Three Reasons to Buy Caterpillar

Andrés is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Shares of Caterpillar (NYSE: CAT) had a lackluster year in 2012, mostly due to investor's concerns about the slowing Chinese economy and its possible effects on the demand for heavy infrastructure equipment manufactured by the company.  But things are looking much better in 2013, so maybe it's time to grab some Caterpillar shares while they are still available for a cheap price.

1. Chinese recovery

The slowdown in China was one of the biggest economic stories of 2012, but the Asian giant seems to be leaving economic weakness behind, as recent data has been showing very encouraging signs over the last several months.  The recently published HSBC Chinese purchasing managers' index, or PMI, was the latest data point supporting the acceleration thesis by rising to a 19-month high of 51.5 in December.

Even better, a new $157 billion infrastructure plan announced last year will have positive effects for the company in 2013. When the plan was announced in September, Richard Lavin, who oversees Caterpillar's China business, told Reuters:

"Roads, bridges, airports, sewage systems, energy - all of these are areas that we play in, it's the core of our business. I think we can expect a fairly broad and significant impact across our business."

The Chinese slowdown, which was a serious concern for Caterpillar investors in 2012,  is already becoming a thing of the past, and the new infrastructure plan will not only provide more impulse for the economy, it will also be a big tailwind for the company's business in the country.

2. US construction rebound

Caterpillar has an undisputed leadership position in the US construction machinery industry; its extensive national dealer network and reputation for quality are key competitive advantages in an industry in which avoiding downtime and other complications is a critical factor.

Construction has taken a big hit after the credit crisis in 2008-2008, but has now definitely reached a bottom and has plenty of upside room in the middle and long term. As we can see from the chart published by the Federal Reserve Bank of St. Louis, construction moves in long term cycles, and current levels are still historically low, so Caterpillar should be a clear beneficiary from higher construction demand over the next years.

<img src="/media/images/user_1532/construction_large.png" />

 3. Fair valuation

When compared against other companies in the same industry like Deere (NYSE: DE), CNH (NYSE: CNH) and Joy Global (NYSE: JOY), Caterpillar trades at a similar P/E ratio to that of its competitors, barely below 10. But it has the highest expected growth rate in the group with an average expected increase of 14% annually in earnings per share over the next five years. This produces the lowest PEG ratio – P/E adjusted by growth expectations – in the group at 0.7.

<img src="/media/images/user_1532/valuation_2_large.png" />

From a historical perspective, the current P/E ratio looks fairly cheap too.  Except for the last recession, the stock has usually traded at higher valuation multiples.

<img src="/media/images/user_1532/cat_pe_large.png" />

Bottom line

Because of its exposure to the Chinese recovery, a dominant position in the US construction business and a fairly attractive valuation, Caterpillar looks ready to dig out some profits for your portfolio in the middle term.


acardenal owns shares of Caterpillar. The Motley Fool owns shares of Joy Global. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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