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Why You Should Sell Joy Global And Caterpillar

June 27, 2014 | About:
FinanceGuru

FinanceGuru

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The present scenario for the mining sector doesn't look good as mining equipment makers are suffering from poor demand for mining equipments. This explains why Joy Global (JOY) shares have underperformed this year, losing close to 5%. Joy Global's problems are shared by bigger peer Caterpillar (CAT), which is facing additional problems apart from macroeconomic issues.

Joy Global: Going downhill but staying positive

Looking ahead, there seems to be no respite in sight for Joy Global. The company received poor bookings for equipment across all geographies, except South America and China. In addition, Joy also saw a 25% decline in underground mining machinery orders.

However, Joy saw an increase in underground service bookings as a result of higher component and rebuild activity in regions such as North America and Eurasia. The company expects demand to be weak across the year, but on the other hand, it expects an increase in demand toward the end of the fiscal year. Joy is facing challenges in the global mining business due to oversupply and lower commodity pricing. With global economic growth expected to rise3.5% this year, Joy Global is expecting an increase in demand for commodities and favorable manufacturing conditions.

In addition, Joy is expecting good business in China, which is one of thelargest markets in the world for mining equipment. Though some commodities might face weakness in demand, but the stable growth rate and industrialization and urbanization of China gives Joy room for growth. Further, the growth in electricity production in China gives Joy Global more reasons to be optimistic about the mining business in China.

But the bottom line is that Joy Global is facing many challenges. Despite an improvement in macroeconomic factors, commodity prices are under pressure. Mining players are cautious about investing in new projects as lower pricing would lead to losses. To fight this situation, Joy Global is undertaking a restructuring program and expects growth in the business in this stiff situation also.

Moving on to the service business, Joy Global expects an improvement in this segment as service orders increased 4% year-over-year. The performance of the service segment is critical due to weak commodity pricing. Joy is investing in service centers globally that will support its installed fleet and provide world-class technical expertise to customers, and bring in more service revenue. It has high expectations from its newly-built service center at Peru, which is expected to support the fast-growing copper market.

Moreover, an increase in power demand and natural gas prices remaining stable should also lead to better demand in the service business. Also, Joy Global expects an improvement in its business in China after the reduction of the commodity prices in the country.

Joy Global also plans to invest in oil projects as it sees opportunity in oil field mining. Further, the seaborne thermal coal market is expected to increase by 3% in regions such as China, India, and the Pacific nations, leading to more catalysts for the business.

However, the big problem for Joy Global is its heavy exposure to the coal business. Coal accounted for nearly 62% of Joy's total sales, highest amongst its rivals like Caterpillar. Even though coal still accounts for more electricity generation than natural gas, the gap is narrowing. Due to the reduced dependence on coal, coal miners are looking to exports in order to drive growth, but it isn't as easy as it sounds. Many people have protested against the Gateway Pacific Terminal, a proposed coal export terminal at Cherry Point, near Bellingham, Washington, because of its negative social and environmental impact.

Caterpillar's Troubles

Caterpillar, on the other hand, also has problems. Last month, the companylost a major contract in Illinois to manufacture locomotives for high-speed trains. Caterpillar lost the contract to Siemens AG (SI) and Cummins (CMI), who were given a $226 million contract to produce 32 diesel locomotive engines capable of running at a speed of 125 miles per hour.

In addition, Siemens also has the right to provide 225 extra locomotives, which could rake in a total of $1.5 billion for the company. This has dented Caterpillar's hopes of dominating the railway segment and the company is clearly not happy about it. The company even claimed that Siemens' locomotive will fall short of the 125 miles per hour speed requirement unless it was travelling downhill.

Conclusion

Both Joy Global and Caterpillar are in a soup. Although Joy Global expects a rebound in its business in the future; still, high dependence on coal and weak commodity pricing will negatively affect its performance. Caterpillar, on the other hand, can face a big setback due to its Russian ties, which makes an investment risky. So, investors should consider staying away from these two stocks.


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