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Caterpillar Posts Decent Second-Quarter Results, Makes Cautionary Statements on China

publication date: Jul 23, 2011
author/source: Valuentum Analysts

Caterpillar (CAT) reported decent results Friday that showed strong growth in revenue and earnings, but also revealed cost pressures inherent in its business.

During the quarter, sales jumped roughly 37% thanks primarily to recent acquisitions, while profits expanded 44% from the same period a year-ago. Though we are pleased with Caterpillar’s top line performance, management noted that cost pressures continue to intensify, specifically freight and material costs (steel, etc.) as well as investments in R&D and capacity. Further, the firm noted that its recent acquisition of Bucyrus will negatively impact full year profit by $0.50 per share as a result of upfront dealer-related integration costs, a stiff headwind.

We’re also somewhat puzzled by management’s comments regarding China in its press release, as it tried to assure investors that China continues to be a growth engine. We’ve taken this as a given, but management indicated that it has seen some softening growth in China, despite dealer deliveries to end users advancing at a faster rate than the industry in the region. The firm also noted that the political environment remains challenging in the US (“lack of clarity on the U.S. deficit reduction”), suggesting that such an environment is not providing its customers with the confidence to invest. We think such statements could either be interpreted as management attempting to temper the street’s forward estimates, or setting the table for a disappointment down the road. Excluding Bucyrus, the firm raised its 2011 profit outlook to the range of $6.75 to $7.25 per share versus $6.25 to $6.75 per share previously.

In all, we remain mildly bullish on Caterpillar’s shares, though we think there are cleaner names in the industrial arena. We think its acquisition of Bucyrus still makes sense, given its exposure to mining and the firm’s complementary product suite, but we remain on the sidelines given ongoing integration risks and management’s cautionary comments. We’d look for an entry point under $85 per share, which represents an appropriate margin of safety in our opinion.

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