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Caterpillar's August Sales Bear the Brunt of Weak Mining

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Shares of mining and construction equipment behemoth, Caterpillar Inc. (CAT) fell 1.75% as it reported a 10% decline in its global retail sales for the three months ending Aug 2014 due to weak mining demand. Moreover with the Brazilian economy falling into recession, Latin America dragged down results, followed by Asia/Pacific.

21-Month Stretch of Declining Sales

August marked the 21st consecutive month of declining sales for Caterpillar, exceeding the previous 20-month stretch of negative sales reported from Sep 2008 to Apr 2010 due to the global recession. This time, sales growth were in the red since Dec 2012, affected by rising inventories of unsold equipment, weak economic conditions and the slowing down of the Chinese economy, which had earlier been the main driver of construction and mining demand.

Trend So Far in 2014 and August Results

Caterpillar started 2014 with an 8% decrease in sales both in January and February but went further downhill with a 12% drop in March and the 13% reported for April. Within the May-July timeframe the trend displayed minor improvement with drop of 12% for May, 10% for June and 9% for July, triggering hopes of a recovery.

However, hopes soon dampened with sales again dipping 10% in August. Sales dropped in all regions, North America being the only saving grace with an 8% increase. The rate of growth has, however, declined from the 14% growth witnessed in May and June this year.  North America had been showing considerable improvement in 2014, as evident from the growth range of 1% to 14% reported so far in the year.

Sales in Latin America plunged 29% in August, the worst performance so far in the year. Sales in Europe, Africa and the Middle East (:EAME) plummeted 17%, while in Asia/Pacific it slumped 24%, an improvement from the 29% and 30% drops in June and July, respectively.

Sales in the Resource Industries segment plunged 33% in August, as sales declined across the board. Latin America fared the worst with a 52% slump, followed by EAME and Asia/Pacific with respective declines of 46% and 44%. This does not come as a surprise since sales in Resource Industries will continue to be affected as mining companies have slashed spending in the face of lower commodity prices.

Sales in Construction Industries were down 1% year over year, which was disappointing given that the segment has delivered positive growth ranging from 3% to 9% so far in 2014. North America witnessed a 12% increase, which was offset by decline in other parts of the world. Latin America, Asia/Pacific and EAME were down 23%, 10% and 2%, respectively.

Sales in the Energy & Transportation segment moved north 4%. A 17% increase in the Oil & Gas sector, 12% jump in sales in the Transportation sector and 3% rise in the Industrial sector were partially offset by a 13% decline in sales in Power Generation. It is worth mentioning that the Transportation sector has shown considerable improvement delivering a growth in sales compared with a decline in the range of 1% to 25% so far in the year.

Domino Effect

As a global supplier of mining and construction equipment, Caterpillar is considered a bellwether of economic activities. The drop in Caterpillar sales signals a dreary outlook for the mining and construction industry and thus triggered a domino effect on its peers. Following the news, shares of mining equipment maker Joy Global, Inc. (JOY) dipped 2.04%, while shares of crane manufacturers, The Manitowoc Company, Inc. (MTW) and Terex Corp. (TEX) went down 4.32% and 0.54%, respectively.

Joy Global recently reported weak third-quarter results due to soft mining demand, while Terex recently lowered its full-year 2014 guidance citing weak crane demand. Despite a positive trend in book-to-bill ratios in the first half of 2014, Terex pointed out that order rates for its Cranes segment have gone down drastically in July and August. Moreover, cranes customers, in developing markets, are struggling to secure financing for orders scheduled for delivery in the back half of 2014.

Caterpillar Continues to be Affected by Weak Mining

Over the past two years, Caterpillar’s mining customers have slashed capital spending in the middle of a glut in capacity, drop in prices for coal, iron ore and other metals and slower economic growth in China and other developing countries. This bearish phase of the mining market has dealt a blow to Caterpillar’s long-term objective of becoming a dominant global player in the mining space.

Prior to this, Caterpillar, had been riding the wave of heightened construction and mining activity in developing markets, triggered by the demand for coal, copper and iron ore. The company also started aggressively expanding in mining when the market was stronger. Its acquisition of Bucyrus in 2011 for $8.8 billion was an attempt to be a leader among the global mining original equipment manufacturers with the buyout resulting in the most expansive product offering in the mining equipment industry.

Even though Caterpillar’s CEO, Doug Oberhelman, in the second-quarter conference call pointed out that it was the first quarter since 2012 that Resource Industries sales had delivered a sequential improvement, it is too soon to decide whether the mining business is turning around.
 
Improvement in Construction and Europe is the key

We believe Caterpillar will weather the storm as improvement in the construction sector and macroeconomic stabilization in Europe will somewhat help compensate the impact of the weak mining sector. The Architecture Billings Index, which is considered a leading indicator of U.S. non-residential construction, rose to a seven-year high in July.

Furthermore, Caterpillar has initiated extensive cost-saving programs across its global businesses. The company will continue to benefit from additional restructuring actions in 2014 to optimize its cost structure and improve operational efficiency.

Caterpillar currently carries a Zacks Rank #3 (Hold).

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