Caterpillar Inc. — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016. Unaudited interim results; comparisons are with the same 2015 periods unless stated otherwise. Caterpillar’s business includes machinery, energy and transportation operations (ME&T) and Financial Products.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Sales and revenues | $10.342 billion | $12.317 billion | $19.803 billion | $25.019 billion |
| Operating profit | $785 million | $1.333 billion | $1.279 billion | $3.035 billion |
| Profit attributable to common stockholders | $550 million | $802 million | $821 million | $2.047 billion |
| Diluted earnings per share | $0.93 | $1.31 | $1.40 | $3.34 |
| Operating margin | 7.6% | 10.8% | 6.5% | 12.1% |
Revenue fell 16% in Q2 and 21% year to date; operating profit fell 41% and 58%, respectively. Management attributed the deterioration chiefly to lower sales volume and unfavorable product mix, alongside competitive pricing pressure. Cost reductions, lower material costs and lower incentive compensation partially offset the declines.
- Cash flow: Consolidated operating cash flow was $2.80 billion for the first half, versus $3.36 billion a year earlier. ME&T operating cash flow was $1.383 billion, versus $2.680 billion; Financial Products generated $877 million, up from $747 million.
- Investment and financing: First-half investing cash outflow was $1.457 billion and financing cash outflow was $1.040 billion. Capital expenditures were $1.605 billion, including equipment leased to others.
- Liquidity: Cash and short-term investments were $6.764 billion at June 30, up $304 million from year-end 2015. Current assets were $33.606 billion and current liabilities $27.183 billion.
- Debt: Total debt was approximately $38.323 billion, up $310 million from year-end. This includes $9.489 billion of ME&T debt and $28.834 billion of Financial Products debt. ME&T’s debt-to-capital ratio was 39.0%, within management’s 30%–45% target range. Available credit was $6.810 billion; no borrowings were outstanding under the $10.5 billion global credit facilities.
- Shareholder returns: First-half dividends paid were $898 million. The company made no open-market share repurchases in the first half; $5.47 billion remained under the repurchase authorization at June 30.
Material changes and business drivers
- Sales declined across all major segments and regions. Q2 ME&T sales fell 17%; Resource Industries fell 29%, Energy & Transportation 20%, and Construction Industries 8%. Financial Products revenue was down 5% on a consolidated basis.
- Resource Industries reported a Q2 operating loss of $163 million, compared with $27 million of profit a year earlier; its first-half loss was $259 million. Mining customers continued to restrain capital spending, and management said it was uncertain whether improved commodity prices would spur equipment demand.
- Low oil prices, weak rail and transportation demand, and fewer large power-generation projects weighed on Energy & Transportation. Construction Industries faced weaker end-user demand, dealer inventory effects and unfavorable pricing.
- Cat Financial’s Q2 profit increased to $202 million from $184 million, helped by gains on securities sales and lower SG&A. Past-due receivables were 2.93%, versus 2.97% a year earlier; net write-offs were $33 million versus $38 million.
- Firm order backlog was approximately $11.8 billion at June 30, down $1.3 billion from March 31 and $3.0 billion from Q2 2015. About $4.2 billion was not expected to be filled within twelve months.
Outlook, risks and unusual items
- Management expected full-year 2016 restructuring costs of about $700 million and estimated restructuring actions would reduce 2016 operating costs by about $750 million compared with 2015. Additional workforce reductions and manufacturing facility consolidations or closures through 2018 were under consideration. No full-year revenue or EPS forecast is stated in the supplied filing text.
- Management expected dealer machine inventories to continue declining during the remainder of 2016, particularly for Construction Industries, weighing on sales. It also expected competitive pricing pressure to continue, though the year-over-year price-realization comparison was expected to improve in the second half.
- In February 2016, Caterpillar decided to exit on-highway vocational truck production. Estimated restructuring costs for that plan were $120 million; $82 million had been recognized in the first half, with remaining costs expected in 2016.
- Q2 diluted EPS was $0.93, or $1.09 excluding restructuring costs; first-half diluted EPS was $1.40, or $1.73 excluding those costs. These are company-presented non-GAAP comparisons. Restructuring costs were $139 million in Q2 and $300 million in the first half.
- Accounting changes for pension and postretirement benefits were applied retrospectively. A revised method for calculating benefit cost reduced expense by $45 million in Q2 and $90 million in the first half, increasing EPS by $0.05 and $0.10, respectively. The company said it expected this method to lower 2016 expense by about $180 million.
- Key exposures include cyclical demand tied to mining, oil and gas, and rail; currency and competitive pricing; dealer inventory decisions; Cat Financial credit performance; refinancing and credit-market access; and pension funding. Caterpillar disclosed ongoing U.S. grand jury and SEC investigations, a Brazilian antitrust investigation, and a Progress Rail investigation. Outcomes or potential losses were not estimable for several matters; management stated it did not expect material adverse effects. The IRS had proposed approximately $1 billion in tax increases and penalties for 2007–2009 returns, which Caterpillar is contesting; management likewise did not expect a material adverse effect.
Most important facts for investors to verify
- Whether the sharp year-over-year sales and profit declines stabilize, especially in Resource Industries, oil and gas, and rail.
- Whether cost savings and the projected $750 million operating-cost benefit offset continued volume and pricing pressure, and whether restructuring costs remain near the $700 million estimate.
- Whether anticipated dealer inventory reductions and the $11.8 billion backlog translate into further sales weakness.
- Whether cash generation, debt levels, credit availability and ME&T’s debt-to-capital ratio remain within management’s stated liquidity and capital targets.
- Whether Cat Financial delinquencies, nonaccrual balances, credit-loss provisions and repossessed-equipment results deteriorate.
- Developments in the investigations and tax dispute, and any changes in potential exposure or management’s materiality assessment.