Caterpillar, Deere Incredible "Buys" Over Manitowoc

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

As the economy starts to recover from a challenging period of unemployment, don't expect construction & agricultural machinery companies to necessarily take off. Lower stimulus spending coupled with greater demand for other services will limit the upside. In any event, I still find Caterpillar (NYSE: CAT) and Deere (NYSE: DE) to be substantially undervalued. Manitowoc (NYSE: MTW), on the other hand, is fairly expensive. Below, I review the fundamentals of each company.


Caterpillar trades at a respective 9.5x and 8.1x past and forward earnings with a dividend yield of 2.4%. It is currently 85% more volatile than the broader market but has a strong margin of safety given that the PEG ratio currently stands at only 0.55, which indicates that future growth has come nowhere close to being fully factored into the stock price.

In fact, the company is forecasted for 17.5% annual EPS growth over the next 5 years. This compares to 7.4% over the past 5 years. Assuming analyst expectations are accurate, Caterpillar has a target price of $107.74.  It is therefore both a value and a growth play.

Any investment strategy should consider the degree of risk and not just upside. Fortunately, Caterpillar has a top economic moat and has consistently beat expectations over all of the last four quarters by an average of nearly 20%. Earnings have been, as a whole, on the upward trend from $1.15 in 2002 to $7.40 in 2011. I thus strongly recommend buying shares to capitalize on the exceptionally low multiple valuation (5-year historical average PE multiple is 16.8x), impressive fundamentals, and attractive trajectory.


Deere trades at a respective 10x and 9x past and forward earnings with a dividend yield of 2.5%. It has a target price of $85.82, which is at less than a 15% premium to the current market value. This means that the firm does not offer that strong of a margin of safety (25% discount at a minimum is needed for a firm to be significantly undervalued).

With that said, I think the firm is well positioned to close whatever discount it has to intrinsic value. Free cash flow for the TTM ending April 30, 2012 was $1.1B versus $1B for April 30, 2011 and $3.4B for April 30, 2010. The company is highly volatile and this has uncertainty has led to an irrational risk discounting. Improvements to the global economy (I believe the market is factoring in macro trends that are too pessimistic) will drive appreciation in the near-term. Perhaps this will come most quickly through the market correcting the overly high premium that Manitowoc receives against peers.


Manitowoc trades at a respective 20.4x and 9.1x past and forward earnings with a dividend yield of 0.6%. Over the past 5 years, EPS has declined by 30% annually. Free cash flow has been on a precipitous decline with the TTM ending 2Q12 being $14.8M versus $283M in 2Q08. Profit margins have trended nowhere, which limits the firm's ability to maximize economic returns from expansion.

Due to this level of uncertainty, the stock is even more speculative than Deere. It is 212% more volatile than the broader market. At the same time, the PEG ratio stands at 1.36 - indicating that future growth has been more than factored into the stock price. Since growth is uncertain and not even enough to fully justify the current valuation, I recommend holding out and buying shares in Deere and Caterpillar.

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