Idea Alert: The Bear Thesis On Cat

Takeaway: Multi-decade highs in mining/resources investment leave CAT vulnerable to a slowdown in its most profitable division.

Levels:

CAT’s TAIL remains broken = 94.27

No TRADE support to 88.04

The Resources Cycle May Be Turning Against CAT

  • Recent Results Signal Weakness: CAT’s 2Q earnings report showed that implied orders had declined year-over-year as backlogs were drained.  The company “beat” in the quarter, but only by recognizing revenue on previously accumulated orders.
  • Resources Equipment Important: Resources investment may be set to weaken, given what appears to be slowing developing market growth.  Should that occur, CAT’s most profitable could see meaningful declines.
  • Industry Structure:  While CAT is a strong competitor in an industry with a healthy structure, recent competitive entry by emerging market rivals like SANY and Zoomlion is not positive.  Should demand slowdown in key Asian markets, the additional competition would not be helpful.  Typically, we look for weaker industry structures on the short side.
  • Valuation:  If the resources investment cycle does turn against CAT, the cyclically-adjusted valuation would be shown to be meaningfully lower than current levels.  CAT does not appear to offer a wide enough discount at current levels to provide compensation for this risk, in our view. 
  • Risky US Construction Exposure: CAT is frequently owned for exposure to a rebound in developed market construction.  While CAT would benefit from higher construction equipment sales, the risks on the resources investment front far exceed the benefits of a cyclical rebound in developed market construction activity.

If History Rhymes, CAT Could Decline Significantly If Resources Investment Stalls

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Second Quarter Results Showed Implied Order Declines

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CAT’s Stock Tends To Follow The Backlog

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