective affiliates (collectively called Deloitte & Touche).
Audit Fees
The aggregate fees billed include amounts for the audit of the Company’s annual financial statements, the reviews of the financial statements included in the Company’s Quarterly Reports on Form 10-Q, including services related thereto such as comfort letters, statutory audits, attest services, consents, and assistance with and review of documents filed with the SEC and other regulatory bodies. Audit fees for the fiscal years ended November 3, 2019 and October 28, 2018, were $3.2 million and $3.3 million, respectively.
Audit-Related Fees
During the last two fiscal years, Deloitte & Touche has provided the Company with assurance and related services that are reasonably related to the performance of the audit of the Company’s financial statements. The aggregate fees billed for such audit-related services for the fiscal years ended November 3, 2019 and October 28, 2018 were $.2 million in both years. These services included various attest services.
Tax Fees
There were no aggregate fees billed for professional services provided by Deloitte & Touche in connection with tax advice and tax planning services for the fiscal years ended November 3, 2019 and October 28, 2018.
All Other Fees
There were no aggregate fees billed by Deloitte & Touche for services not included above for the fiscal years ended November 3, 2019 and October 28, 2018.
Pre-approval of Services by the Independent Registered Public Accounting Firm
As a wholly-owned subsidiary of Deere & Company, audit and non-audit services provided by the Company’s independent registered public accounting firm are subject to Deere & Company’s Audit Review Committee pre-approval policies and procedures as described in the Deere & Company 2019 proxy statement. During the fiscal year ended November 3, 2019, all services provided by the independent registered public accounting firm were pre-approved by Deere & Company’s Audit Review Committee in accordance with such policy.
PART IV
Item 15.
Item 15. Exhibits and Financial Statement Schedules.
(1)    Financial Statements
See the table of contents to financial statements on page 30.
(2)    Financial Statement Schedules
None.
(3)    Exhibits
See the index to exhibits on page 72.
Item 16. Form 10-K Summary.
None.
Schedules Omitted
The following schedules are omitted because of the absence of conditions under which they are required or because the required information is included in the Notes to the Consolidated Financial Statements:
I, II, III, IV, and V.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the stockholders and the Board of Directors of John Deere Capital Corporation:
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of John Deere Capital Corporation and subsidiaries (the “Company”) as of November 3, 2019 and October 28, 2018, and the related statements of consolidated income, consolidated comprehensive income, changes in consolidated stockholder’s equity, and consolidated cash flows for each of the three years ended November 3, 2019, October 28, 2018 and October 29, 2017, and the related notes (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of November 3, 2019 and October 28, 2018, and the results of its operations and its cash flows for each of the three years ended November 3, 2019, October 28, 2018 and October 29, 2017, in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ DELOITTE & TOUCHE LLP
Chicago, Illinois
December 19, 2019
We have served as the Company’s auditor since 1959.
John Deere Capital Corporation and Subsidiaries
Statement of Consolidated Income
For the Years Ended November 3, 2019, October 28, 2018, and October 29, 2017
(in millions)
The accompanying Notes to Consolidated Financial Statements are an integral part of this statement.
John Deere Capital Corporation and Subsidiaries
Statement of Consolidated Comprehensive Income
For the Years Ended November 3, 2019, October 28, 2018, and October 29, 2017
(in millions)
The accompanying Notes to Consolidated Financial Statements are an integral part of this statement.
John Deere Capital Corporation and Subsidiaries
Consolidated Balance Sheet
As of November 3, 2019 and October 28, 2018
(in millions)
The accompanying Notes to Consolidated Financial Statements are an integral part of this statement.
John Deere Capital Corporation and Subsidiaries
Statement of Consolidated Cash Flows
For the Years Ended November 3, 2019, October 28, 2018, and October 29, 2017
(in millions)
The accompanying Notes to Consolidated Financial Statements are an integral part of this statement.
John Deere Capital Corporation and Subsidiaries
Statement of Changes in Consolidated Stockholder’s Equity
For the Years Ended October 29, 2017, October 28, 2018, and November 3, 2019
(in millions)
The accompanying Notes to Consolidated Financial Statements are an integral part of this statement.
John Deere Capital Corporation and Subsidiaries
Notes to Consolidated Financial Statements
Note 1. Organization and Consolidation
Corporate Organization
John Deere Capital Corporation (Capital Corporation) and its subsidiaries are collectively called the Company. John Deere Financial Services, Inc. (JDFS), a wholly-owned finance holding subsidiary of Deere & Company, owns all of the outstanding common stock of Capital Corporation. The Company conducts business in Australia, New Zealand, the U.S., and in several countries in Africa, Asia, Europe, and Latin America. Deere & Company and its wholly-owned subsidiaries are collectively called John Deere.
Retail notes, revolving charge accounts, wholesale receivables, and financing leases are collectively called “Receivables.” Receivables and equipment on operating leases are collectively called “Receivables and Leases.”
The Company bears substantially all of the credit risk (net of recovery from withholdings from certain John Deere dealers and merchants) associated with its holding of Receivables and Leases. A small portion of the Receivables and Leases held (less than 5 percent) is guaranteed by certain subsidiaries of Deere & Company. The Company also performs substantially all servicing and collection functions. Servicing and collection functions for a small portion of the Receivables and Leases held (less than 5 percent) are provided by John Deere. John Deere is reimbursed for staff and other administrative services at estimated cost, and for credit lines provided to the Company based on utilization of those lines.
Principles of Consolidation
The consolidated financial statements include the financial statements of Capital Corporation and its subsidiaries. The consolidated financial statements represent primarily the consolidation of all companies in which Capital Corporation has a controlling interest. Certain variable interest entities (VIEs) are consolidated since the Company has both the power to direct the activities that most significantly impact the VIEs’ economic performance and the obligation to absorb losses or the right to receive benefits that could potentially be significant to the VIEs. The Company records its investment in each unconsolidated affiliated company (generally 20 to 50 percent ownership) at its related equity in the net assets of such affiliate (see Note 25).
Fiscal Year
The Company uses a 52/53 week fiscal year ending on the last Sunday in the reporting period. The fiscal year ends for 2019, 2018, and 2017 were November 3, 2019, October 28, 2018, and October 29, 2017, respectively. Fiscal year 2019 contained 53 weeks compared to 52 weeks in fiscal years 2018 and 2017.
Variable Interest Entities
The Company is the primary beneficiary of and consolidates certain VIEs that are special purpose entities (SPEs) related to the securitization of receivables. See Note 6 for more information on these restricted retail notes.
Note 2. Summary of Significant Accounting Policies
The following are significant accounting policies in addition to those included in other Notes to the Consolidated Financial Statements.
Use of Estimates in Financial Statements
The preparation of financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect the reported amounts and related disclosures. Actual results could differ from those estimates.
Revenue Recognition
Financing revenue is recorded over the lives of the related receivables using the interest method. Deferred costs on the origination of receivables are recognized as a reduction in finance revenue over the expected lives of the receivables using the interest method. Income and deferred costs on the origination of operating leases are recognized on a straight-line basis over the scheduled lease terms in lease revenue.
Securitization of Receivables
Certain financing receivables are periodically transferred to SPEs in securitization transactions (see Note 6). These securitizations qualify as collateral for secured borrowings and no gains or losses are recognized at the time of securitization. The receivables remain on the balance sheet and are classified as “Retail notes securitized.” The Company recognizes finance income over the lives of these retail notes using the interest method.
Depreciation
Equipment on operating leases is depreciated over the terms of the leases using the straight-line method.
Impairment of Long-Lived Assets
The Company evaluates the carrying value of long-lived assets when events or circumstances warrant such a review. If the carrying value of the long-lived asset is considered impaired, a loss is recognized based on the amount by which the carrying value exceeds the fair value of the asset (see Notes 7 and 21).
Fees Paid to John Deere
Fees paid to John Deere include corporate support fees and interest on intercompany borrowings from John Deere based on approximate market rates.
Derivative Financial Instruments
It is the Company’s policy that derivative transactions are executed only to manage exposures arising in the normal course of business and not for the purpose of creating speculative positions or trading. The Company manages the relationship of the types and amounts of its funding sources to its Receivable and Lease portfolios in an effort to diminish risk due to interest rate and foreign currency fluctuations, while responding to favorable financing opportunities. The Company also has foreign currency exposures at some of its foreign and domestic operations related to financing in currencies other than the functional currencies.
All derivatives are recorded at fair value on the balance sheet. Cash collateral received or paid is not offset against the derivative fair values on the balance sheet. Each derivative is designated as a cash flow hedge, a fair value hedge, or remains undesignated. Changes in the fair value of derivatives that are designated and effective as cash flow hedges are recorded in other comprehensive income (OCI) and reclassified to the income statement when the effects of the item being hedged are recognized in the income statement. Changes in the fair value of derivatives that are designated and effective as fair value hedges are recognized currently in net income. These changes are offset in net income by fair value changes related to the risk being hedged on the hedged item. Changes in the fair value of undesignated hedges are recognized currently in the income statement.
All designated hedges are formally documented as to the relationship with the hedged item as well as the risk-management strategy. Both at inception and on an ongoing basis, the hedging instrument is assessed as to its effectiveness. If and when a derivative is determined not to be highly effective as a hedge, the underlying hedged transaction is no longer likely to occur, the hedge designation is removed, or the derivative is terminated, hedge accounting is discontinued (see Note 22).
Foreign Currency Translation
The functional currencies for most of the Company’s foreign operations are their respective local currencies. The assets and liabilities of these operations are translated into U.S. dollars at the end of the period exchange rates. The revenues and expenses are translated at weighted-average rates for the period. The gains or losses from these translations are recorded in OCI. Gains or losses from transactions denominated in a currency other than the functional currency of the subsidiary involved and foreign exchange derivative contracts are included in net income. The pretax net gain for foreign exchange in 2019 was $3.9 million. The pretax net losses for foreign exchange in 2018 and 2017 were $11.4 million and $8.1 million, respectively.
Note 3. New Accounting Standards
New Accounting Standards Adopted
In the first quarter of 2019, the Company adopted Financial Accounting Standards Board (FASB) Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606), which supersedes the revenue recognition requirements in Accounting Standards Codification (ASC) 605, Revenue Recognition, using a modified-retrospective approach. The ASU is based on the principle that revenue is recognized to depict the transfer of goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. A five-step model is used to determine the amount and timing of revenue recognized. The adoption did not have a material effect on the Company’s consolidated financial statements.
In the first quarter of 2019, the Company adopted ASU No. 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, which amends ASC 825-10, Financial Instruments - Overall. This ASU changed the treatment for available-for-sale equity investments by recognizing unrealized fair value changes directly in net income and no longer in other comprehensive income (OCI). The Company does not own any available-for-sale equity securities. As a result, the adoption did not have a material effect on the Company’s consolidated financial statements.
In the first quarter of 2019, the Company adopted ASU No. 2016-18, Restricted Cash, which amends ASC 230, Statement of Cash Flows. The ASU requires that restricted cash be included with cash and cash equivalents in the statement of cash flows. The ASU was adopted using a retrospective transition approach resulting in an update to the 2017 and 2018 statements of consolidated cash flows (see Note 18). The ASU did not have a material effect on the Company’s consolidated financial statements.
In the first quarter of 2019, the Company early adopted ASU No. 2017-12, Targeted Improvements to Accounting for Hedging Activities, which amends ASC 815, Derivatives and Hedging. The purpose of this ASU is to better align a company’s risk management activities and financial reporting for hedging relationships, simplify the hedge accounting requirements, and improve the disclosures of hedging arrangements. The adoption did not have a material effect on the Company’s consolidated financial statements (see Note 22). The Company continues to evaluate potential additional hedge accounting relationships provided by the new standard to further improve risk management.
The Company also adopted the following standards in the first quarter of 2019, none of which had a material effect on the Company’s consolidated financial statements:
New Accounting Standards to be Adopted
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which supersedes ASC 840, Leases. The ASU’s primary change is the requirement for lessee entities to recognize a lease liability for payments and a right of use asset during the term of operating lease arrangements. The ASU does not significantly change the lessee’s recognition, measurement, and presentation of expenses and cash flows from the previous accounting standard. Lessors’ accounting under the ASU is largely unchanged from the previous accounting standard. The ASU also expands the disclosures for leases. The effective date is the first quarter of fiscal year 2020 and the ASU will be adopted using the modified-retrospective approach that will not require earlier periods to be restated. The Company will elect the optional practical expedients to not reassess whether existing contracts contain leases, not reassess lease classification, and not reassess initial direct costs for existing leases. The Company will not elect the use of the hindsight practical expedient. In addition, the Company will elect to combine lease and non-lease components for most asset classes and to not recognize a right of use asset or lease liability for arrangements that qualify as short-term leases. A software application for lessee accounting will be implemented for the adoption, along with new processes and controls. The estimated right of use assets and lease liabilities at adoption will not be significant. The adoption will not have a material effect on the Company’s operating results or cash flows.
In June 2016, the FASB issued ASU No. 2016-13, Measurement of Credit Losses on Financial Instruments, which establishes ASC 326, Financial Instruments - Credit Losses. The ASU revises the measurement of credit losses for financial assets measured at amortized cost from an incurred loss methodology to an expected loss methodology. The ASU affects receivables, debt securities, net investment in leases, and most other financial assets that represent a right to receive cash. Additional disclosures about significant estimates and credit quality are also required. In November 2018, the FASB issued ASU No. 2018-19, Codification Improvements to Topic 326, Financial Instruments - Credit Losses. This ASU clarifies that receivables from operating leases are accounted for using the lease guidance and not as financial instruments. In May 2019, the FASB issued ASU No. 2019-05, Targeted Transition Relief, which amends ASC 326. This ASU provides an option to irrevocably elect to measure certain individual financial assets at fair value instead of amortized cost. In November 2019, the FASB issued ASU No. 2019-11, Codification Improvements to Topic 326, Financial Instruments - Credit Losses. The ASU clarifies the treatment of expected recoveries for amounts previously written off on purchased receivables, provides transition relief for troubled debt restructurings, and allows for certain disclosure simplifications of accrued interest. The effective date will be the first quarter of fiscal year 2021. The ASUs will be adopted using a modified-retrospective approach. The Company is evaluating the potential effects on the consolidated financial statements.
In August 2018, the FASB issued ASU No. 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract, which amends ASC 350-40, Intangibles - Goodwill and Other - Internal-Use Software. This ASU requires customers in a hosting arrangement that is a service contract to evaluate the implementation costs of the hosting arrangement using the guidance to develop internal-use software. The project development stage determines the implementation costs that are capitalized or expensed. Capitalized implementation costs are amortized over the term of the service arrangement and are presented in the same income statement line item as the service contract costs. The effective date will be the first quarter of fiscal year 2021, with early adoption permitted. The Company will adopt the ASU on a prospective basis. The Company is evaluating the potential effects on the Company’s consolidated financial statements.
In April 2019, the FASB issued ASU No. 2019-04, Codification Improvements to Topic 326, Financial Instruments - Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments. The effective dates for the separate portions of the ASU and the expected effect on the consolidated financial statements are as follows: (1) clarifications to ASU No. 2016-13, Measurement of Credit Losses on Financial Instruments, is the first quarter of fiscal year 2021, which is under evaluation, (2) clarifications to ASU No. 2017-12, Targeted Improvements to Accounting for Hedging Activities, is the first quarter of fiscal year 2020, with early adoption permitted, which will not have a material effect, and (3) clarifications to ASU No. 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, is the first quarter of fiscal year 2021, with early adoption permitted, which will not have a material effect on the Company’s consolidated financial statements.
Note 4. Receivables
Retail Notes Receivable
The Company provides and administers financing for retail purchases of new equipment manufactured by John Deere’s agriculture and turf and construction and forestry operations and used equipment taken in trade for this equipment. The Company generally purchases retail installment sales and loan contracts (retail notes) from John Deere. These retail notes are acquired by John Deere through John Deere retail dealers. The Company also purchases and finances a limited amount of retail notes unrelated to John Deere.
Retail notes receivable by product category at November 3, 2019 and October 28, 2018 were as follows (in millions of dollars):
Retail notes acquired by the Company had an average original term (based on dollar amounts) of 56 months for each of the years ended November 3, 2019, October 28, 2018, and October 29, 2017. Historically, because of prepayments, the average actual life of retail notes has been considerably shorter than the average original term. The average actual life for retail notes liquidated in 2019, 2018, and 2017 was 40 months, 41 months, and 40 months, respectively.
Gross retail note installments at November 3, 2019 and October 28, 2018 were scheduled to be received as follows (in millions of dollars):
Company guidelines relating to down payment requirements and contract terms on retail notes are generally as follows:
Finance income is recognized over the lives of the retail notes using the interest method. During 2019, the average effective yield on retail notes held by the Company was approximately 5.0 percent, compared with 4.5 percent in 2018 and 4.1 percent in 2017. Finance income on variable-rate retail notes is adjusted monthly based on fluctuations in the base rate of a specified bank. Net costs incurred in the acquisition of retail notes are deferred and recognized over the expected lives of the retail notes using the interest method.
A portion of the finance income earned by the Company arises from financing of retail sales of John Deere equipment on which finance charges are waived or reduced by John Deere for a period from the date of the retail sale to a specified subsequent date. The Company receives compensation from John Deere equal to competitive market interest rates for periods during which finance charges have been waived or reduced. The Company computes the compensation from John Deere for waived or reduced finance charges based on the Company’s estimated funding costs, administrative and operating expenses, credit losses, and required return on equity. The financing rate following the waiver or interest reduction period is not significantly different from the compensation rate from John Deere. The portions of the Company’s finance income earned that were received from John Deere on retail notes containing waiver of finance charges or reduced rates were 36 percent, 37 percent, and 34 percent in 2019, 2018, and 2017, respectively. During 2019, 2018, and 2017, the finance income earned from John Deere on retail notes containing waiver of finance charges or reduced rates was $334.8 million, $282.5 million, and $236.4 million, respectively.
A deposit is withheld by the Company on certain John Deere agriculture and turf equipment retail notes originating from dealers. Any subsequent retail note losses are charged against the withheld deposits. At the end of each calendar quarter, the balance of each dealer’s withholding account in excess of a specified percent (ranging from one-half to three percent based on dealer qualifications) of the total balance outstanding on retail notes originating with that dealer is remitted to the dealer. To the extent that these deposits withheld from the dealer from whom the retail note was acquired cannot absorb a loss on a retail note, it is charged against the Company’s allowance for credit losses. There is generally no withholding of dealer deposits on John Deere construction and forestry equipment retail notes.
The Company generally requires that theft and physical damage insurance be carried on all goods leased or securing retail notes and wholesale receivables. In certain markets, the customer may, at the customer’s own expense, have the Company or the seller of the goods purchase this insurance or obtain it from other sources.
Revolving Charge Accounts Receivable
Revolving charge account income is generated primarily by three revolving credit products: John Deere Financial Multi-Use Account, PowerPlanâ, and John Deere Financial Revolving Plan. John Deere Financial Multi-Use Account is primarily used by farmers and ranchers to finance parts and services from John Deere dealers, as well as crop inputs, such as seed, fertilizer, and crop protection from agribusiness merchants. Merchants, including agribusinesses and dealers, offer John Deere Financial Multi-Use Account as an alternative to carrying in-house accounts receivable and can initially sell existing balances to the Company under a recourse arrangement. John Deere Financial Multi-Use Account income includes a discount paid by merchants for transaction processing and support and finance charges paid by customers on their outstanding account balances. PowerPlanâ is primarily used by construction companies to finance parts and services and is otherwise similar to John Deere Financial Multi-Use Account. John Deere construction and forestry dealers offer PowerPlanâ as an alternative to carrying in-house accounts receivable and can initially sell existing balances to the Company under a recourse arrangement. PowerPlanâ income includes a discount paid by dealers for transaction processing and support and finance charges paid by customers on their outstanding account balances. The John Deere Financial Revolving Plan is used primarily by retail customers of John Deere dealers to finance turf and utility equipment. Income includes a discount paid by dealers on most transactions and finance charges paid by customers on their outstanding account balances. Revolving charge account income is also generated through waiver of finance charges or reduced rates from sponsoring merchants.
During 2019, 2018, and 2017, the finance income earned from John Deere on revolving charge accounts containing waiver of finance charges or reduced rates was $14.1 million, $12.7 million, and $13.6 million, respectively. Revolving charge accounts receivable at November 3, 2019 and October 28, 2018 totaled $3,863.0 million and $3,797.6 million, and were net of unearned interest income of $59.8 million and $44.0 million for the same periods, respectively. Generally, account holders may pay the account balance in full at any time or make payments over a number of months according to a payment schedule.
Wholesale Receivables
The Company also finances wholesale inventories of John Deere agriculture and turf equipment and construction and forestry equipment owned by dealers of those products in the form of wholesale receivables. Wholesale finance income related to these notes is generally recognized monthly based on the daily balance of wholesale receivables outstanding and the applicable effective interest rate. Interest rates vary with a bank base rate, the type of equipment financed, and the balance outstanding. Substantially all wholesale receivables are secured by equipment financed or other financial securities. The average actual life for wholesale receivables is less than 12 months. Wholesale receivables at November 3, 2019 and October 28, 2018 totaled $8,706.8 million and $7,967.6 million, respectively.
The Company purchases certain wholesale trade receivables from John Deere. These trade receivables arise from John Deere’s sales of goods to independent dealers. Under the terms of the sales to dealers, interest is primarily charged to dealers on outstanding balances, from the earlier of the date when goods are sold to retail customers by the dealer or the expiration of certain interest-free periods granted at the time of the sale to the dealer, until payment is received by the Company. Dealers cannot cancel purchases after John Deere recognizes a sale and are responsible for payment even if the equipment is not sold to retail customers. The interest-free periods are determined based on the type of equipment sold and the time of year of the sale. These periods range from one to twelve months for most equipment. Interest-free periods may not be extended. Interest charged may not be forgiven and the past due interest rates exceed market rates. The Company receives compensation from John Deere at approximate market interest rates for these interest-free periods. The Company computes the compensation from John Deere for interest-free periods based on the Company’s estimated funding costs, administrative and operating expenses, credit losses, and required return on equity. During 2019, 2018, and 2017, the compensation earned from John Deere on wholesale receivables for waiver of finance charges or reduced rates was $320.0 million, $285.0 million, and $225.5 million, respectively.
Financing Leases
The Company leases agriculture and turf equipment and construction and forestry equipment directly to retail customers. At the time of accepting a lease that qualifies as a financing lease, the Company records the gross amount of lease payments receivable, estimated residual value of the leased equipment, and unearned finance income. The unearned finance income is equal to the excess of the gross lease receivable plus the estimated residual value over the cost of the equipment. The unearned finance income is recognized as revenue over the lease term using the interest method. Net costs incurred in the acquisition of financing leases are deferred and recognized over the expected lives of the financing leases using the interest method.
Financing leases receivable by product category at November 3, 2019 and October 28, 2018 were as follows (in millions of dollars):
Initial lease terms for financing leases generally range from 4 months to 72 months. Payments on financing leases receivable at November 3, 2019 and October 28, 2018 were scheduled as follows (in millions of dollars):
Deposits withheld from John Deere dealers and related credit losses on financing leases are handled in a manner similar to the procedures for retail notes. As with retail notes, there are generally no deposits withheld from dealers on financing leases related to construction and forestry equipment. In addition, a lease payment discount program, allowing reduced payments over the term of the lease, is administered in a manner similar to finance waiver on retail notes. During 2019, 2018, and 2017, the finance income earned from John Deere on financing leases containing waiver of finance charges or reduced rates was $3.5 million, $3.8 million, and $3.0 million, respectively.
Equipment returned to the Company upon termination of leases and held for subsequent sale or lease is recorded in other assets at the lower of net book value or estimated fair value of the equipment less cost to sell and is not depreciated.
Concentration of Credit Risk
Receivables have significant concentrations of credit risk in the agriculture and turf and construction and forestry sectors as shown in the previous tables. On a geographic basis, there is not a disproportionate concentration of credit risk in any area. The Company generally secures its Receivables, other than certain revolving charge accounts, by retaining as collateral a security interest in the goods associated with those Receivables or with the use of other financial securities.
Note 5. Allowance for Credit Losses and Credit Quality of Receivables
Delinquencies
Past due balances of Receivables still accruing finance income represent the total balance held (principal plus accrued interest) with any payment amounts 30 days or more past the contractual payment due date.
The Company monitors the credit quality of Receivables based on delinquency status. Non-performing Receivables represent loans for which the Company has ceased accruing finance income. Generally, when retail notes, revolving charge accounts, and finance lease accounts are 90 days delinquent, accrual of finance income and lease revenue is suspended. Generally, when a wholesale receivable becomes 60 days delinquent, the Company determines whether the accrual of finance income on interest-bearing wholesale receivables should be suspended. Finance income for non-performing Receivables is recognized on a cash basis. Accrual of finance income is generally resumed when the receivable becomes contractually current and collections are reasonably assured.
During the first quarter of 2019, the Company amended the timing in which finance income and lease revenue is generally suspended on retail notes, revolving charge accounts, and finance lease accounts from 120 days delinquent to 90 days delinquent. This change in estimate was made on a prospective basis and did not have a significant effect on the Company’s consolidated financial statements. Management’s methodology to determine the collectability of delinquent accounts was not affected by the change.
Receivable balances are written off to the allowance for credit losses when, in the judgement of management, they are considered uncollectible. Generally, when retail notes and finance lease accounts are 120 days delinquent, the collateral is repossessed or the account is designated for litigation, and the estimated uncollectible amount, after charging the dealer’s withholding account, if any, is written off to the allowance for credit losses. Revolving charge accounts are generally deemed to be uncollectible and written off to the allowance for credit losses when delinquency reaches 120 days. Generally, when a wholesale account becomes 60 days delinquent, the Company determines whether the collateral should be repossessed or the account designated for litigation, and the estimated uncollectible amount is written off to the allowance for credit losses.
An age analysis of past due Receivables that are still accruing interest and non-performing Receivables at November 3, 2019 was as follows (in millions of dollars):
An age analysis of past due Receivables that are still accruing interest and non-performing Receivables at October 28, 2018 was as follows (in millions of dollars):
Allowance for Credit Losses
Allowances for credit losses on Receivables are maintained in amounts considered to be appropriate in relation to the Receivables outstanding based on historical loss experience by product category, portfolio duration, delinquency trends, economic conditions in the Company’s major markets and geographies, commodity price trends, and credit risk quality.
An analysis of the allowance for credit losses and investment in Receivables at November 3, 2019, October 28, 2018, and October 29, 2017 was as follows (in millions of dollars):
* Remainder is collectively evaluated.
Investments in non-performing Receivables at November 3, 2019 and October 28, 2018 were $311.9 million and $142.0 million, respectively. These Receivables as a percentage of total Receivables outstanding were .95 percent and .46 percent at November 3, 2019 and October 28, 2018, respectively. Total Receivable amounts 30 days or more past due and still accruing finance income were $352.8 million at November 3, 2019, compared with $483.2 million at October 28, 2018. These past due amounts represented 1.07 percent and 1.58 percent of total Receivables outstanding at November 3, 2019 and October 28, 2018, respectively. The allowance for credit losses as a percentage of total Receivables outstanding represented .31 percent at November 3, 2019 and .35 percent at October 28, 2018. In addition, at November 3, 2019 and October 28, 2018, the Company had $126.0 million and $132.3 million, respectively, of deposits primarily withheld from John Deere dealers and merchants available for potential credit losses.
Impaired Receivables
Receivables are considered impaired when it is probable the Company will be unable to collect all amounts due according to the contractual terms. Receivables reviewed for impairment generally include those that are past due, have provided bankruptcy notification, or require significant collection efforts. Receivables, which are impaired, are generally classified as non-performing.
An analysis of impaired Receivables at November 3, 2019 and October 28, 2018 was as follows (in millions of dollars):
* Finance income recognized was not material.
A troubled debt restructuring is generally the modification of debt in which a creditor grants a concession it would not otherwise consider to a debtor that is experiencing financial difficulties. These modifications may include a reduction of the stated interest rate, an extension of the maturity dates, a reduction of the face amount or maturity amount of the debt, or a reduction of accrued interest. During 2019, 2018, and 2017, the Company identified 328, 378, and 424 Receivable contracts, primarily retail notes, as troubled debt restructurings with aggregate balances of $14.6 million, $18.0 million, and $14.0 million pre-modification and $13.7 million, $17.3 million, and $12.6 million post-modification, respectively. In 2019 and 2018, there were no significant troubled debt restructurings that subsequently defaulted and were written off. In 2017, there were $2.0 million of troubled debt restructurings that subsequently defaulted and were written off. At November 3, 2019, the Company had no commitments to lend additional funds to borrowers whose accounts were modified in troubled debt restructurings.
Write-offs
Total Receivable write-offs and recoveries, by product, and as a percentage of average balances held during the year, were as follows (in millions of dollars):
Note 6. Securitization of Receivables
The Company, as a part of its overall funding strategy, periodically transfers certain receivables (retail notes) into VIEs that are SPEs, or non-VIE banking operations, as part of its asset-backed securities programs (securitizations). The structure of these transactions is such that the transfer of the retail notes did not meet the accounting criteria for sales of receivables, and is, therefore, accounted for as a secured borrowing. SPEs utilized in securitizations of retail notes differ from other entities included in the Company’s consolidated statements because the assets they hold are legally isolated. Use of the assets held by the SPEs or the non-VIEs is restricted by terms of the documents governing the securitization transactions.
In these securitizations, the retail notes are transferred to certain SPEs or to non-VIE banking operations, which in turn issue debt to investors. The debt securities issued to the third party investors result in secured borrowings, which are recorded as “Securitization borrowings” on the consolidated balance sheet. The securitized retail notes are recorded as “Retail notes securitized” on the consolidated balance sheet. The total restricted assets on the consolidated balance sheet related to these securitizations include the retail notes securitized less an allowance for credit losses, and other assets primarily representing restricted cash. Restricted cash results from contractual requirements in securitized borrowing arrangements and serves as a credit enhancement. The restricted cash is used to satisfy payment deficiencies, if any, in the required payments on secured borrowings. The balance of restricted cash is contractually stipulated and is either a fixed amount as determined by the initial balance of the retail notes securitized or a fixed percentage of the outstanding balance of the retail notes securitized. The restriction is removed either after all secured borrowing payments are made or proportionally as these receivables are collected and borrowing obligations reduced. For those securitizations in which retail notes are transferred into SPEs, the SPEs supporting the secured borrowings are consolidated unless the Company does not have both the power to direct the activities that most significantly impact the SPEs’ economic performance and the obligation to absorb losses or the right to receive benefits that could potentially be significant to the SPEs. No additional support to these SPEs beyond what was previously contractually required has been provided during the reporting periods.
In certain securitizations, the Company consolidates the SPEs since it has both the power to direct the activities that most significantly impact the SPEs’ economic performance through its role as servicer of all the Receivables held by the SPEs, and the obligation through variable interests in the SPEs to absorb losses or receive benefits that could potentially be significant to the SPEs. The restricted assets (retail notes securitized, allowance for credit losses, and other assets) of the consolidated SPEs totaled $2,894.4 million and $2,592.4 million at November 3, 2019 and October 28, 2018, respectively. The liabilities (securitization borrowings and accrued interest) of these SPEs totaled $2,847.2 million and $2,519.6 million at November 3, 2019 and October 28, 2018, respectively. The credit holders of these SPEs do not have legal recourse to the Company’s general credit.
In certain securitizations, the Company transfers retail notes to non-VIE banking operations, which are not consolidated since the Company does not have a controlling interest in the entities. The Company’s carrying values and interests related to the securitizations with the unconsolidated non-VIEs were restricted assets (retail notes securitized, allowance for credit losses, and other assets) of $447.0 million and $427.9 million at November 3, 2019 and October 28, 2018, respectively. The liabilities (securitization borrowings and accrued interest) were $420.5 million and $399.8 million at November 3, 2019 and October 28, 2018, respectively.
In certain securitizations, the Company transfers retail notes into bank-sponsored, multi-seller, commercial paper conduits, which are SPEs that are not consolidated. The Company does not service a significant portion of the conduits’ receivables, and therefore, does not have the power to direct the activities that most significantly impact the conduits’ economic performance. These conduits provide a funding source to the Company (as well as other transferors into the conduits) as they fund the retail notes through the issuance of commercial paper. The Company’s carrying values and variable interest related to these conduits were restricted assets (retail notes securitized, allowance for credit losses, and other assets) of $1,079.2 million and $1,033.2 million at November 3, 2019 and October 28, 2018, respectively. The liabilities (securitization borrowings and accrued interest) related to these conduits were $1,015.2 million and $965.5 million at November 3, 2019 and October 28, 2018, respectively.
The Company’s carrying amount of the liabilities to the unconsolidated conduits, compared to the maximum exposure to loss related to these conduits, which would only be incurred in the event of a complete loss on the restricted assets at November 3, 2019 was as follows (in millions of dollars):
The total assets of unconsolidated VIEs related to securitizations were approximately $36.5 billion at November 3, 2019.
The components of consolidated restricted assets related to secured borrowings in securitization transactions at November 3, 2019 and October 28, 2018 were as follows (in millions of dollars):
The components of consolidated secured borrowings and other liabilities related to securitizations at November 3, 2019 and October 28, 2018 were as follows (in millions of dollars):
The secured borrowings related to these restricted securitized retail notes are obligations that are payable as the retail notes are liquidated. Repayment of the secured borrowings depends primarily on cash flows generated by the restricted assets. Due to the Company’s short-term credit rating, cash collections from these restricted assets are not required to be placed into a segregated collection account until immediately prior to the time payment is required to the secured creditors. At November 3, 2019, the maximum remaining term of all restricted securitized retail notes was approximately six years.
Note 7. Equipment on Operating Leases
Operating leases arise primarily from the leasing of John Deere equipment to retail customers. Rental payments applicable to equipment on operating leases are recorded as income on a straight-line method over the lease terms. Operating lease assets are recorded at cost and depreciated to their estimated residual value on a straight-line method over the terms of the leases. Residual values represent estimates of the value of the leased assets at the end of the lease terms. The Company evaluates the carrying value of its operating lease assets and tests for impairment when events or circumstances necessitate the evaluation. Generally, impairment is determined to exist if the undiscounted expected future cash flows from the operating leases are lower than the carrying value of the leased assets. During 2019, the Company recorded impairment losses on operating leases of $59.4 million due to lower estimated values of used agriculture and construction equipment. During 2018 and 2017, the Company recorded no impairment losses on operating leases. Operating lease impairments are included in administrative and operating expenses on the statement of consolidated income.
The cost of equipment on operating leases by product category at November 3, 2019 and October 28, 2018 was as follows (in millions of dollars):
Initial lease terms for equipment on operating leases generally range from 12 months to 60 months. Rental payments for equipment on operating leases at November 3, 2019 and October 28, 2018 were scheduled as follows (in millions of dollars):
Deposits withheld from John Deere dealers and related credit losses on operating leases are handled in a manner similar to the procedures for retail notes. As with retail notes, there are generally no deposits withheld from dealers on operating leases related to construction and forestry equipment. At November 3, 2019 and October 28, 2018, the Company also had $11.5 million and $33.7 million, respectively, of deposits withheld from John Deere dealers available for potential losses on residual values. In addition, a lease payment discount program, allowing reduced payments over the term of the lease, is administered in a manner similar to finance waivers on retail notes. During 2019, 2018, and 2017, the operating lease revenue earned from John Deere was $42.9 million, $39.2 million, and $30.9 million, respectively.
Equipment returned to the Company upon termination of leases and held for subsequent sale or lease is recorded in other assets at the lower of net book value or estimated fair value of the equipment less cost to sell and is not depreciated. The matured operating lease inventory balances at November 3, 2019 and October 28, 2018 were $160.8 million and $245.9 million, respectively. During 2019, the Company recorded impairment losses on matured operating lease inventory of $18.0 million. During 2018 and 2017, the Company recorded no impairment losses on matured operating lease inventory. Impairment losses on matured operating lease inventory are included in administrative and operating expenses on the statement of consolidated income.
Past due balances of operating leases represent the total balance held (net book value plus accrued lease payments) and still accruing finance income with any payment amounts 30 days or more past the contractual payment due date. These amounts were $85.4 million and $80.0 million at November 3, 2019 and October 28, 2018, respectively.
Note 8. Notes Receivable from John Deere
The Company makes loans to affiliated companies. The Company receives interest from John Deere at competitive market interest rates. The lending agreements mature over the next seven years. Interest earned from John Deere was $17.4 million, $11.1 million, and $3.4 million in 2019, 2018, and 2017, respectively.
The Company had notes receivable from John Deere at November 3, 2019 and October 28, 2018 with the following affiliated companies as follows (in millions of dollars):
Note 9. Short-Term Borrowings
Short-term borrowings of the Company at November 3, 2019 and October 28, 2018 consisted of the following (in millions of dollars):
* Includes unamortized fair value adjustments related to interest rate swaps.
Securitization borrowings are secured by retail notes securitized on the balance sheet (see Note 6). Although these securitization borrowings are classified as short-term since payment is required if the retail notes are liquidated early, the payment schedule for these borrowings of $4,277.0 million, which are net of debt acquisition costs, at November 3, 2019 based on the expected liquidation of the retail notes in millions of dollars is as follows: 2020 - $2,149.0, 2021 - $1,265.3, 2022 - $657.4, 2023 - $194.6, 2024 - $14.8, and 2025 - $1.2. The Company’s short-term debt also includes amounts borrowed from John Deere. The Company pays interest on a monthly basis to John Deere for these borrowings based on a market rate. The weighted-average interest rates on total short-term borrowings, excluding current maturities of long-term borrowings, at November 3, 2019 and October 28, 2018, were 2.2 percent and 2.6 percent, respectively.
Lines of credit available from U.S. and foreign banks were $7,915.4 million at November 3, 2019. Some of these credit lines are available to both the Company and Deere & Company. At November 3, 2019, $5,143.0 million of these worldwide lines of credit were unused. For the purpose of computing the unused credit lines, commercial paper and short-term bank borrowings, excluding secured borrowings and the current portion of long-term borrowings, of the Company and John Deere were primarily considered to constitute utilization. Included in the total credit lines at November 3, 2019 was a 364-day credit facility agreement of $2,800.0 million, expiring in fiscal April 2020. In addition, total credit lines included long-term credit facility agreements of $2,500.0 million, expiring in April 2023, and $2,500.0 million, expiring in April 2024. The agreements are mutually extendable and the annual facility fees are not significant. These credit agreements require the Company to maintain its consolidated ratio of earnings to fixed charges at not less than 1.05 to 1 for each fiscal quarter and the ratio of senior debt, excluding securitization indebtedness, to capital base (total subordinated debt and stockholder’s equity excluding accumulated other comprehensive income (loss)) at not more than 11 to 1 at the end of any fiscal quarter. “Senior debt” consists of the Company’s total interest-bearing obligations, excluding subordinated debt and certain securitization indebtedness, but including borrowings from John Deere. All of
these credit agreement requirements have been met during the periods included in the consolidated financial statements. The facility fees on these lines of credit are divided between Deere & Company and the Company based on the proportion of their respective forecasted liquidity requirements.
Deere & Company has an agreement with Capital Corporation pursuant to which it has agreed to continue to own, directly or through one or more wholly-owned subsidiaries, at least 51 percent of the voting shares of capital stock of Capital Corporation and to maintain the Company’s consolidated tangible net worth at not less than $50.0 million. This agreement also obligates Deere & Company to make payments to the Company such that its consolidated ratio of earnings to fixed charges is not less than 1.05 to 1 for each fiscal quarter. Deere & Company’s obligations to make payments to the Company under the agreement are independent of whether the Company is in default on its indebtedness, obligations, or other liabilities. Further, Deere & Company’s obligations under the agreement are not measured by the amount of the Company’s indebtedness, obligations, or other liabilities. Deere & Company’s obligations to make payments under this agreement are expressly stated not to be a guaranty of any specific indebtedness, obligation, or liability of the Company and are enforceable only by or in the name of Capital Corporation. No payments were required under this agreement during the periods included in the consolidated financial statements.
Note 10. Long-Term Borrowings
Long-term borrowings of the Company at November 3, 2019 and October 28, 2018 consisted of the following (in millions of dollars):
* Includes unamortized fair value adjustments related to interest rate swaps.
** All interest rates are as of year end.
The approximate principal amounts of long-term borrowings maturing in each of the next five years, in millions of dollars, are as follows: 2020 - $5,723.1, 2021 - $5,727.1, 2022 - $5,266.9, 2023 - $3,130.3, and 2024 - $2,446.5.
Note 11. Leases
Total rental expense for operating leases was $2.0 million, $2.0 million, and $2.1 million for 2019, 2018, and 2017, respectively. At November 3, 2019, future minimum lease payments under operating leases amounted to $4.7 million as follows (in millions of dollars): 2020 - $1.7, 2021 - $1.4, 2022 - $1.0, and 2023 - $.6.
Note 12. Capital Stock
All of Capital Corporation’s common stock is owned by JDFS, a wholly-owned finance holding subsidiary of Deere & Company. No shares of common stock of Capital Corporation were reserved for officers or employees or for options, warrants, conversions, or other rights at November 3, 2019 or October 28, 2018. At November 3, 2019 and October 28, 2018, Capital Corporation had authorized, but not issued, 10,000 shares of $1 par value preferred stock.
Note 13. Dividends
In 2019, 2018, and 2017, Capital Corporation declared and paid cash dividends of $330.0 million, $375.0 million, and $285.0 million, respectively, to JDFS. In each case, JDFS paid comparable dividends to Deere & Company.
Note 14. Pension and Other Postretirement Benefits
The Company is a participating employer in certain Deere & Company sponsored defined benefit pension plans for employees in the U.S. and certain defined benefit pension plans outside the U.S. These pension plans provide for benefits that are based primarily on years of service and employee compensation. Pension expense is actuarially determined based on the Company’s employees included in the plan. The Company’s pension expense amounted to $.7 million in 2019, $6.2 million in 2018, and $5.5 million in 2017. The accumulated benefit obligation and plan net assets for the employees of the Company are not determined separately from Deere & Company. The Company provides defined benefit health care and life insurance plans for certain retired employees in the U.S. as a participating employer in Deere & Company’s sponsored plans. Health care and life insurance benefits expense is actuarially determined based on the Company’s employees included in the plans and amounted to $4.3 million in 2019, $2.5 million in 2018, and $2.9 million in 2017. Further disclosure for these plans is included in the notes to the Deere & Company 2019 Annual Report on Form 10-K.
The Company is a participating employer in certain Deere & Company sponsored defined contribution plans related to employee investment and savings plans primarily in the U.S. The Company’s contributions and costs under these plans were $13.2 million in 2019, $12.7 million in 2018, and $12.0 million in 2017. The contribution rate varies primarily based on Deere & Company’s performance in the prior year and employee participation in the plans.
Note 15. Stock Option and Restricted Stock Awards
Certain employees of the Company participate in Deere & Company share-based compensation plans. During 2019, 2018, and 2017, the total share-based compensation expense was $6.9 million, $7.9 million, and $6.4 million, respectively, with an income tax benefit recognized in net income of $1.7 million, $1.9 million, and $2.4 million, respectively. Further disclosure for these plans is included in the notes to the Deere & Company 2019 Annual Report on Form 10-K.
Note 16. Income Taxes
On December 22, 2017, the U.S. government enacted tax reform. The primary provisions of tax reform affecting the Company in 2018 were a reduction to the corporate income tax rate from 35 percent to 21 percent and a transition from a worldwide corporate tax system to a primarily territorial tax system. The reduction in the corporate income tax rate required the Company to remeasure its U.S. net deferred tax liabilities to the new corporate tax rate and the transition to a territorial tax system required payment of a one-time tax on the deemed repatriation of undistributed and previously untaxed non-U.S. earnings (repatriation tax). The repatriation tax was paid in 2019.
In 2019, the Company was subject to additional provisions of the U.S. tax reform legislation. The Company’s U.S. statutory corporate income tax rate was 21 percent and approximately 23.3 percent for 2019 and 2018, respectively. The main provisions of tax reform affecting the Company in 2019 include a tax on global intangible low-taxed income (GILTI), a tax determined by base erosion and anti-abuse tax benefits (BEAT) for certain payments between a U.S. corporation and foreign subsidiaries, a limitation on the deductibility of certain executive compensation, and interest expense limitations. The combined effect of these provisions did not have a significant effect on the 2019 provision for income taxes.
In 2019 and 2018, the Company recorded discrete tax adjustments related to the remeasurement of the Company’s net deferred tax liabilities to the new corporate income tax rate and for the repatriation tax. The income tax expense (benefit) for the net deferred tax liability remeasurement and the repatriation tax adjustments were as follows (in millions of dollars):
The repatriation tax expense is based on interpretations of existing laws, regulations, and certain assumptions. The Company continues to analyze the repatriation tax provisions, and monitor legislative and regulatory developments.
The provision (credit) for income taxes by taxing jurisdiction and by significant component consisted of the following (in millions of dollars):
The taxable income of the Company is included in the consolidated U.S. income tax return of Deere & Company. Under a tax sharing agreement with Deere & Company, the Company’s provision (credit) for income taxes is generally recorded as if Capital Corporation and each of its subsidiaries filed separate income tax returns, with a modification for realizability of certain tax benefits. The difference between the provision (credit) for income taxes recorded by the Company and the provision (credit) for income taxes calculated on an unmodified, separate return basis was not significant in 2019 or 2017.
In 2018, the Company recorded a tax benefit under the tax sharing agreement that was $19.0 million higher than an unmodified, separate return basis. The additional tax benefit was related to deductions that were included in the 2018 consolidated U.S. income tax return of Deere & Company at Deere & Company’s 2018 U.S. statutory income tax rate of 23.3 percent. On an unmodified, separate return basis, a net operating loss would have been generated and a deferred tax asset recorded in 2018 at a U.S. statutory income tax rate of 21 percent. The pro forma provision (credit) for income taxes and net income on this basis would have been as follows (in millions of dollars):
The amounts due from (payable to) Deere & Company under the tax sharing agreement at November 3, 2019 and October 28, 2018 were $(2.5) million and $439.1 million, respectively. The current year tax sharing payable is included in accounts payable and accrued expenses on the consolidated balance sheet. The prior year tax sharing receivable is included in other receivables on the consolidated balance sheet and was settled in November 2018.
A comparison of the statutory and effective income tax provision and reasons for related differences follows (in millions of dollars):
At November 3, 2019, accumulated earnings in certain subsidiaries outside the U.S. totaled $31.3 million. No provision for foreign withholding taxes has been made since these earnings are expected to remain indefinitely reinvested outside the U.S. Determination of the amount of foreign withholding tax liability on these unremitted earnings is not practicable.
Deferred income taxes arise because there are certain items that are treated differently for financial accounting than for income tax reporting purposes. An analysis of deferred income tax assets and liabilities at November 3, 2019 and October 28, 2018 was as follows (in millions of dollars):
At November 3, 2019, tax loss and tax credit carryforwards of $24.6 million were available, with $19.5 million expiring from 2020 through 2039 and $5.1 million with an indefinite carryforward period.
A reconciliation of the total amounts of unrecognized tax benefits at November 3, 2019, October 28, 2018, and October 29, 2017 was as follows (in millions of dollars):
The amount of unrecognized tax benefits at November 3, 2019 and October 28, 2018 that would affect the effective tax rate if the tax benefits were recognized was $17.6 million and $19.4 million, respectively. The remaining liability was related to tax positions for which there are offsetting tax receivables, or the uncertainty was only related to timing. The Company expects that any reasonably possible change in the amounts of unrecognized tax benefits in the next twelve months would not be significant.
The Company files its tax returns according to the tax laws of the jurisdictions in which it operates, which includes the U.S. federal jurisdiction, and various state and foreign jurisdictions. The Company is included in the consolidated U.S. income tax return and various state returns of Deere & Company. The U.S. Internal Revenue Service has completed the examination of Deere & Company’s federal income tax returns for periods prior to 2015. The years 2015, 2016, and 2017 federal income tax returns are currently under examination. Various state and foreign income tax returns also remain subject to examination by taxing authorities.
The Company’s policy is to recognize interest related to income taxes in interest expense and other income, and recognize penalties in administrative and operating expenses. During 2019, 2018, and 2017, the total amount of expense from interest and penalties was none, $1.8 million, and $.6 million, respectively. The total amount of income from interest and penalties was $5.3 million for 2019 and was not significant in 2018 and 2017. At November 3, 2019 and October 28, 2018, the liability for accrued interest and penalties totaled $14.1 million and $19.2 million, respectively.
Note 17. Other Income and Administrative and Operating Expenses
The major components of other income and administrative and operating expenses were as follows (in millions of dollars):
* During 2019, late fees of $24.5 million from customer retail notes were reclassified to finance income on the statement of consolidated income. Customer late fees of $22.2 million and $24.2 million were included in other income in 2018 and 2017, respectively.
Note 18. Cash Flow Information
For purposes of the statement of consolidated cash flows, the Company considers investments with purchased maturities of three months or less to be cash equivalents. Substantially all of the Company’s short-term borrowings, excluding the securitization borrowings and current maturities of long-term borrowings, mature or may require payment within three months or less.
The Company’s restricted cash held at November 3, 2019, October 28, 2018, October 29, 2017, and October 30, 2016 was $78.3 million, $103.4 million, $125.9 million and $143.9 million, respectively. The restricted cash primarily relates to the securitization of receivables and is reported in other assets on the consolidated balance sheet (see Note 6).
Cash payments by the Company for interest in 2019, 2018, and 2017 were $953.8 million, $751.9 million, and $531.7 million, respectively. Cash payments (receipts) for income taxes during these same periods were $(36.1) million, $268.4 million, and $48.5 million, respectively.
Note 19. Commitments and Contingencies
At November 3, 2019, John Deere Financial Inc., the John Deere finance subsidiary in Canada, had $1,367.9 million of medium-term notes outstanding, and a fair value liability of $21.9 million for derivatives outstanding, prior to considering applicable netting provisions, with a notional amount of $2,683.3 million that were guaranteed by Capital Corporation. The weighted average interest rate on the medium-term notes at November 3, 2019 was 2.7 percent with a maximum remaining maturity of approximately 7 years.
Capital Corporation has a variable interest in John Deere Canada Funding Inc. (JDCFI), a wholly-owned subsidiary of John Deere Financial Inc., which was created as a VIE to issue debt in public markets to fund the operations of affiliated companies in Canada. Capital Corporation has a variable interest in JDCFI because it provides guarantees for all debt issued by JDCFI, however it does not consolidate JDCFI because it does not have the power to direct the activities that most significantly impact JDCFI’s economic performance. Capital Corporation has no carrying value of assets or liabilities related to JDCFI. Its maximum exposure to loss is the amount of the debt issued by JDCFI and guaranteed by Capital Corporation, which was $1,671.9 million at November 3, 2019. The weighted average interest rate on the debt at November 3, 2019 was 2.3 percent with a maximum remaining maturity of approximately 4 years. No additional support beyond what was previously contractually required has been provided to JDCFI during the reporting periods.
The Company has commitments to extend credit to customers and John Deere dealers through lines of credit and other pre-approved credit arrangements. The Company applies the same credit policies and approval process for these commitments to extend credit as it does for its Receivables. Collateral is not required for these commitments, but if credit is extended, collateral may be required upon funding. The amount of unused commitments to extend credit to John Deere dealers was $7.7 billion at November 3, 2019. The amount of unused commitments to extend credit to customers was $28.0 billion at November 3, 2019. A significant portion of these commitments is not expected to be fully drawn upon; therefore, the total commitment amounts do not represent a future cash requirement. The Company generally has the right to unconditionally cancel, alter, or amend the terms of these commitments at any time. Over 95 percent of the unused commitments to extend credit to customers relate to revolving charge accounts. At November 3, 2019, Capital Corporation had $43.6 million in unused loan commitments denominated in rubles to Limited Liability Company John Deere Financial, the John Deere finance subsidiary in Russia.
At November 3, 2019, the Company had restricted other assets associated with borrowings related to securitizations (see Note 6). Excluding the securitization programs, the remaining balance of restricted other assets was not material as of November 3, 2019.
The Company is subject to various unresolved legal actions which arise in the normal course of its business, the most prevalent of which relate to retail credit matters. The Company believes the reasonably possible range of losses for these unresolved legal actions would not have a material effect on its consolidated financial statements.
Note 20. Other Comprehensive Income Items
The after-tax changes in accumulated other comprehensive income (loss) were as follows (in millions of dollars):
Following are amounts recorded in and reclassifications out of other comprehensive income (loss) and the income tax effects (in millions of dollars):
Note 21. Fair Value Measurements
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. To determine fair value, the Company uses various methods including market and income approaches. The Company utilizes valuation models and techniques that maximize the use of observable inputs. The models are industry-standard models that consider various assumptions including time values and yield curves as well as other economic measures. These valuation techniques are consistently applied.
Level 1 measurements consist of quoted prices in active markets for identical assets or liabilities. Level 2 measurements include significant other observable inputs such as quoted prices for similar assets or liabilities in active markets; identical assets or liabilities in inactive markets; observable inputs such as interest rates and yield curves; and other market-corroborated inputs. Level 3 measurements include significant unobservable inputs.
The fair values of financial instruments that do not approximate the carrying values at November 3, 2019 and October 28, 2018 were as follows (in millions of dollars):
*    Fair value measurements above were Level 3 for all Receivables and Level 2 for all borrowings.
Fair values of Receivables that were issued long-term were based on the discounted values of their related cash flows at interest rates currently being offered by the Company for similar Receivables. The fair values of the remaining Receivables approximated the carrying amounts.
Fair values of long-term borrowings and short-term securitization borrowings were based on current market quotes for identical or similar borrowings and credit risk or on the discounted values of their related cash flows at current market interest rates. Certain long-term borrowings have been swapped to current variable interest rates. The carrying values of these long-term borrowings include adjustments related to fair value hedges.
Assets and liabilities measured at November 3, 2019 and October 28, 2018 at fair value as Level 2 measurements on a recurring basis were as follows (in millions of dollars):
*    Excluded from this table are the Company’s cash equivalents, which were carried at cost that approximates fair value. The cash equivalents consist primarily of time deposits and money market funds.
The international debt securities mature within one year or less. At November 3, 2019, the amortized cost basis and fair value of these available-for-sale debt securities were $5.9 million and $3.2 million, respectively.
Fair value, nonrecurring, Level 3 measurements from impairments at November 3, 2019, October 28, 2018, and October 29, 2017 were as follows (in millions of dollars):
*    See Receivables with specific allowances in Note 5 that were not significant. See Note 7 for impairments on lease residual values.
The following is a description of the valuation methodologies the Company uses to measure certain financial instruments on the balance sheet at fair value:
Marketable securities - The international debt securities were valued using quoted prices for identical assets in inactive markets.
Derivatives - The Company’s derivative financial instruments consist of interest rate swaps and caps, foreign currency forwards and swaps, and cross-currency interest rate swaps. The portfolio is valued based on an income approach (discounted cash flow) using market observable inputs, including swap curves and both forward and spot exchange rates for currencies.
Receivables - Specific reserve impairments are based on the fair value of the collateral, which is measured using a market approach (appraisal values or realizable values). Inputs include a selection of realizable values.
Equipment on operating leases - net - The impairments are based on an income approach (discounted cash flow), using the contractual payments, plus an estimate of equipment sale price at lease maturity. Inputs include realized sales values.
Other assets - Impairments are based on the fair value of the matured operating lease inventory, which is measured using a market approach. Inputs include realized sales values.
Note 22. Derivative Instruments
Cash Flow Hedges
Certain interest rate contracts (swaps) were designated as hedges of future cash flows from borrowings. The total notional amounts of the receive-variable/pay-fixed interest rate contracts at November 3, 2019 and October 28, 2018 were $3,150.0 million and $3,050.0 million, respectively. Fair value gains or losses on these cash flow hedges were recorded in OCI and subsequently reclassified into interest expense in the same periods during which the hedged transactions impacted earnings. These amounts offset the effects of interest rate changes on the related borrowings. The cash flows from these contracts were recorded in operating activities in the statement of consolidated cash flows.
The amount of loss recorded in OCI at November 3, 2019 that is expected to be reclassified to interest expense in the next twelve months if interest rates remain unchanged is approximately $6.2 million after-tax. There were no gains or losses reclassified from OCI to earnings based on the probability that the original forecasted transaction would not occur.
Fair Value Hedges
Certain interest rate contracts (swaps) were designated as fair value hedges of borrowings. The total notional amounts of the receive-fixed/pay-variable interest rate contracts at November 3, 2019 and October 28, 2018 were $8,336.9 million and $8,096.6 million, respectively. The fair value gains or losses on these contracts were generally offset by fair value gains or losses on the hedged items (fixed-rate borrowings) with both items recorded in interest expense.
The amounts recorded, at November 3, 2019, in the consolidated balance sheet related to borrowings designated in fair value hedging relationships were as follows (in millions of dollars):
Derivatives Not Designated as Hedging Instruments
The Company has certain interest rate contracts (swaps and caps), foreign exchange contracts (forwards and swaps), and cross-currency interest rate contracts (swaps), which were not formally designated as hedges. These derivatives were held as economic hedges for underlying interest rate or foreign currency exposures primarily for certain borrowings. The total notional amounts of the interest rate swaps at November 3, 2019 and October 28, 2018 were $2,312.4 million and $1,899.6 million, the foreign exchange contracts were $691.6 million and $1,564.3 million, and the cross-currency interest rate contracts were $91.1 million and $71.8 million, respectively. To facilitate borrowings through securitization of retail notes, interest rate caps were sold with notional amounts of $1,611.3 million and $1,519.1 million at November 3, 2019 and October 28, 2018, respectively. Interest rate caps were also purchased with notional amounts of $1,611.3 million and $1,519.1 million at the same dates. The fair value gains or losses from the interest rate contracts were recognized currently in interest expense and the gains or losses from foreign exchange contracts in administrative and operating expenses, generally offsetting over time the expenses on the exposures being hedged. The cash flows from these non-designated contracts were recorded in operating activities in the statement of consolidated cash flows.
Fair values of derivative instruments in the consolidated balance sheet at November 3, 2019 and October 28, 2018 were as follows (in millions of dollars):
The classification and gains (losses) including accrued interest expense related to derivative instruments on the statement of consolidated income consisted of the following (in millions of dollars):
*     Includes interest and foreign exchange gains (losses) from cross-currency interest rate contracts.
Included in the table above are interest expense and administrative and operating expense amounts the Company incurred on derivatives transacted with John Deere. The amounts the Company recognized on these affiliate party transactions were a gain of $561.9 million during 2019 and losses of $281.1 million and $201.0 million during 2018 and 2017, respectively.
Counterparty Risk and Collateral
Derivative instruments are subject to significant concentrations of credit risk to the banking sector. The Company manages individual unrelated external counterparty exposure by setting limits that consider the credit rating of the unrelated external counterparty, the credit default swap spread of the counterparty, and other financial commitments and exposures between the Company and the unrelated external counterparty banks. All interest rate derivatives are transacted under International Swaps and Derivatives Association (ISDA) documentation. Each master agreement executed with an unrelated external counterparty permits the net settlement of amounts owed in the event of default or termination.
The Company’s outstanding derivatives have been transacted with both unrelated external counterparties and with John Deere. For derivatives transacted with John Deere, the Company utilizes a centralized hedging structure in which John Deere enters into a derivative transaction with an unrelated external counterparty and simultaneously enters into a derivative transaction with the Company. Except for collateral provisions, the terms of the transaction between the Company and John Deere are identical to the terms of the transaction between John Deere and its unrelated external counterparty.
Certain of the Company’s derivative agreements executed directly with unrelated external counterparties contain credit support provisions that may require the Company to post collateral based on the size of the net liability positions and credit ratings. At November 3, 2019 and October 28, 2018, there were no aggregate liability positions for derivatives with credit-risk-related contingent features. If certain of the credit-risk-related contingent features were triggered, the Company would be required to post collateral up to an amount equal to any liability position, prior to considering applicable netting provisions.
The Company also has ISDA agreements with John Deere that permit the net settlement of amounts owed between counterparties in the event of early termination. In addition, the Company has a loss sharing agreement with John Deere in which it has agreed to absorb any losses and expenses John Deere incurs if an unrelated external counterparty fails to meet its obligations on a derivative transaction that John Deere entered into to manage exposures of the Company. The
loss sharing agreement did not increase the maximum amount of loss that the Company would incur, after considering collateral received and netting arrangements, as of November 3, 2019 and October 28, 2018.
Derivatives are recorded without offsetting for netting arrangements or collateral. The impact on the derivative assets and liabilities for external derivatives and those with John Deere related to netting arrangements and any collateral received or paid were as follows (in millions of dollars):
Note 23. Voluntary Employee Separation Programs
During 2019 and 2017, the Company incurred voluntary employee-separation program expenses as part of its efforts to reduce operating costs. The programs provided cash payments based on years of service. The expenses for both years were recorded in the periods the employees irrevocably accepted the separation offer. The programs’ total pretax expenses in 2019 and 2017 were $8.4 million and $8.2 million, respectively. The expenses were recorded in administrative and operating expenses. The Company did not offer a similar program in 2018.
Note 24. Geographic Area Information
Based on the way the operations are managed and evaluated by management and materiality considerations, the Company is viewed as one operating segment. However, geographic area information for revenues and Receivables attributed to the U.S. and countries outside the U.S. is disclosed below. No individual foreign country’s revenues or Receivables were material for disclosure purposes.
Geographic area information as of and for the years ended November 3, 2019, October 28, 2018, and October 29, 2017 is presented below (in millions of dollars):
Note 25. Unconsolidated Affiliated Company
The Company’s investment in an unconsolidated affiliated company consists of a 50% ownership in John Deere Financial S.A.S., a joint venture in France that primarily offers lease financing to customers. The Company does not control the joint venture and accounts for its investment in the joint venture on the equity basis. The Company’s share of the income or loss of this joint venture is reported in the consolidated income statement under “Equity in income of unconsolidated affiliate.” The investment in this joint venture is reported in the consolidated balance sheet under “Investment in unconsolidated affiliate.”
Summarized financial information of the unconsolidated affiliated company for the years ended November 3, 2019, October 28, 2018, and October 29, 2017 was as follows (in millions of dollars):
Note 26. Supplemental Information (Unaudited)
Quarterly Information
The Company uses a 52/53 week fiscal year ending on the last Sunday in the reporting period (see Note 1). Fiscal year 2019 contained 53 weeks and the fourth quarter contained 14 weeks compared to 52 weeks and 13 weeks in the respective periods in 2018. The interim periods (quarters) end in January, April, and July. Supplemental quarterly information for the Company follows (in millions of dollars):
Note 27. Subsequent Events
In November 2019, the Company entered into a retail note securitization using its bank conduit facility that resulted in securitization borrowings of approximately $759.6 million.
In December 2019, Capital Corporation paid a $125.0 million dividend to JDFS. JDFS, in turn, paid a $125.0 million dividend to Deere & Company.
Index to Exhibits
10.6
Asset Purchase Agreement dated October 29, 2001 between Deere & Company and Deere Capital, Inc. concerning the sale of trade receivables (Exhibit 10.19 to Form 10-K of Deere & Company for the year ended October 31, 2001, Securities and Exchange Commission File No. 1-4121*)
10.7
Asset Purchase Agreement dated October 29, 2001 between John Deere Construction & Forestry Company and Deere Capital, Inc. concerning the sale of trade receivables (Exhibit 10.20 to Form 10-K of Deere & Company for the year ended October 31, 2001, Securities and Exchange Commission File No. 1-4121*)
10.8
Factoring Agreement dated September 20, 2002 between John Deere Bank S.A. (as successor in interest to John Deere Finance S.A.) and John Deere Vertrieb, a branch of Deere & Company, concerning the sale of trade receivables (Exhibit 10.21 to the Form 10-K of Deere & Company for the year ended October 31, 2002, Securities and Exchange Commission file number 1-4121*)
10.9
Receivables Purchase Agreement dated August 23, 2002 between John Deere Bank S.A. (as successor in interest to John Deere Finance S.A.) and John Deere Limited (Scotland) concerning the sale of trade receivables (Exhibit 10.22 to the Form 10-K of Deere & Company for the year ended October 31, 2002, Securities and Exchange Commission file number 1-4121*)
10.10
2023 Credit Agreement among the registrant, Deere & Company, John Deere Bank S.A., various financial institutions, JPMorgan Chase Bank, N.A., as administrative agent, Citibank, N.A., as documentation agent, and Bank of America, N.A., as syndication agent, dated April 1, 2019 (Exhibit 10.1 to Form 10-Q of the registrant for the quarter ended April 28, 2019, Securities and Exchange Commission File No. 1-6458*)
10.11
2024 Credit Agreement among the registrant, Deere & Company, John Deere Bank S.A., various financial institutions, JPMorgan Chase Bank, N.A., as administrative agent, Citibank, N.A., as documentation agent, and Bank of America, N.A., as syndication agent, dated April 1, 2019 (Exhibit 10.2 to Form 10-Q of the registrant for the quarter ended April 28, 2019, Securities and Exchange Commission File No. 1-6458*)
21.
Omitted pursuant to instruction I(2)
23.
Consent of Deloitte & Touche LLP
24.
Power of Attorney (included on signature page)
31.1
Rule 13a-14(a)/15d-14(a) Certification
31.2
Rule 13a-14(a)/15d-14(a) Certification
32.
Section 1350 Certifications
99.
Item 1A of the Deere & Company Form 10-K for the fiscal year ended November 3, 2019 (Securities and Exchange Commission file number 1-4121*)
101.SCH
Inline XBRL Taxonomy Extension Schema Document
101.CAL
Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF
Inline XBRL Taxonomy Extension Definition Linkbase Document
101.LAB
Inline XBRL Taxonomy Extension Label Linkbase Document
101.PRE
Inline XBRL Taxonomy Extension Presentation Linkbase Document
Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)
*
Incorporated by reference. Copies of these exhibits are available from the Company upon request.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Date:December 19, 2019
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the date indicated.
Each person signing below also hereby appoints John C. May, Ryan D. Campbell, and Todd E. Davies, and each of them singly, his or her lawful attorney-in-fact with full power to execute and file any and all amendments to this report together with exhibits thereto and generally to do all such things as such attorney-in-fact may deem appropriate to enable John Deere Capital Corporation to comply with the provisions of the Securities Exchange Act of 1934 and all requirements of the Securities and Exchange Commission.