Caterpillar Shares Up on Healthy Earnings Beat - Analyst Blog

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Caterpillar Inc. ( CAT ) started the year with a bang by announcing a 22% increase in its first-quarter 2014 earnings to reach $1.61 per share, trumping the Zacks Consensus Estimate of $1.25. Caterpillar shares went up 3.9% in pre-market trading as earnings surprised market expectations.

The company's incessant efforts to cut down costs and continued deployment of lean manufacturing initiatives, improvement in the Construction segment helped mitigate the effect of lower mining-related sales on its profits. The construction and mining equipment behemoth delivered the second quarter of positive earnings surprise following negative earnings surprises in four straight quarters.

The numbers outshone the 5.5% increase reported in the fourth quarter 2013, the only quarter to have recorded y-o-y growth last year. The company had last witnessed earnings growth in the double-digit range in the third quarter of 2012.

Including restructuring costs, earnings stood at $1.41 in the quarter, up 10% from $1.31 in the prior year.

Revenues Flat Due to Lower Mining Demand, Short of Zacks Estimates

Revenues, however, remained flat year over year at $13.2 billion in the quarter, falling short of the Zacks Consensus Estimate of $13.3 billion. Weaker results from the Resource Industries segment offset the improvement in Construction Industries and Energy & Transportation.

Lower end-user demand for mining equipment continued to affect volumes in Resource Industries, as customers trimmed their capital expenditures. Aftermarket parts sales also declined for mining, as some companies delayed maintenance and rebuild activities.

In the quarter, Caterpillar witnessed a 16% increase in sales in North America while sales in Europe, Africa and Middle East (EAME) were about flat. Latin America registered a 15% drop mainly due to lower end-user demand for mining equipment. Sales in Asia/Pacific declined 12% dragged down by lower mining sales in Australia. However, sales in China increased, particularly in Construction Industries, driven by increased dealer deliveries to end users and the favorable impact of dealer inventory changes.

Costs & Operating Profit

Cost of sales declined 2% to $9.4 billion in the quarter due to lower material costs and increased efficiencies resulting from higher production. Caterpillar's cost reduction measures led to a 7% decline in selling, general and administrative (SG&A) expenses to $1.3 billion while research and development (R&D) expenses were cut down10% to $508 million.

Adjusted operating profit was $2 billion, up 24% from an adjusted $1.6 billion in the first quarter of 2013. Benefits from lower manufacturing costs, decreased SG&A and R&D expenses and the favorable impact of currency (mostly due to the Japanese yen) led to the year-over-year improvement.

Segment Results

Machinery, Energy & Transportation Sales remained flat at $12.5 billion. Resource Industries' sales plunged 37% owing to lower end-user demand across all regions. Construction Industries' sales increased 20% driven by higher sales volume, partially offset by the unfavorable impact of currency and price realization, Energy & Transportation sales increased 8% due to higher sales into power generation, oil and gas and industrial applications. However, sales into transportation applications were about flat.

Machinery and Power System segment's operating profit increased 24% to $1.24 billion in the quarter. An impressive 202% increase in profits in the Construction Industries' segment (attributed to higher sales volume, lower manufacturing costs and favorable currency) and a 40% increase in the Energy & Transportation segment more than offset the 68% plunge in Resource Industries.

Financial Products' net revenues increased 3% to $748 million, driven by the positive impact of higher average earning assets in North America and EAME, partially offset by decreases in Asia/Pacific. Financial Products' profits decreased 12% to $240 million from $273 million in the first quarter of 2013.

The decrease was mainly due to the absence of the $45 million favorable reserve adjustments in the prior-year quarter at Insurance Services and a $17 million increase in the provision for credit losses at Cat Financial. However, these decreases were partially offset by a $13 million increase in gains on sales of securities at Insurance Services and a $10 million favorable impact from higher average earning assets..

Financial Position

Caterpillar ended the first quarter of 2014 with cash and short-term investments of $5.3 billion, down from $6.1 billion at 2013 end. Total debt-to-capital ratio was at 65% as of Mar 31, 2014 compared with 64% as of Dec 31, 2013. The debt-to-capital ratio at ME&T was 30.2% as of Mar 31, 2014 compared with 29.7% as of Dec 31, 2013.

Total cash flow from operating activities in the quarter was $1.9 billion compared with $1.4 billion in the prior-year quarter. Operating cash flow at Machinery, Energy & Transportation was $1.9 billion in the reported quarter, up from $1.1 billion in the prior-year quarter.

Caterpillar returned $2.1 billion to shareholders through dividend payments of $0.4 billion and share repurchases of $1.7 billion.


At the end of the quarter, Caterpillar's backlog was $19.3 billion, up $1.3 billion sequentially. The increase was noted in Energy & Transportation and concentrated in locomotives while backlog in Resource Industries and Construction Industries was relatively flat.

Outlook for 2014: Revenues Maintained, Earnings Increased

Caterpillar reiterated its 2014 revenue guidance at $56 billion, flat with 2013 levels. Revenues can, however, fluctuate up or down 5%. Excluding restructuring costs, earnings per share are now expected at $6.10, up from the prior forecast of $5.85 taking into account the upbeat Q1 numbers.

Segment-wise, Construction Industries' sales are projected to increase 10% year over year, up from the previous expectation of 5% growth. The sales growth expectation for Energy & Transportation remains unchanged at 5% year over year. However, sales in Resource Industries will continue to be a deterring factor due to sluggish order rates for mining equipment. Sales in the segment are expected to decline 20% year over year, worse than the previous guidance of a 10% drag.

Economic indicators have shown improvement in many countries, which point toward a rebound in the world economy. Caterpillar projects world economic growth to improve from 2% in 2013 to about 3% in 2014. However, lingering risks and uncertainties in Europe and China and heightened geo-political tensions in several developing regions, particularly Russia, Ukraine, Africa and the Middle East remain as concerns.

Our Take

The company's continued efforts to cut down costs helped mitigate the effect of lower mining-related sales on its profits. Caterpillar will benefit from an increased share in the Chinese excavator market, recovery in the U.S. construction sector, cost-saving programs and share repurchases. However, a muted mining capex continues to bother this mining equipment behemoth.

Peoria, IL-based Caterpillar Inc. is the manufacturer of construction and mining equipment, diesel and natural gas engines, and industrial gas turbines. The company is one of the few leading U.S. companies in an industry that competes globally from a principally domestic manufacturing base.

Caterpillar currently holds a Zacks Rank #3 (Hold). Some better-ranked stocks in the sector include Alamo Group, Inc. ( ALG ), Zebra Technologies Corp. ( ZBRA ) and Columbus McKinnon Corp. ( CMCO ). All of these stocks hold a Zacks Rank #2 (Buy).

ALAMO GROUP INC (ALG): Free Stock Analysis Report

CATERPILLAR INC (CAT): Free Stock Analysis Report

COLUMBUS MCKINN (CMCO): Free Stock Analysis Report

ZEBRA TECH CL A (ZBRA): Free Stock Analysis Report

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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