CAT Continues to Conquer International Markets

For Au's preview heading into the Caterpillar conference call, please click here.

Caterpillar (CAT - commentary - Cramer's Take) reported second-quarter earnings of $1.74 a share on of $13.6 billion of sales, both well ahead of Street estimates. International markets were primarily responsible, particularly in the Asia Pacific, Russia and Latin America regions. International sales now account for 60% of the total vs. 55% only a year ago.

Stateside, the bad news is that construction machinery sales are falling sharply, but there are three offsets:

1. There is a much lower drawdown of dealer inventories now than in 2007, somewhat mitigating the impact of weak end-user demand.

2. Sales of mining equipment, especially coal, are largely compensating.

3. Shipments of transportation equipment are now picking up, after weakness earlier.

The company is now forecasting sales of over $50 billion for 2008 but more modest profit growth, to $6.00 a share, based on almost constant, not rapidly increasing margins. The company is also looking at weaker-than-expected European demand than before and continued weakness in North America and Japan. This seems to be true while raw material costs such as fuel and steel remain stubbornly high.

Caterpillar is producing "flat out" in certain lines of machinery, meaning that these would not benefit from stronger demand. Instead, the company will likely take advantage of a shift in production toward engines, which are not as vulnerable to cost pressures as machinery. (The company is also trying to do a better job of managing inventories globally, to avoid a repeat of the 2007 dealer inventory problems mentioned earlier.) And the captive finance subsidiary is holding up well, given the recent turmoil in financial markets.

Total sales can grow about 15% in 2009 if price increases of 5% to 7% stick, while volume growth is maintained in the high single digits. On this basis, Caterpillar can earn nearly $7.00 a share in 2009 and about $8.00 a share in 2010. Note, however, that we consider this a "best-case" scenario, not being as sanguine on the global economy as the company, which forecasts earnings of $10.00 a share after 2010. Our expectations for the stock remain for good relative, not necessarily absolute, performance.

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At the time of publication, Au had no positions in the stocks mentioned, although holdings can change at any time.

Thomas P. Au, CFA, is a principal with R. W. Wentworth, a financial services firm in New York City. Earlier he was an emerging markets portfolio manager for the investment arm of Cigna Corp. and an analyst with Unifund, S.A. of Switzerland and Value Line. He graduated cum laude with a B.A. in Economics and History from Yale University and an M.B.A. in Finance from New York University. Au is the author of A Modern Approach to Graham and Dodd Investing. Au appreciates your feedback; click here to send him an email.