DBRS Confirms Caterpillar Ratings at “A,” R-1 (low), Stable Trends

DBRS has today confirmed the ratings of Caterpillar Inc. (Caterpillar) and Caterpillar Financial Services Limited (collectively, CAT or the Company) at “A” and R-1 (low), respectively. The trends are Stable. DBRS’s confirmation reflects CAT’s strong business and financial profiles, notwithstanding the impact of an ongoing cyclical slowdown on the Company’s resource industries segment. CAT continues to be a leading global manufacturer of machinery and power systems equipment and is well-positioned to take advantage of economic growth in the long term. Most recently, the Company faced a challenging global mining industry, which had sharply reduced revenues and earnings relative to record levels achieved in 2012. Nonetheless, the financial profile remained strong in light of initiatives to mitigate revenue declines, such as reductions in working capital investments, repayment of debt and implementation of restructuring initiatives. Credit metrics remained well in line with the currently assigned ratings.

2013 was a challenging year for CAT, as sales decreased across all geographic and product group segments, due to the duplicate impact of reduced dealer inventories and lower-end user deliveries by dealers. Of note was the substantial decline in sales of mining products, which comprises the majority of sales in the Company’s resource industries segment. While miners are maintaining production at close to recent levels, they have sharply reduced capital expenditures (including equipment purchases), resulting in a 37% decline in CAT’s resource industries revenues. Sales in the construction industries and energy & power systems, however, declined only approximately 5%, as rebounding construction activity in the United States and the relatively diversified nature of the energy & power systems had supported these sales levels. The financial services segment continued on a trend of very strong performance. Due to the decline in the proportion of higher margin mining sales, DBRS calculated operating profit margin to be down to 9.3% for 2013, relative to 13% in 2012. To mitigate the impact of the slowing environment, Caterpillar announced restructuring plans over 2013-2014 which are expected to result in favourable ongoing cost reductions of $400 million to $500 million annually.

The Company’s strong financial profile allowed it to withstand the moderate revenue shock occurring over 2013. The Company earned lower cash flow from operations due to lower revenues and earnings, although net free cash flow was substantially higher than last year, as CAT lowered dividends and capex and had a large inflow from the reduction in working capital investment due to adjusted production schedules. Consequently the year-end cash on hand increased further to approximately $4.6 billion, although CAT also used the cash flow for debt reduction and higher share repurchases (with additional repurchases announced in 2014). Due to the reduction of debt, DBRS adjusted debt-to-capital improved to 35% at the end of 2013, compared with 43% in 2012. Debt and interest coverage ratios, as well as adjusted gross debt-to-EBITDA, deteriorated relative to last year, although they were well in line with the current rating, further contributing to the Company’s stable credit profile.

Overall, DBRS notes that CAT’s business profile has remained stable, with a continued leadership position on a global scale in the machinery market, along with substantial product development capabilities. Additionally, while all segment sales were lower when considered on a geographic basis, Chinese sales notably increased by a substantial 20% in 2013 relative to 2012. The Company’s competitive position in this geographic market has been building, with demonstrated year-over-year improvement in the excavator market in particular. DBRS also notes that in 2012, CAT recorded a goodwill impairment of $580 million related to its acquisition of Siwei in China, but that the Company entered into a settlement agreement resulting in the recognition of a gain of approximately $135 million in 2013.

DBRS expects that in 2014 revenue levels will remain in a similar range to 2013, as sales declines in the resource industries segment could be roughly offset by firmer sales in construction and energy & power systems industries. The resource industries segment will continue to see pressure from sales of new mining-related equipment over 2014, while sales in the energy & power systems are likely to stay flat or expand in the low single-digit range in 2014, in line with the overall improvement in the general economy. The construction industries segment will continue to benefit from the U.S. housing recovery and is expected to see low-single-digit sales increases.

Cash flow from operations is expected to remain roughly unchanged in 2014, in line with flat/slightly lower projected earnings. Based on stagnant projected earnings, increased share repurchase activity in 2014 and projected debt levels, DBRS expects slightly weaker or similar credit metrics at the end of 2014, but projects that the financial profile will continue to fall within the current rating, based on currently strong credit metrics. If market conditions were to deteriorate markedly (e.g., deterioration of sales in China) leading to a sharp deterioration in operations and credit metrics, it may lead to negative rating action, although this currently remains unlikely. Overall, DBRS expects the ratings to remain stable over the near to medium term, noting CAT’s strong business and financial profiles.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The applicable methodologies are Rating Companies in the Industrial Products Industry and Rating Captive Finance Companies, which can be found on our website under Methodologies.