Caterpillar Is Not a Lost Cause

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

Caterpillar (NYSE: CAT) is down 4.42% on its price since the start of this year due to a 51% decline in sales, with sales in China down by 47% year-over-year. As Jim Chanos recently issued warnings about Caterpillar’s drop in earnings as it invests in mining in the U.S for the future, I dug a little deeper. On July 24, the company is rolling out its second quarter earnings, while at the same time 260 employees in Milwaukee as also being laid-off indefinitely due to lack of demand in the mining sector. Interestingly enough, the monthly U.S. stock piles of coal at electric power plants are below the monthly 5 year average for the first time since December 2011. This comes as good news for the mining industry since gas prices are continuing to increase, causing producers to shift back to coal.

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At the same time, U.S. coal production is expected to remain flat since U.S. exports of coal are falling faster than the domestic stockpiles. The Energy Information Administration anticipates a 3% annual rise in 2014. While this is not spectacular news for Caterpillar, it certainly does not warrant a massive loss of confidence in the company – especially when you realize that in the company's 88 years of business an annual loss has been recorded only 16 times.

Caterpillar’s Chinese endeavors are well covered, be it the write-down it took of acquisitions or the decline in sales. However, earlier in the year, Caterpillar opened a new power train manufacturing facility and completed the expansion of a hydraulic cylinder manufacturing facility in Wuxi, China. On the surface of it, this looks to be a dead investment, but in reality such infrastructure build up is putting Caterpillar at the pole position to lead capital gains once the macroeconomic growth prospects look up. Here’s why:

<table> <thead> <tr><th> <p><strong>Indicator</strong></p> </th><th> <p><strong>Caterpillar</strong></p> </th><th> <p><strong>Komatsu</strong></p> </th><th> <p><strong>Joy Global</strong></p> </th></tr> </thead> <tbody> <tr> <td> <p><strong>P/E TTM</strong></p> </td> <td> <p>11.5</p> </td> <td> <p>18.2</p> </td> <td> <p>7.4</p> </td> </tr> <tr> <td> <p><strong>Forward P/E</strong></p> </td> <td> <p>9.2</p> </td> <td> <p>11.8</p> </td> <td> <p>6.7</p> </td> </tr> <tr> <td> <p><strong>PEG Ratio</strong></p> </td> <td> <p>2.0</p> </td> <td> <p>0.9</p> </td> <td> <p>3.6</p> </td> </tr> <tr> <td> <p><strong>Operating Margin % TTM</strong></p> </td> <td> <p>11.8</p> </td> <td> <p>11.2</p> </td> <td> <p>20.5</p> </td> </tr> <tr> <td> <p><strong>Dividend Yield</strong><strong>, %</strong></p> </td> <td> <p>2.52%</p> </td> <td> <p>2.12%</p> </td> <td> <p>1.39%</p> </td> </tr> <tr> <td> <p><strong>Current Price</strong></p> </td> <td> <p><strong>$85.45</strong></p> </td> <td> <p><strong>$24.03</strong></p> </td> <td> <p><strong>$50.27</strong></p> </td> </tr> </tbody> </table>

Caterpillar’s global competitors include Komatsu (NASDAQOTH: KMTUY) and Joy Global (NYSE: JOY). The construction industry has an average P/E of 10.8, which makes Caterpillar and Komatsu overvalued, while Joy Global is undervalued. The Forward P/E ratio suggests Caterpillar and Joy Global will be undervalued, while Komatsu remains overvalued. Most importantly, the PEG ratio shows a better result for Caterpillar than it does for Joy Global. While Komatsu looks to have the fastest expected growth, its price still fails to justify the value provided to shareholders. Furthermore, Caterpillar also offers the highest yield and has raised its dividend by an average of more than 13% annually for the last 30 years.

Quid Pro Quo

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CAT data by YCharts

Caterpillar’s performance over the last year has been less than fantastic. Buying up Caterpillar today for a better return tomorrow is a gamble, but the fundamentals and history all back up the fact that it will pay off. Furthermore, Caterpillar is screamingly close the bottom end of its 52-week range which diminishes the downside even more. With a five-year growth forecast at 4.5%, buy Caterpillar.

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Awais Malik has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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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