[The 2Q11 earnings report caused a 6% selloff on Friday; however, management says CAT will earn $8-10/sh in 2012 (#msg-61382709), which implies a forward P/E of about 12x. CAT is a somewhat different company following the acquisition of BUCY, arguably even more of a “cyclical” than it was before (#msg-64897811); whether this is a good thing or a bad thing depends on one’s prognosis for the global economy.]
›Though higher expenses hurt quarterly earnings, the construction-equipment company's stock can scratch out gains…
JULY 22, 2011 By MIRIAM GOTTFRIED
Higher expenses may have dug into Caterpillar's second-quarter profit, but we expect that the construction-equipment company's investments will pay off longer term.
Caterpillar (ticker: CAT) reported a 44% increase in quarterly earnings this morning. But despite strong revenue growth, earnings fell short of generally bullish analyst expectations as costs related to rapidly rising sales of construction machinery and engines pressured margins.
Caterpillar shares were down 5.7% at $105.21 in midday trading.
We would take the opportunity to buy shares. Caterpillar's higher costs this quarter are a reflection of stronger demand for its products. The company has been hiring workers and adding new assembly lines throughout the world. Its acquisition earlier this month of mining-equipment maker Bucyrus International[#msg-65020042] should give it additional exposure to mining activity in fast-growing emerging markets.
Management has said it is committed to keeping expenses under control and raised revenue and per-share earnings forecasts for the year[see below].
And shares now trade at under 12 times expected 2012 earnings and offer a 1.7% dividend yield. Earnings are projected to grow by 21.5% in the next five years.
"We see an extended period of gains, as construction eventually revives in developed economies, and activity likely remains strong in emerging nations and Caterpillar's mining business," wrote Michael Jaffe, an analyst with Standard & Poor's, in a research note.
Jaffe rates Caterpillar at Buy with a $142 price target.
Caterpillar reported earnings of $1.02 billion, or $1.52 a share, up from $707 million, or $1.09 a share, a year earlier. Excluding expenses related to its $8.8 billion acquisition of Bucyrus, earnings totaled $1.72 a share. Revenue surged 37% to $14.23 billion.[2Q11 revenue does not include any contribution from BUCY insofar as the merger closed in July; however, 2Q11 expenses include some items related to the merger.] Analysts polled by Thomson Reuters were expecting earnings of $1.75 a share on revenue of $13.5 billion.
Caterpillar increased its earnings forecast for the full year by 25 cents to $6.75 to $7.25 per share[actually, the increase was $0.50 from the old range of $6.25-6.75; the new $6.75-7.25 excludes costs relating to BUCY]and its revenue forecast by $2 billion to a range of $54 billion to $56 billion[excluding ~$2B from BUCY in 2H11] based on higher sales volume.
The company expects Bucyrus to add $2 billion in revenue on top of its 2011 estimate, though it estimates the acquisition will trim 50 cents a share from earnings.[BUCY is expected to become strongly accretive to EPS in due course, adding at least $1B to the bottom line in 2015.]
To be sure, Caterpillar is seeing signs of slowing in China, with sales of wheel loaders and hydraulic excavators (two key products for the region) falling year over year in recent months. Analysts worry that continued government price-cooling actions could lead to further weak sales of construction equipment.
"This region represents less than 10% of Cat's total revenue, but with the recent addition of Bucyrus, the company is highly leveraged to mined commodity prices," wrote Adam Fleck, an analyst with Morningstar. "A sharp slowdown in China would probably lead to sharply lower commodity prices, given that the country is the largest consumer of products such as iron ore, copper, and coal."
Higher costs related to the integration of Bucyrus and the ramp up in volumes are also concerns for the company. Second-quarter manufacturing costs rose by $364 million from a year ago, mostly because of higher expenses for materials, freight and wages. Selling and administrative costs increased by $239 million.
Still, says Fleck, Caterpillar's overall financial health remains strong.
"Largely thanks to decreased inventories, Cat has generated more than $3 billion of free cash flow in its machine and engine business, or 12% of sales, he wrote. "While increased capital expenditures over the back half of 2011 will probably eat into this figure, we believe the firm remains financially quite healthy."
Investors looking to profit off a global rebound in construction should see today's mixed news as an opportunity to shovel shares of Caterpillar into their portfolios.‹
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