C.M.O. 2.2.2010
Credit Market Overview
February 2, 2010
Caterpillar Inc. (CAT) reported Q409 results last week and to the extent the announcement came at a time when the market as a whole could have used some good news the 65% drop in earnings wasn’t interpreted that way.
During the conference call it seemed as if Jim Owens, CAT’s CEO, had read Thomas S. Monson’s quote: “The past is behind, learn from it. The future is ahead, prepare for it”, as he said “We’re encouraged by signs of improving demand. Dealer sales to end users are up, order rates are up, dealer inventories came down in 2009, and we’re seeing stronger service parts sales. As a result, we are focused on increasing production levels in our plants and with our suppliers.”
To the extent that the pundits were saying that outlooks were going to be more important than earnings before the current reporting period started the only thing I can say is that the market has the selective hearing of an adolescent at times.
We have, over the past year, seen a number of promises made but not kept. The audacity to change became the arrogance to do the same old thing and maybe even more so. Jim Owens, however, appears to be a person who puts his money where his mouth is and initiated visits with his key suppliers in the same quarter for which CAT just reported earnings.
The purpose of the meetings with the 500 companies that supply 80% of the stuff CAT uses was to make sure those companies had what they needed, including financing, to deliver parts and components as business grew in accordance with Jim’s outlook.
The most recent GDP figure, released and ignored last Friday, was above expectations and the result of “inventory investment” per the BEA’s press release. In layman’s terms that means that companies had run down inventories so low that when the economy did not fall into the abyss they needed to get stuff back on the shelves.
Here again CAT provides an example as Mr. Owen said that even if sales were flat for 2010, an event he calls the “Great Recession Scenario” the company would still have to up production 10%-15% percent to meet customer demand and get inventories back to something approaching normal.
The risk, from CAT’s standpoint, was not that the economy would continue to shrink but that they might not have enough of those big yellow toys around if it didn’t.
The supplier visits were critical to Owen’s outlook as he figured that if he increased production by 15%, “many of our suppliers would more than double their shipments to us”.
This co-operative effort has included “freeze periods” where CAT promises to not to change order volumes for 90 days after placing them and also helping the suppliers decrease the time they have to wait before “factoring” the receivables CAT creates with those it is buying from.
If the see-ers were truly more concerned about outlook than earnings than CAT’s view of the future should have been encouraging. If CAT’s interaction with its suppliers shows anything it is that they are backing up their words with actions and that should lend even more credence to Jim Owen’s comments during the conference call.
On a broader scale, it should be encouraging to everyone that while Congress files an endless number of straw dogs passed itself, pointing the finger at everyone but itself, real America is taking real action to get back on its feet again. Main Street is taking care of Main Street.
While the market as a whole took a nose dive after posting a post March ’09 high on Jan 19th, CAT was a little ahead of the pack closing at $64.13 on Jan 11th of this year. From there it was almost straight down to $51.86 on 1/28. The CDS touched bottom (48bps) on the same day the stock peaked but stopped moving higher on 1/22 after closing at 75bps. The stock closed at $52.94 last night with the CDS at 73bps.
If the CDS continues to recede and the empirical relationship holds the stock might have seen its lows for the move. While we can’t be certain about future price movements we can take heart that major-multinational corporations are making sure they have what they need to meet the demands of a global economy resurfacing after peering into the abyss.
Enjoy the week.
Jim Delaney
