Why? While the Covid-19 outbreak and associated lockdowns resulted in an uncertain outlook for the broader markets, the multi-billion-dollar Fed stimulus announced in late March 2020 helped the markets stage a strong recovery.
With a rise in vaccination rates globally, several economies saw a rebound in 2021. The demand for Caterpillar's products has recovered over the last few quarters. The company also reported better than expected results over the past few quarters.
With the volatility in oil prices in 2020, its production in the U.S. was impacted, resulting in lower dealer inventory levels for Caterpillar. Note that roughly half of the company’s total sales are generated from the North American region. Moreover, the coronavirus outbreak resulted in a reduction in mining as well as construction activities in 2020, but the demand saw a strong rebound in 2021.
Caterpillar (CAT) is a leading manufacturer of construction and mining equipment, diesel and natural gas engines, industrial gas turbines, and diesel-electric locomotives. Its engines and turbines are primarily focused on power generation, oil drilling, and other industrial applications.
The company also sells financial products in the form of financing options of leases and loans and insurance, primarily to drive sales growth of its products. CAT sells its products through a worldwide network of dealers.
Below are key drivers of Caterpillar's value that present opportunities for upside or downside to the current Trefis price estimate for Caterpillar:
Caterpillar’s Energy & Transportation division accounts for nearly 31% of the company's value. This division includes the design, manufacture, marketing, and sales of engines, turbines, and related parts. Although Caterpillar's market share is relatively modest, the overall market size for these products is huge. This division accounted for about 38% of Caterpillar's Industrial business revenue and EBITDA in 2021.
Caterpillar continues to increase its presence in the emerging markets of China, India, and Brazil. It has been expanding into these markets for higher product sales and set up manufacturing facilities. Future economic recovery in these markets presents the company with a potential opportunity to drive high top-line growth for its shareholders.
The 2020 oil price war resulted in lower production in the U.S., which, in turn, led to lower dealer inventory levels for Caterpillar. Note that roughly half of the company’s total sales are generated from the North American region. Moreover, the coronavirus outbreak resulted in a reduction in mining activities again impacting Caterpillar's business. However, oil prices, in particular, have now surged over 2x in the last year. The global economy is seeing a rebound with vaccination programs underway for several countries, boding well for Caterpillar's business going forward. However, high inflation and rising interest rates may result in a slowdown in economic growth beyond the first half of 2022.
The rising population and prosperity in developing nations are driving the demand for energy. This is likely to drive growth in demand for engines and turbines used in electric power generation units. Several developing nations such as India are increasing their spending on infrastructure and housing to support their rising urban populations. The increased infrastructure spending may drive growth in construction equipment sales.
Several countries, particularly the developing ones, are witnessing large-scale migration of people from rural to urban areas, leading to increased infrastructure spending on roads, bridges, and buildings. This is likely to drive growth in demand for engines used in industrial applications.
Emerging economies will be leading sources of mining, construction, and power-related equipment demand. This presents opportunities for several manufacturers including, Caterpillar.
Eastern Europe, with extensive mineable resources, is projected to exhibit an above-average growth in mining equipment demand along with the developing areas of Asia, the Africa/Mideast region, and Latin America, with the mature markets of Western Europe and North America trailing.
Several developing countries are facing high inflation after a strong rebound in consumer demand in 2021, post-pandemic. Central banks often resort to raising interest rates to control inflation, a trend seen in the U.S. over the recent months. The Fed raised interest rates this year, which might lead to reduced spending on housing because the rate hike gets included in the mortgage interest rates. The same rate hike might cause a deterioration in overall economic activity too. Higher interest rates in turn increase borrowing costs for companies leading to an increase in the price of their products. This, dampens demand moderating the growth in market size.