We have probably written too much on CAT in the last few month, including Downtrend Resumed (9/11/14), 5 Reasons to Stay Bearish into 2015 (11/5/2014), E&T As The New RI, And Retrieving Your Excavator From Botswana (12/1/2014), and Short Christmas Come January 26th (12/16/2014). But today, if we had a short position, we would probably be covering a bit of it into the print.
The extent of CAT’s resources-related capital spending exposure is better recognized today, and estimates for 2015 have declined (but are still too high, we think). Some of the oil & gas-related revenue declines won’t occur until 2H 2015, with backlogs likely to drop through 1H. Managements’ incentives may point toward a more optimistic guide, easing some of the substantial pressure weighing on them.
Still, we think the market is missing a number of challenges for CAT beyond Oil & Gas. There are reasons to remain bearish. Here are a few:
- CAT Financial Credit Exposures: If you haven’t seen CAT Financials’ pitch books for Mining and Oil & Gas financing, please see here and here for background. We expect material losses, and losses at captive finance subsidiaries tend to unsettle longs. Perhaps TXT-lite?
- Tier 4 Pre-buy: The E&T pre-buy matters, and likely extends beyond just locomotives. There is even a bit in Construction Industries, as we understand it. The chart below shows abnormally strong Energy & Transportation (E&T) dealer sales growth, consistent with a Tier 4F pre-buy.
- Mining Could Be Worse: Commodity prices have declined further, and the credit outlook for some customers looks bleak. Pricing may get more competitive. The assumption that it “can’t get worse” is false, as the segment hasn’t even posted a quarterly operating loss.
Tough Comps, SEC Investigation: CAT is facing very tough comps in Construction Industries, with margins in the year ago period supported, in part, by dealer inventory builds. It will also be interesting to get an update on the S.E.C. subpoena/ongoing investigation.
Backlogs Matter: As for Oil & Gas, we may see backlogs drop, but the actual shipments and revenues should remain reasonably healthy into the second quarter (we hit the timing of this in our Upstream Capital Equipment call - Materials: CLICK HERE, Replay: CLICK HERE). The revenue drop-off is more of a 2H 2015 phenomenon. Tier 4F pre-buy activity should also be reflected in backlog declines.
2015 Outlook: The outlook will matter more to investors than 4Q results. We expect CAT to see guidance come in within the $5-$6.50 range, but that is a bit of a guess. That said, the environment has clearly worsened since the 3Q 2014 earnings call, and to a surprising degree. We would expect revenue guidance to be moved lower from the previous range. Consensus has moved down to $6.70, pretty close to the high-end of our estimated guidance range.
There are reasons to remain bearish on CAT, but some of the less recognized exposures – like potential losses at CAT Financial, lower O&G revenues, and Tier 4F – may play out a bit later in the year.