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Caterpillar - earnings pop, but order backlog dips

Caterpillar reported third-quarter revenue of $16.8bn, up 12%.

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Caterpillar reported third-quarter revenue of $16.8bn, up 12%. Growth was largely driven by higher prices, with higher volumes providing a smaller boost. The three core segments within Machinery, Energy and Transportation (ME&T) all contributed to growth.

Operating profit rose 42% to $3.5bn, as the vast majority of the revenue uplift from higher prices and volumes fed through to profit.

Free cash flow generated from the ME&T segments totalled $6.8bn over the first three quarters, up from $2.8bn last year. The order backlog fell $2.6bn compared to the previous quarter.

Fourth-quarter sales are expected to be slightly higher than last year, while margins are expected to tick lower quarter-on-quarter. ME&T free cash flow is expected to exceed the $4-$8bn range for the full year.

The shares fell 4.8% in pre-market trading.

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Our view

By most measures, third-quarter performance was a knockout. A good chunk of the top-line growth fed straight into profit and cash flow. But markets look forward more than back, and it was the drop in order backlog that spooked investors.

The bear case has centred around slowing demand and peak earnings for a few quarters now. While earnings are still strong, the slowing demand story looks like it has merit as the order backlog has tended to be a good leading indicator. Nonetheless, we still see enough long-term drivers to make this an attractive name.

For nearly a century, the company's built mission-critical heavy machinery, which has led to its position as one of the world's most valuable brands. Three key pillars underpin the business model; Construction Industries, Resource Industries and Energy & Transportation.

We can find positives in all three. Infrastructure spend has tailwinds from government-related investment in the US. For mining equipment, commodity prices have come down, but remain high enough for continued investment. Longer term, we see increased demand for materials that help support the global energy transition. It's Caterpillar's product range that can support that. There are also innovative solutions brought to the table with autonomous mining vehicles which have so far shown to increase productivity by 30%.

In Energy & Transportation, demand for oil & gas related products could well be peaking. It's in the more environmentally friendly offerings that we see longer-term potential, innovations like green hydrogen generators can help end customers meet their climate-related objectives.

Running across all three segments is the services offering, where Caterpillar offers repairs and upgrades throughout its products' life cycles. This helps support revenue streams and is an offering that's gone from strength to strength.

Analysts have significantly increased their estimates for free cash flow as we've moved through the year, a testament to the string of strong performances. It's now expected around $8.5bn for the year, which helps to ease the pressures that the heavy debt load brings. As a mature business, it can stomach a higher debt load, and levels relative to profits have been steady over time.

Caterpillar offers indirect exposure to a range of end markets where we see several growth drivers. Looking further out we remain confident in the longer term industry growth drivers, and like Caterpillar as a business leader. We do see some uncertainty in the near term as the level of demand finds a level to settle at. Some of that's been reflected in the recent drop in valuation, but there could be more weakness to come. As ever, nothing is guaranteed.

Caterpillar key facts

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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Written by
Matt-Britzman
Matt Britzman
Equity Analyst

Matt is an Equity Analyst on the share research team, providing up-to-date research and analysis on individual companies and wider sectors.

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Article history
Published: 31st October 2023