Caterpillar’s Strong Balance Sheet Will Enable It To Endure The Ongoing Mining Sector Weakness

Since the fourth quarter of 2012, Caterpillar (NYSE:CAT) has battled weak demand for machinery and equipment from the global mining sector. With mining companies cutting their costs and capital spending in an attempt to boost their profits and cash flows, sales of mining equipment manufactured by CAT have tanked. In the first quarter of this year, the company’s mining segment sales contracted by over 33% annually. ^[1] With the mining business constituting about a quarter of CAT’s top line, this severe decline from the sector has considerably impacted the company’s overall results. Additionally, CAT anticipates this weakness from the global mining sector to persist through the current year. For full year 2014, CAT forecasts its mining segment sales to contract by 20% annually. ^[1] This is on top of 37% year-over-year fall in this segment’s sales last year. ^[2] Nonetheless, we figure CAT’s solid balance sheet and strong cash flow from operations will enable it to weather this period of mining sector weakness.

We currently have a stock price estimate of $109 for CAT, approximately in line with its current market price.

See our complete analysis of CAT here

CAT Has A Strong Balance Sheet

At the end of the March quarter, CAT’s Machinery, Energy & Transportation segment (which basically includes its construction, mining and power businesses) had a debt-to-capital ratio of about 30%, well below the company’s targeted upper limit of 45%. ^[3] This indicates that despite the severe decline in its mining sales, CAT’s cash flows from operations have remained strong enough to pay-off the company’s debt, pension and other obligations.

Additionally, earlier this month, CAT increased its quarterly dividend by 17% to 70 cents a share indicating that the company’s cash flows not only are sufficient to pay-off its obligations but also provide enough room to increase cash return to shareholders. This recent hike in quarterly dividend also indicates that CAT anticipates its cash flows to remain strong through the coming months despite decline in its mining equipment sales. ^[4] CAT also continues to actively buyback shares. During the first quarter of 2014, the company repurchased nearly $1.8 billion of its common stock. And in January, the company’s board also approved repurchase of common stock worth $10 billion through 2018. ^[3] This increase in cash return to shareholders through dividend hikes and active share repurchases indicates that CAT is confident about its long term prospects.

We too figure that CAT’s business, comprising of mining, construction and power generation equipment, is well positioned to benefit from rising global demand for energy and physical infrastructure. With people in the developing countries continuing to migrate to cities from rural areas, the demand for more residential and commercial buildings will continue to push up CAT’s construction equipment sales. At the same time, rising global demand for energy will require increased production output of key mined commodities such as coal and iron ore. This in turn will lead to an eventual recovery in CAT’s mining equipment sales. It is these long term growth fundamentals that support CAT’s outlook.

Separately, CAT’s ability to return greater cash to shareholders is soothing investor concerns arising from the ongoing mining sector weakness. In a recent release, the company said that since the beginning of 2013, it has returned over $5 billion to shareholders through buybacks and dividends. ^[4] This represents roughly 7% of CAT’s total market cap. We figure return of such solid cash to shareholders during this tough period has been enabled by CAT’s strong balance sheet and solid cash flows, which will also enable the company to endure the ongoing period of mining sector weakness.

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1. CAT’s 2014 Q1 earnings form 8-K, April 24 2014, www.caterpillar.com [↩] [↩]
2. CAT’s 2013 10-K, February 18 2014, www.caterpillar.com [↩]
3. CAT’s 2014 Q1 10-Q, April 2014, www.caterpillar.com [↩] [↩]
4. Caterpillar Inc. Announces 17 Percent Increase in Dividend Rate, June 11 2014, www.caterpillar.com [↩] [↩]