CAT on a Hot Tin Roof

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Much like Maggie in Tennessee Williams’ classic stage play, Caterpillar (NYSE: CAT) has been trying to keep its footing on a foundation that's become increasingly precarious. As the company heads into earnings season, investors are accordingly more skeptical of its ability to remain upright than at any other time in its history.

Before second-quarter results are announced July 24, a SWOT analysis — examining the company's strengths, weaknesses, opportunities and threats — helps paint a clearer picture of how CAT performed during the first half of 2013 and where it might be headed going forward.

Strengths

Dominance in the marketplace

It’s difficult to remember a time when Caterpillar wasn't the global leader in overall heavy equipment sales and a top player in most critical categories. From bulldozers to excavators to mining trucks, CAT literally covers construction and mining industry needs from top to bottom. Komatsu (NASDAQOTH: KMTUY) is its main competitor in the excavation space, while Joy Global (NYSE: JOY) plays a similar role in mining. But neither equals CAT’s appeal worldwide, built by delivering top-notch products and unequaled service over the years.

Forward-looking technology

Among other things, CAT has been particularly aggressive in the nascent move toward liquid natural gas-powered heavy equipment. Last fall it displayed three upcoming LNG off-highway mining trucks and announced full-scale development of other new gas products ranging from giant haul trucks to railroad locomotive engines. It is also developing engine retrofit kits for the conversion of existing diesel-powered oil rigs.

Weaknesses

Troubles in Europe  

Ongoing economic problems in the Eurozone have increasingly weighed on CAT’s overall performance. During the first half of 2013 sales in Europe, Africa and the Middle East fell behind comparable periods last year, with a low point being March’s 8% year-over-year decline. While the rate slowed to 2% in May, hopes remain dim for a real construction turnaround or renewed commodities demand. This continues to hurt the two largest segments of CAT’s business. Joy Global has also been hit hard because the commodity issues impact mining activity worldwide, but Komatsu hasn't suffered as much because it has less exposure to the region.

Dealers cutting inventory

For several quarters, CAT dealers worldwide have responded to softening conditions by cutting orders below end user demand in an attempt to reduce inventory. While expected to continue, the company said this practice has in fact accelerated — with inventories decreasing by about $700 million in the first quarter of 2013 alone. (By comparison, inventories increased by $875 million in the first quarter of 2012.) More than one-third of CAT’s $2.8 billion year over year first quarter machinery sales decline was attributed to this de-stocking.

Opportunities

Latin American strength

Geographically, this region is topping everything for CAT right now. Aided in part by construction activity in Brazil ahead of the 2014 World Cup and 2016 Summer Olympics, sales have actually picked up here this year after a strong 2012 and were up 22% in May after increases of 28% in April and 12% in March.

Rising construction activity

If there is any product segment offering the potential for good news, it is construction. Although still pressured globally by European problems, sales in this category are continuing to grow in Latin America, improving in China, and accelerating in North America after a dip earlier in the year. And while CAT construction sales did record a 17% year-over-year decline in the first quarter of 2013, the segment was still the company’s best performing. Competitor Komatsu similarly cited construction strength, particularly in the U.S., in projecting a significant rise in profits for 2013. 

Threats

Mining malaise continues

Mining comprises about one-third of CAT’s total sales, and the industry’s retrenchment in the face of falling commodity prices has taken a big toll. In its first quarter earnings call the company said it expects 2013 mining machinery sales to decline about 50% year-over-year, and it revised this year’s overall sales and profit guidance downward because of it. Further, recent news from Joy Global offers no reason to expect a quick rebound. That company’s second-quarter results, released in late May, noted mining sales dropped more than 8% over the same period in 2012 — marking their fifth straight quarterly decline — and Joy subsequently cut its earnings outlook for 2013 because it saw the decline continuing.

Slowdown in China

Weaker than expected economic news out of China has hit CAT in several ways. The country eased up on coal mining operations, which hurt sales of the company’s branded products as well as those it produces in several domestic joint ventures. Joy Global is also suffering, as demand for Chinese imports of commodities such as copper and iron ore weakened and impacted global production. And with construction slowing here as well, Komatsu — China’s heavy equipment sales leader — has been hurt even more than other international players and earlier this year reduced its 2013 revenue and profit guidance largely because of it.

The bottom line

Caterpillar remains the world leader in heavy equipment sales and is working hard to position itself for recovery in key industries. This includes cutting costs and adjusting production to meet demand, as evidenced on June 23 when it announced a layoff of unknown length for approximately 260 workers and other measures at its Milwaukee-area plants.

Overall sales have been weak since late last year, though, and through May show no signs of significant recovery. Until such evidence emerges, we remain bearish on CAT and its peers.

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Howard Rothman 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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