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

DBRS Limited (DBRS) has today confirmed the Issuer Rating and Senior Unsecured Debt ratings of Caterpillar Inc. (Caterpillar) at “A”; the Issuer Rating of Caterpillar Financial Services Corporation (CFSC) at “A”; and the Medium-Term Notes and Commercial Paper ratings of Caterpillar Financial Services Limited (CFSL) at “A” and R-1 (low), respectively (collectively, CAT or the Company). All trends are Stable. The market downturn in CAT’s key energy and mining sectors as well as weaker global economic growth, especially in large emerging markets, have caused a material decrease in the demand for capital goods equipment. As a result, CAT’s operating earnings and cash flows declined materially in 2015 compared with 2014.

However, even with the significant weakening of key metrics, the Company’s financial profile remains solid for the current rating. The adjusted cash flow-to-debt ratio of 47% remains solidly in the “A” rating range for an industrial goods manufacturer while adjusted debt-to-EBITDA of 1.8 times is in the lower end of the “A” range. Under the current harsh operating environment conditions, this is a favourable performance.

CAT’s rating remains underpinned by its superior global brand recognition, its high-quality and low-cost production capabilities, its excellent distribution network, its demonstrated ability to generated free cash flow consistently and in substantial quantities as well as its underlying support from the Financial Products division, which facilitates equipment sales. A key challenge for CAT has been its exposure to cyclically volatile sectors: oil and gas, mining, construction. While the Company enjoys some diversification benefits by operating across these different sectors, the recent downturn that has affected all three sectors at the same time has shown that the diversification benefits with respect to CAT are not as significant as previously assessed.

With no significant recovery anticipated in the market conditions facing CAT’s customers in the energy and mining sectors, economic struggles in key emerging markets (including China, Russia and Brazil) that are expected to continue to reduce construction activities and only a modest overall recovery in global economic growth, 2016 is expected to be another difficult year operationally for Caterpillar. This view is supported by the weaker backlog position CAT experienced at the end of 2015 compared with the previous-year period. Overall sales for the Company are projected to decline by 11% to $42 billion (mid-point of $40 billion to $44 billion range) in 2016. The weakness is expected to be broad-based, with all three key equipment manufacturing segments falling: Energy & Transportation, 10% to 15% down; Construction Industries, 5% to 10% down; and Resource Industries: 15% to 20% down.

Given this unfavourable outlook, cash flow generation is expected to fall in 2016. The Company intends to spend less on capital expenditures (capex), but has reiterated its commitment to paying its dividend. DBRS believes that this will be manageable. Debt maturities for the equipment business are modest with only principal plus accrued interest of $517 million due in 2016 and $531 million due in 2017. Overall, assuming that higher dividends and lower capex roughly offset one another, CAT is poised to generate another net free cash flow surplus, albeit more modest than in 2015. While credit metrics are expected to weaken in the near term, the Company maintains enough cushion to withstand certain metrics below its current rating range over the near term. CAT’s strong business profile remains largely intact, supporting the Stable outlook; however, DBRS is concerned about the severity of the performance decline. At this stage, DBRS does not view the market downturn as reflecting any structural deterioration in the long-term demand for Caterpillar’s products. DBRS concurs with CAT’s challenging market outlook for 2016. Should operating performance decline significantly more than DBRS currently projects, a negative rating action such as a trend change may be required.

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, Global Methodology for Rating Finance Companies, DBRS Criteria: Commercial Paper Liquidity Support for Non-Bank Issuers and DBRS Criteria: Guarantees and Other Forms of Explicit Support, which can be found on our website under Methodologies.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

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