Caterpillar: Tackling the Competition and Beating Expectations

The theme of Caterpillar’s (NYSE:CAT) fourth-quarter is one of recovery and of growing strength. Chair Chief Executive Officer Doug Oberhelman told shareholders in the quarterly earnings press release on Monday that “in summary, 2013 was a very difficult year” for the company. But he tempered that pessimism by saying that, in many ways, it was also a “successful year” for Caterpillar — the world’s largest maker of mining and construction equipment. Strong results were returned by the company’s power systems and financial products segments, and Caterpillar ended the year with record operating cash flow, solid operational performance, and improvement in our market position.

More importantly for the company’s future growth, Oberhelman noted that Caterpillar was beginning to see “some signs of improvement in the world economy, which should be positive for sales” in its construction industries and power systems segments. Indeed, the World Bank expects the global economy to expand at a 3.2 percent rate in 2014, an increase from last year’s 2.4 percent rate.

Caterpillar’s fourth-quarter results reflected both the difficulties and the successes of 2013. Mining is the company’s most profitable product category, but after growing investor backlash over unpopular acquisitions, budget deficits, and falling metal prices, Caterpillar’s mining customers have been forced to cut capital spending, slow down or abandon projects, and postpone or cancel new orders. As a result, demand for mining equipment has dropped, leaving the company’s sales sluggish and its revenue declining quarter after quarter. Further, even though the global economy is expected to rebound this year, Oberhelman believes miners will continue to reduce capital expenditures this year.

Despite these headwinds, Caterpillar managed to beat Wall Street expectations for fourth-quarter results, and that is a success. In the previous several quarters, an earning pattern emerged, bulldozed into existence by the ongoing weak global economy that has quelled demand from the heavy equipment manufacturer’s mining customers; in each of the previous four quarters, it has badly missed consensus forecasts for earnings, and been forced to cut full-year forecasts. For a comparison, prior to those consecutive earnings misses, Caterpillar had only missed expectations three times in a period of 20 quarters. In the fourth-quarter, that pattern changed. While revenue fell 10 percent, year-over-year, to $14.4 billion, that figure surpassed the $13.6 billion sales estimate made by analysts from Thomson Reuters. Plus, Caterpillar recorded a fourth-quarter profit of $1 billion, or $1.54 a share, an increase from the $697 million, or $1.04 a share, reported in the fourth-quarter of 2012. Analysts had expected Caterpillar to post a profit of $1.28 per share.

“In such a challenging environment, I am proud of the way our employees came together in 2013,” said Oberhelman in the earnings press release. “Despite a sales and revenues decline of about $10 billion, we set a record for operating cash flow, strengthened our balance sheet and improved our overall market position for machines.”

The stronger-than-expected quarterly profit came as Caterpillar aggressively cut costs to offset the slow sales of its earth-moving equipment. “Given that a significant increase in mining sales was unlikely to occur in the short term, we turned our focus to structural cost reduction to help improve our long-term results,” said Oberhelman. We announced the closure of several small facilities and the downsizing of others. We are re-sourcing products to more cost effective locations and have reduced nearly 2,000 management and support positions.” However, he noted that those “structural actions” were not limited to mining; in 2013, the company announced its intentions to reduce costs and improve competitiveness at some of its European-based construction industries as well.

Another issue for Caterpillar in the near future is competition from General Electric’s (NYSE:GE) mining operations and Chinese rivals. Yet, Oberhelman told Bloomberg Television’s “In The Loop” Monday morning that Caterpillar was “tackling” the Chinese competition the “old fashioned Caterpillar way,” by offering quality products and service as well as the “lowest owning and operating costs” of any heavy equipment manufacturer. That method appears to have paid off; the company has improved market position for machines over the past three years. “In fact, total sales and revenues in China in 2013 were about $3.5 billion, up more than 20 percent from 2012,” stated the earnings press release.

Investors, who cautiously bid shares of Caterpillar up 4.61 percent in 2013, andvanced the stock as much as 6.6 percent to $91.90 early Monday morning. Their optimism was spurred not only by the top and bottom line beat, but by the company’s better-than-expected forecast for 2014. This year, Caterpillar estimates earnings per share of $5.85, excluding restructuring costs, which is 7 cents higher than analysts estimated ahead of Monday’s earnings report. Meanwhile, sales will total approximately $56 billion plus or minus 5 percent, with growth in the demand for bulldozers and excavators spurred by the recovering United States building industry.

In November, construction spending in the United States was the highest since March 2009, according to data from the Census Bureau, and analysts expect that both residential and non-residential construction in the United States will continue to improve in 2014. This revival has helped offset the slowing demand for mining equipment.

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