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Outlook for heavy equipment sector remains clouded

Oct 31, 2013 | 08:00 PM | Bill Beck

Tags  World commodity markets, heavy equipment manufacturers, Caterpillar Inc., Terex Corp., steel, earnings

The abrupt drop in prices on world commodity markets during the past year has created a clouded outlook for the nation’s heavy equipment manufacturers. The sector, which includes industry giants Caterpillar Inc. and Terex Corp., is a major consumer of steel.

Peoria, Ill.-based Caterpillar posted net income of $960 million in the second quarter, down 43.5 percent from $1.7 billion in the same period last year, and per-share earnings fell to $1.45 from $2.54 on revenue of $14.62 billion, down 15.8 percent from $17.37 billion, attributing the drop to weak mining sales. Caterpillar has revised its 2013 outlook to per-share earnings of about $6.50 on revenue in a range of $56 billion to $58 billion vs. an earlier estimate of earnings of about $7 per share on revenue of $57 billion to $61 billion.

“With the sharp reduction in dealer inventory and the decline in mining, 2013 is turning out to be a tough year and we’ve already taken action to reduce costs,” Caterpillar chairman and chief executive officer Doug Oberhelman told shareholders. “During the first half of the year we’ve had temporary factory shutdowns, rolling layoffs throughout much of the company and reductions in our flexible work force, and we’ve reduced discretionary and program costs. While we’ve taken significant action already, we will be taking additional cost-reduction measures in the second half of 2013.

The U.S. mining equipment manufacturer continued its cost-reduction initiatives when it axed 115 workers at its South Milwaukee and Oak Creek, Wis., production facilities in October following the layoff of 260 workers at South Milwaukee in June.

Terex reported a similar second-quarter decline in results. The Westport, Conn.-based company’s net income plunged 75.2 percent to $21.3 million from $85.9 million a year earlier and per-share earnings fell to 18 cents from 77 cents on a 5.1-percent drop in sales to $1.91 billion from $2.01 billion.

“The marketplace overall has softened compared to what we originally anticipated for 2013,” Terex chairman and chief executive officer Ron DeFeo told shareholders. “The second-quarter results reflect this lighter order environment overall, as our cranes, construction and material handling and port solutions segments all experienced lower revenues than originally expected.”

Terex, like Caterpillar, has instituted cost-reduction initiatives across all of its operating divisions, including eliminating four facilities and reducing the number of workers by 12 percent in its construction division since early this year. The company has told analysts in recent months that its business simplification initiatives will reduce complexity, streamline operations, create a more clear accountability path and achieve increased speed in execution. Restructuring costs negatively impacted second-quarter profits, but Terex hopes its cost-reduction initiatives will lead to savings in 2014 and beyond.

North America’s heavy equipment manufacturers have experienced a drop in business worldwide. The European construction market continues to languish in the doldrums, a victim of the economic woes affecting the eurozone; the normally lucrative Middle East market for heavy equipment has all but dried up, impacted by civil war in Syria and unrest in Turkey and Egypt; and China’s 2013 slowdown has affected all areas of that nation’s economy, from manufacturing to steel and energy production. And mining has been suffering from a global crash in commodity prices for much of the year.

Construction machinery exports have correspondingly tanked. The Association of Equipment Manufacturers (AEM), which represents heavy equipment makers such as Caterpillar and Terex, said recently that U.S. construction machinery exports in the first half of 2013 dropped 21.2 percent to $10.8 billion from $13.7 billion a year earlier, with all regions--with the exception of Central America--recording double-digit declines.

Construction equipment exports to Europe were off 20 percent from the first six months of 2012, exports to Asia dropped 24 percent and purchases by Australia and Oceania, which have seen declines in coal and iron ore exports to China, were off 62 percent. Terex noted that global markets remain unnaturally soft for its dirt- and scrap-handling equipment.

Not all is doom and gloom in the sector, however. Farm equipment exports were down 9.5 percent in the first half of 2013 but up 8 percent to Canada, by far the largest export market for U.S. farm equipment manufacturers at $2.4 billion. Shipments to Mexico, the second-largest export destination for U.S. farm equipment, totaled slightly more than $500 million, up 2 percent compared with the first six months of last year, while China, the fourth-largest market, was down 1 percent.

That relatively strong export showing was one reason Moline, Ill.-based Deere & Co.’s fiscal third-quarter net income jumped 26.5 percent to $996.5 million from $788 million a year earlier on sales that rose 4.4 percent to $10.01 billion from $9.59 billion.

“Deere’s success is a reflection of considerable strength in the farm sector, especially in North and South America. We also are making further progress executing our wide-ranging operating and marketing plans, which call for expanding our global market presence while keeping a close watch on costs and assets,” Deere chairman and chief executive officer Samuel Allen told shareholders.

Deere sales have been pushed domestically by record corn prices during the spring and summer and a bumper corn and wheat harvest. However, corn prices have dropped steadily on the heels of that record harvest, and farmers are notorious for deferring equipment purchases at times of low commodity prices.

Caterpillar and Terex executives point out that the crash in commodity prices is unlikely to be a long-term phenomenon. Caterpillar director of investor relations Rich Moore told attendees at Jefferies & Co. Inc.’s Global Industrial Conference in mid-August that the drop in mining prices was getting a disproportionate share of attention among the nation’s financial press. Moore noted that a number of global mining giants--including Toronto-based Barrick Gold Corp., Phoenix-based Freeport-McMoRan Copper & Gold Inc., Melbourne, Australia-based BHP Billiton Ltd., London-based Rio Tinto Plc, Rio de Janeiro-based Vale SA and St. Louis-based Peabody Energy Corp.--all reported asset write-downs and dismal quarterly results this past spring and summer.

But Moore said that investors needed to look at mining long term, which he characterized as bright. With the world population growing by 6.5 million people per month and declining ore grades, greater depth and increasing ore hardness facing hard-rock miners, the demand for earthmoving equipment will inevitably recover and rise. He cited that one consultant’s study estimated world demand for iron ore and copper will increase more than one-third by 2020.

Moore further noted that world demand for electricity will nearly double by 2040, and coal--even though it is being replaced as an energy fuel in North America and Europe--still remains the largest source of electric power generation in the world, accounting for more than 70 percent of the world’s electricity. China, he said, continues to commission a new coal-fired power plant every week, on average.

Caterpillar dealers, especially those in middle America, have been diversifying into the still-strong agricultural market. For instance, Bloomington, Minn.-based Ziegler Cat, with 20 locations in Iowa and Minnesota, has been expanding its Ziegler Ag Equipment operations in Iowa, Missouri, Minnesota and Wisconsin, and so far this year has opened new facilities in Sheldon, Iowa, and Marshall, Mo.

Terex sees its future in a broad diversification of product lines and a continuing focus on geographic diversification. The company’s construction equipment division manufactures everything from large, off-road articulated and rigid dump trucks to compact construction equipment such as skid-steer loaders. It has four other divisions that manufacture cranes; aerial equipment and telescopic handlers; material processing equipment; and material handling equipment under the Terex, Genie, Powerscreen and Demag brands.

One good-news/bad-news scenario that could accelerate sales of U.S. heavy equipment and farm equipment overseas is continuing government gridlock. The dysfunction gripping Washington could carry over into the 2014 off-year elections, creating the possibility of pressure on the U.S. dollar and encouraging more exports of U.S.-made machinery.

And AEM president Dennis Slater said the bi-partisan Water Resources Reform and Development Act lays “the groundwork for future bipartisan agreements on transportation bills.” The American Iron and Steel Institute also was a strong supporter of the legislation, saying that improved waterway facilities create markets for heavy equipment consumption and facilitate the movement of raw materials to mills and finished steel to end-users. The act includes numerous allocations for improvement of the nation’s inland waterway and port system. Strengthening the nation’s crumbling infrastructure has long been a goal of U.S. heavy equipment manufacturers.

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