Caterpillar Set To Wobble On
BMI View: The poor performance witnessed in Q113 reinforces our conviction that 2013 will prove to be a tumultuous year for Caterpillar , similar to the company's assessment of its future outlook. While the euphoria that has dominated the global mining industry in recent years is largely spent, we believe the worst is not over and that further headwinds are in store for miners, thus equipment makers over the coming quarters. Indeed, we are concerned that Caterpillar has over-exposed itself to China, which is now struggling to generate demand for mining machineries.
In a move that further reinforces our downbeat view on China, Caterpillar posted disappointing results in its first-quarter earnings and has lowered its guidance for the full year owing to the dour outlook in the mining sector. The world's largest maker of earthmoving equipment reported revenues and profit of US$13.2bn and US$880mn in Q113, respectively, down 17% and 45% from the previous year. Subsequently, Caterpillar slashed its full-year sales forecast to US$57-61bn for 2013, from the US$60-68bn it had forecast earlier. The company 's revised outlook reflects an expected 50% fall in the sales of its traditional mining trucks and loaders, as well as a 15% decline in sales of the draglines made by Bucyrus , the mining equipment maker it purchased in 2010. Indeed, the results marked the second tough quarter in a row for Caterpillar , which had suffered a 55% drop in earnings in Q412 .
|Squeezed By Mining Downturn|
|Caterpillar - Quarterly Sales And Revenues By Geography (LHS) And Segment (RHS), US$mn|
Resource Segment Weakest
In line with our expectations, the softening of commodity prices brought about by China's economic slowdown has had a considerable impact on the heavy industry. An increasing numb er of miners are hunkering down by scaling back or delaying their ambitions in the face of tough market conditions. Caterpillar's resource segment registered the biggest contraction in Q113 , down 23% y-o-y to reach US$3.6bn.
|Few Bright Spots|
|Global - Mining Industry Value, US$bn (% Change y-o-y)|
Similar to Caterpillar's assessment of its future outlook, we believe 2013 will prove to be a tumultuous year for the company. Despite the slew of significant divestitures of mining assets over the past year, we believe the worst is not over and that further headwinds are in store for miners around the world. We expect renewed weakness to take hold of China's economy in H213, and thus more industry-wide culling in the mining space could be on the cards.
|China Loses Its Shine|
|China - Select Indicators (% Change y-o-y)|
We forecast a slowdown in Chinese real GDP growth to 7.5% in 2013, from 7.7% in 2012 and below consensus estimates of 8.1%. In our opinion, Asia will present the biggest challenge for Caterpillar over 2013. The company has aggressively expanded its China operations since 2009, pinning hopes on the large volume of construction and mining-related activities and subsequent demand for machinery. Indeed, we are concerned that Caterpillar has over-exposed itself to the region, which is now struggling to generate demand. The recent ERA accounting fraud scandal that cost Caterpillar US$580mn in impairment charges further added insult to injury.
|Select Countries - Mining Industry Value, US$bn (% Change y-o-y)|
Furthermore, we continue to see few bright spots in Asia apart from the growing attractiveness of frontier markets. We expect traditional mining economies such as Australia and Indonesia to register slowing growth over the coming years. A combination of factors including escalating cash costs, greater resource nationalism and rising taxes will continue to stifle growth in the mining space. Despite this, we believe Indonesia should hold up well on the construction side, with continued strong growth expected. We also expect stronger growth out of Japan for construction, as a focus on infrastructure investment is being pursued by the prime minister.
|US Recovery To Stem Losses|
|Private Housing Units Under Construction, 000s (LHS) And Residential and BMI Non-residential Construction Industry Value Forecast, y-o-y real growth % (RHS)|
US Mixed Outlook
Whilst revenues from the construction industry declined by 17% y-o-y in Q113, Caterpillar states that they look to an improving US housing market for a glimmer of growth in 2013. We believe this could potentially offer some respite for the company as we have been confident of a US housing recovery for some time ( see our online service, 25 February, 'Holding Steady To Positive Housing View'). We forecast the US residential and non-residential sector to grow in real terms by 2.4% in 2013. With strong residential construction spending and growing numbers of building permits being granted, strong fundamentals underpin our positive outlook.
|In For A Tumultuous Year|
|Caterpillar - Share Price (USD)|
That said, the US coal mining sector is looking less buoyant, as domestic demand declines on the back of environmental concerns while the glut of cheap natural gas from recently embraced hydraulic fracturing flood the market. Consequently, stagnant domestic coal demand and an increasingly unfriendly regulatory environment will continue to weigh on US coal firms, fuelling production cutbacks, asset sales and potentially consolidation over the coming quarters.