Caterpillar Inc. (CAT, Financial) is the world's largest producer of earthmoving equipment and a big maker of electric power generators and engines used in petroleum markets and mining equipment.
In the first quarter the hedge fund sentiment seemed to be bullish. Pioneer Investments (Trades, Portfolio), Stanley Druckenmiller (Trades, Portfolio) and David Dreman (Trades, Portfolio) initiated new positions in the stock with 2,813 shares, 330,000 shares and 567 shares. Moreover, other bullish movements were made by Joel Greenblatt (Trades, Portfolio) and Paul Tudor Jones (Trades, Portfolio), having upped their stakes by 259.57% and 68.40%.
The company’s main intangible assets – its brand and its product portfolio – have devoted more than a century to being the largest construction and mining equipment manufacturer in the world. Caterpillar has entered new markets while making acquisitions boosting its product offer. The firm has been making efforts to transform its business model to a more outsourced one.
Further, it is now less dependent from the normal economic cycles, making the business less risky. Other actions taken to lessen the risk were the restructuring of the supply chain, reducing the break-even point and shifting the risk to its suppliers. Despite the changes, Caterpillar has recorded losses in all its segments.
Looking at the balance sheet, we find that the company has reduced its inventory in the past quarters while improving free cash flow. The trailing annual dividend yield is 4.44% and is close to a five-year high so this is attractive for dividend investors. During the past 13 years, the highest trailing annual dividend yield was 6.97%, the lowest was 1.19%, and the median was 2.04%.
While operating margin is expanding, which is usually a good sign, the net profit margin of 2.9% is above that of the industry median.
Now, let´s compare the best measure of performance for a firm's management: the return on equity. The ROE is useful for comparing the profitability of a company to that of other businesses in the same industry.
| Ticker | Company | ROE (%) |
| CAT | Caterpillar | 7.11 |
| DE | Deere& Co. | 15.26 |
| ABB | ABB Ltd | 13.64 |
| Ă‚ | Industry Median | 4.3 |
The company has a current ratio of 7.11%, which is lower than Deere & Co (DE, Financial) and ABB Ltd. (ABB, Financial) but higher than the industry median. In general, analysts consider ROE ratios in the 15% to 20% range as representing attractive levels for investment so for investors looking for a much more appealing ROE, Deere could be the option. It is imperative to understand this metric before investing, and it is important to look at the trend in ROE over time.
Regarding valuation, the stock sells at a trailing P/E of 33.22x, trading at a premium compared to an average of 18.3x for the industry. To use another metric, its price-to-book ratio of 2.59x indicates a premium versus the industry average of 1.25x while the price-to-sales ratio of 0.94x is below the industry average of 0.96x.
Final comment
This industry continues to face the uncertainty of farming yields and commodities prices, but these should help the company in the future and should contribute to restructuring its business, achieve a more robust balance sheet and return capital to shareholders.
The stock is trading between its 52-week low and high, and its last closing price of $70.59 is down 21.1% from its 52-week high of $89.50. The stock's performance on a year-to-date basis is 2.15%. Although the stock price has not done very well in 2015, the stock appears overvalued based on relative valuation, and the dividend yield supports the buy thesis.
Disclosure: Omar Venerio holds no position in any stocks mentioned.
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