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Why Caterpillar Could Suffer From Low Growth in China, Mining Sector

NEW YORK (TheStreet) -- Caterpillar (CAT - Get Report) , the world's largest maker of construction and mining equipment, has slowly recovered in the past year. Over the past 52 weeks, its stock grew by 28.5% to $107.85, as of Monday afternoon at 3:15 p.m.

But Caterpillar still faces risks that could impede its progress. Let's examine them.

Caterpillar has recently revised down its annual revenue outlook from an average of $56 billion to $55 billion - close to a 2% drop. This news didn't help the company's stock, which has lost 1% of its value since the revised estimates.

The company's operations in Asia/Pacific and Latin America, which in the past grew fast, have also contracted in the first half of 2014 by 13% and 15%, respectively. These two regions combined accounted for nearly a third of Caterpillar's sales.

Looking forward, the IMF has revised down its growth outlook for 2015 in many countries in Asia and the Pacific, including China, and Latin America, including Brazil. These lower projections suggest that Caterpillar's revenue will keep contracting next year. The company also continues to face foreign exchange risks, which could also adversely affect its bottom line.

In terms of operations, the company's sales in the mining equipment segment have been falling. In the first half of 2014, this segment dropped by 33% throughout all regions. In general, the global mining sector, especially for coal and precious metals, hasn't done well in the past couple of years. The low prices in these sectors are likely to keep depressing the stock price, which could curb Caterpillar's recovery.

Earlier this year, Caterpillar was able to escape a $2.4 billion tax by moving its profits to a subsidiary in Switzerland. That's a plus for shareholders.

Despite the recent fall in the company's stock, its current valuation is still higher than its peers: Caterpillar's EBITDA to market cap ratio is 10.93; Joy Global (JOY - Get Report)   has a ratio of 9.22 and Deere & Company (DE - Get Report)   has an EBITDA to market capitalization ratio of 10.5.

But Caterpillar still has many advantages, including high yield for its investors.

The company's accelerated $2.5 billion share repurchase program in the third quarter of 2014 will bring Caterpillar's total repurchase program to $4.2 billion, which comes to annual buyback yield of 6.2%. This yield along with the company's dividend yield of 2.6% (based on a dividend of 70 cents a share per quarter), comes to an annual yield of 8.8% for its shareholders.

The company also continues to expand its revenue in North America, which grew by 11% in the first half of 2014, mostly due to sharp gains in the construction segment.

Caterpillar faces several risks, including lower growth in Asia and South America and a drop in sales in the mining sector. But the company continues to invest in its future and share its profits with its investors.

At the time of publication, the author held no positions in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

TheStreet Ratings team rates CATERPILLAR INC as a Buy with a ratings score of A-. TheStreet Ratings Team has this to say about their recommendation:

"We rate CATERPILLAR INC (CAT) a BUY. This is based on the convergence of positive investment measures, which should help this stock outperform the majority of stocks that we rate. The company's strengths can be seen in multiple areas, such as its solid stock price performance, reasonable valuation levels, growth in earnings per share, increase in net income and notable return on equity. We feel these strengths outweigh the fact that the company has had generally high debt management risk by most measures that we evaluated."

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