JOYG Joy Global Inc. (MM)

Caterpillar Inc. (CAT) posted a strong second quarter with EPS surging 58% and sales jumping to an all-time quarterly record on the back of increase in machine demand and continued economic growth. However, results failed to meet the Zacks Consensus Estimate.

Further, with the Bucyrus acquisition on track, the company is positioned to be the #1 mining equipment manufacturer in the U.S. and will also have a strong footing in China and India, the major mining markets. However, headwinds from increasing cost, debt burden and increase in debt servicing costs due to the acquisitions dwarf some of the positives. Hence, we downgrade the recommendation to Neutral.

Construction activity continued to grow in the developing world and has led to record machine sales in many countries. We expect Caterpillar to maintain its revenue growth trajectory, fueled mainly by growth in the emerging markets, continued growth in construction and mining in the developing countries. Revenues will be supported over the next several years by increased domestic and international infrastructure spending, improved economic conditions and benefits from the yet-to-be closed acquisitions.

The Caterpillar-Bucyrus merger will position Caterpillar as the leading global mining original equipment manufacturer. The combined product portfolio will dwarf Joy Global Inc. (JOYG), the only U.S.-based manufacturer of surface and underground mining equipment. The merger will also complement Caterpillar’s existing mining product line.

The Bucyrus acquisition will also help Caterpillar to have a strong foothold in China and India, both of which are major mining markets. Furthermore, Caterpillar can leverage Bucyrus’ successful aftermarket parts business and support services for its equipment.

However, the acquisition has cost the company in terms of losses on interest rate swaps and higher interest on debt issued in May for the acquisition.

Caterpillar’s margins may be impacted by several factors, including headwinds from manufacturing costs; SG&A expenses; R&D expenses, incremental cost pertaining to Bucyrus inventory step-up and costs associated with the acquisition and integration expenses like severance costs, bridge financing costs, legal cost, advisory fees and other integration-related activities.

Caterpillar guided 2011 revenue to a range of $56 billion to $58 billion. However, the company estimates a negative impact of $0.50 per share to the bottom line because of $700 million of upfront and deal-related integration costs.

The Zacks Consensus Estimate for third-quarter 2011 is $1.68 per share. For full years 2011 and 2012, the Zacks Consensus Estimates are, respectively, $6.93 per share and $9.19 per share.

The quantitative Zacks #3 Rank (short-term Hold rating) for the company indicates no clear directional pressure on the shares over the near term.

Headquartered in Peoria, Illinois, Caterpillar Inc. is a leading manufacturer of construction and mining equipment, diesel and natural gas engines, and industrial gas turbines.

 
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