Caterpillar, Black & Decker And The Process of Adjustment

January 29, 2009 at 11:16 am  ·  Category: Fundamental Analysis, Macro Economics, Stocks

Our sales stayed pretty strong through October and well into November.  We pretty much hit a wall in December.

Jim Owens (subscription required), CEO Caterpillar

The depth and duration of economic decline throughout the world makes it very difficult to forecast sales and revenues.  As a result, we are focused on executing our strategic “trough” plans throughout the company.

Caterpillar 4Q Earnings Release, “2009 Sales And Revenue Outlook” , p. 16

It has been pointed out already in what respect we are free to call an improvement in the quality and an increase in the quantity of products economic progress.  If we apply this yardstick to the various phases of the cyclical fluctuations of business, we must call the boom retrogression and the depression progress.  The boom squanders through malinvestment scarce factors of production and reduces the stock available through overconsumption; its alleged blessings are paid for by impoverishment.  The depression, on the other hand, is the way back to a state of affairs in which all factors of production are employed for the best possible satisfaction of the most urgent needs of the consumers.

– Ludwig von Mises, Human Action, Ch. 20 “Interest, Credit Expansion, and The Trade Cycle”, Section 9: The Market Economy as Affected by the Recurrence of the Trade Cycle, p. 575

This morning I took a look at the 4th quarter earnings reports from a couple of bellwether manufacturers: Caterpillar (CAT) and Black & Decker (BDK).  Most everybody is familiar with the ubiquitous products these companies makes.  Caterpillar makes those tractors and trucks we all see at contstruction sites.  Black & Decker makes many of the tools and accesories used in construction.

With the economy in recession, investors are cutting back on all these projects resulting in decreased sales for both of these companies.  Black and Decker this morning announced a 13% drop in sales in their Power Tools and Accessories segment for the 4th quarter ended Dec 31 and forecast a double digit rate of sales decline for the majority of 2009.  As a result, they are forecasting an approximately 2/3 drop in earnings for 2009.  To deal with the slowdown, they laid off about 1,200 employees during the 4th quarter (BDK Earnings Release).

Caterpillar on Monday said much the same thing.  Their 4th quarter looks a bit better as sales were up 6% and though operating profit was off 64% most of that was due to increases in costs rather than a decrease in sales or prices.  But business going forward is going to be rough.  They are putting into place their “strategic trough plans” in preparation for a very difficult year.  Sales are forecast to be off about 20% and machine and engine volume, their core business, off 30%.  As a consequences, they are laying off 20,000 workers – about 11,500 of them full time employees, which works out to about 10% of their overall full time workforce (CAT Earnings Release).

But what I’m focusing on is the fact that we’re moving along in the process of adjustment.  Everybody now knows that the economy is in the tank.  Companies have already taken and are continuing to take steps to realign their operations with the current environment.

Turning to the stock market, Black & Decker earned $5.47 a share in 2008 and is forecasting $2 a share for 2009.  At $32, that’s not all that cheap on next year’s earning but if normalized earnings are $3 or more, the stock is pretty cheap already and so the stock market itself is now discounting the tough business environment. 

Caterpillar earned $5.66 in 2008 and is forecasting trough profits of $2.50 in 2009.  Again, that’s like 13 times next years earnings but a more attractive multiple on normalized earnings.  From a longer term standpoint that includes more than just 2009 and takes into account years after that when the global economy will recover, these stocks are now getting to be fairly/attractively valued.

It now just becomes a matter of time, of reallocating labor and capital to fit the new environment which has to take place in the real world.  But as far as perception and understanding, the stock market and most businesses seem to fully understand the current environment and what’s ahead.  That means we’re well on our way to equilibrium and, absent any unforeseen shocks, the stock market is more likely to be range bound than dramatically lower in 2009.

Disclosure: Top Gun has no position in Caterpillar (CAT) or Black & Decker (BDK) stock.

Posted by Greg Feirman  ·  Trackback URL  ·  Link
 

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