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Will Caterpillar (CAT) be Able to Sustain Positive Growth?

Zacks Equity Research

On May 29, we issued an updated research report on the mining and equipment behemoth, Caterpillar Inc. CAT. The mining and equipment behemoth which had so far been struggling with weak mining has managed to deliver a turnaround performance this year thanks to its relentless cost saving actions along with improvement in construction and Asia Pacific. However, it remains to be seen whether the mining and equipment giant will be able to retain the momentum going ahead.

Caterpillar delivered a year-over-year improvement in both the top line and bottom line for the first time in 10 quarters in first-quarter 2017. Further, backlog improved on a year-over-year basis for the first time since third-quarter 2014. Moreover, Caterpillar’s March sales witnessed a 1% rise, marking an end to its unprecedented 51-month long stretch of declining sales due to a weak mining sector and weak growth in China. Growth remains in the positive territory with 1% rise in April sales.

Quoting activity remains promising in many of Caterpillar’s markets and retail sales are turning positive for both machines and Energy & Transportation for the first time in several years. Given the upbeat first-quarter performance, the company hiked guidance for 2017. The company estimates revenues around $38–$41 billion compared with its previous $36–$39 billion range. The mid-point of the range depicts a 2% rise from the revenues reported in fiscal 2016. Caterpillar now anticipates earnings per share (excluding restructuring costs) of $3.75, up from the prior expectation of $2.90. The new guidance reflects a 10% improvement over 2016 earnings.

The Zacks Consensus Estimate for fiscal 2017 for revenues and earnings are $40.21 billion and $4.13, respectively. Notably, both the figures are higher than the respective guidance. Estimates for Caterpillar have moved up in the past 30 days, reflecting the optimistic outlook of analysts. The earnings estimate for fiscal 2017 has gone up 2% while that of fiscal 2018 has moved up 4%.

The company has outperformed the Zacks categorized Machinery-Construction/Mining subindustry on a year-to-date basis. Shares have gained 15.8% while the industry registered an increase of 13.9%. Moreover, the stock has an estimated long-term earnings growth rate of 9.50%.

Caterpillar’s share price has benefited since the victory of Donald Trump as investors expect his plans of big spending in infrastructure to boost revenues which had until that point borne the brunt of weak mining demand. The prospect of gigantic infrastructure spending is welcome news for Caterpillar which is anticipated to play a major role in the national infrastructure plan.

Sales in Construction Industries improved 2% year over year in Feb 2017, 7% in March and 8% in April. The company had last witnessed a 3% rise in construction sales in Jun 2014.  The US Architecture Billings Index (ABI), an economic indicator that provides an approximately 9 to 12 month glimpse into the future of non-residential construction spending activity, has been at 50 or better recently, signaling robust conditions ahead for the construction industry. As per Dodge Data & Analytics, total U.S. construction starts for 2017 will advance 5% to $713 billion. The construction industry has now entered a more mature phase of expansion, and construction spending can be anticipated to see moderate gains through 2017 and beyond.

Caterpillar is also witnessing growth in Asia Pacific which will likely be a growth driver for the company. Asia/Pacific sales continue to increase primarily owing to increased infrastructure and residential investment in China. The company noted that the construction industry and its market position have continued to improve in China, and thus is anticipating a continued modest improvement in 2017.

Another factor working in favor of Caterpillar is its endeavours to reduce costs in the wake of weak demand. In Sep 2015, Caterpillar set upon significant restructuring and cost reduction initiative, with actions expected through 2018. Once fully implemented, the plan would aid lower its annual operating costs by about $1.5 billion.

Caterpillar currently sports a Zacks Rank #1 (Strong Buy).

Other top ranked companies in the industrial product space include AGCO Corporation (AGCO), Deere & Company (DE) and Rockwell Automation Inc. (ROK). AGCO and Deere flaunts the same rank as Caterpillar while Rockwell Automation carries a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

AGCO has expected long-term growth of 12.1%.

Deere & Company has an expected long-term growth of 7.6%.

Rockwell Automation has an expected long-term growth of 10.6%.

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