Caterpillar Moving Earth and the Dow
Peter is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
In these first few days of the current earnings season Wall St. was extremely dejected as misses outnumbered beats by a 3 to 1 margin, mainly due to the European debt crisis, slower growth in emerging markets and headwinds facing the U.S. Even the mighty Apple (NASDAQ: AAPL) missed expectations, which frankly had gotten even too lofty for Apple. That the very ethical sell-side analysts all missed Apple’s revenue figure by 10% for the quarter betrays just how far the major brokerage firms have fallen towards boiler room status. I keep waiting for Goldman-Sachs to just pull down the mask and reveal themselves to be J.T. Marlin. But, that crowd of vipers got an uplift thanks to a blockbuster report from Caterpillar (NYSE: CAT)that easily trumped the Street’s expectations.
You see? They’re not sinister pump and dumpers. No, they’re just incompetent.
CAT’s quarterly profit report beat the consensus, jumping 67% year over year. The world's largest maker of construction equipment also did something rare for this 2ndquarter; they raised guidance for 2012 earnings. Profit for the quarter ending June 30th was $1.67 billion compared with $1.02 billion a year earlier. Revenue for the period rose 21% to $17.37 billion.
Running Faster to Keep Up
Much of CAT’s revenue increase came from their customers finally replacing older equipment, purchases that were put off in the wake of the financial crisis. Their increased guidance tell us that they do not believe this effect is completely behind them, that this is not an isolated effect but rather a beginning of a new sales trend.
For construction equipment, operating profit surged 43% to $688 million. Regionally, their business was mixed; recording lower sales in Latin America and Asia and flat sales in Europe, Africa and the Middle East. But these were offset by a 42% increase in North America construction machinery sales. Acquisition of Bucyrus International last year helped the company to boost its operating profit by 79% for mining equipment. Caterpillar oil and gas production equipment saw strong demand, while its rail-locomotive unit, which competes with General Electric Co.’s (NYSE: GE) small electric-power generators weakened, partly due to Europe's slumping economy. GE is also pushing strongly into the mining equipment space and will likely emerge as a direct competitor to CAT over time.
While the U.S. is the only country where construction equipment sales actually grew, it is still well below its pre-recession peak. Despite slowdowns in China and Europe, there are companies who are betting on energy and commodity prices. This could be gathered from the fact sales of engines and generators, which are often deployed on oil rigs, having grown worldwide. The demand for food and energy commodities will be strong and results from Singapore’s Keppel Corp. the world’s largest builder of oil rigs were bullish for them, but those results only occur within the context of replacing existing reserves, not expanding production overall. Rising offshore rig count is a function of a greater portion of oil production moving offshore but the amount produced is not changing much.
Channel Stuffing or a Leading Indicator
CAT’s management believes in a strong 2nd half recovery of growth in China to explain away their uncomfortably large inventory in China due to the very real slow down that has occurred there. So, inventory won’t be sold at liquidation prices but neither will production be ramped up in anticipation of this rebound occurring. CAT was caught short the last time China eased monetary policy and could not meet demand losing market share and this is a mistake they do not want to repeat.
For investors, this upcoming quarter from CAT will be very telling for the global economy. At this point reliance on government statistics coming from the U.S., Europe or China have to be taken with a generous supply of salt. But, company earnings are the closest error check we have on them at this point. The farther the economy is distorted by the Zero Interest Rate Policies of the major central banks the more we have to rely on the performance of the bell weather company’s results to guide our investment decisions.
If CAT is holding this level of inventory in China at the end of Q3 then we have to make sure that jibes with the numbers coming out of China’s government.
Caterpillar is optimistic of Brazil's economy as it is already showing signs of improvement. U.S. spending on highways and a modest recovery in housing should help sales in its home market as well. But, if CAT is banking on a recovery in housing then they haven’t looked closely enough at the statistics. Foreclosures are rising again, more than 25% of all mortgages are under water and there is a 2-3 year supply of houses in realtor inventory.
Like many fundamentally sound companies operating in needed foundational industries, the long-term outlook is bullish but the near-term timing is very questionable. Staying cash-rich in a deflationary environment is sometimes the best value play of all. Trading at a multiple of 9.3 with a 2.6% dividend yield on strong guidance should put a strong bid under the stock while it waits for the first sign of good news and the general market moves higher.
PeterPham8 has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. 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.If you have questions about this post or the Fool’s blog network, click here for information.