A Very Hungry Caterpillar

You might expect a century-old manufacturer of heavy equipment to move slowly in a stagnant world economy. But Caterpillar (symbol CAT), the Peoria, Ill.–based maker of tractors and farm equipment, is no sluggard. Instead, Cat is sprinting ahead.

Not only did Cat recently report record profits and higher employment, it also expressed optimism about its prospects. “The world is facing economic challenges, and if it becomes necessary, we are prepared to act quickly, as we did in late 2008 and 2009 [to cut costs],” chief executive Doug Oberhelman said when the firm released second-quarter results. “The good news is, this doesn’t feel like 2008. Interest rates are low, central banks are prepared to inject more liquidity if needed, and housing is coming off lows, not a peak, and seems to be improving.”

Caterpillar is particularly sensitive to economic trends because its customers are in cyclical businesses. So it’s no surprise that its stock stalled earlier this year as concerns about a global slowdown intensified. After the economy went into a tailspin in 2008, Caterpillar’s sales fell nearly 40% in 2009, and profits fell by 75%. Cat slashed its workforce and executives’ salaries and made it easier for customers to cancel orders. Part of its current recovery stems from the loyalty it gained from dealers who would have been devastated if the firm had been a stickler about contracts. Cat has also kept costs down by taking a hard line with unions representing its workers.

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Still, concerns about Europe’s woes and Cat’s ability to compete in China, where it’s struggling, have hurt the stock. Even after jumping 6% over several days following the release of second-quarter results, the shares, at $86 on August 3, were still 26% below their record high, set in February. At that price, they trade at 9 times analysts’ estimated 2012 earnings of $9.62 per share.

Morningstar analyst Adam Fleck says the worries, while justified, are overblown. Caterpillar shares are worth $111 by his estimate. An improving outlook for U.S. construction should also help the company, says analyst Robert McCarthy, of R.W. Baird. He thinks Caterpillar shares will sell for $115 within a year.

Kathy Kristof is a contributing editor to Kiplinger’s Personal Finance and author of the book Investing 101. Follow her on Twitter. Or email her at practicalinvesting@kiplinger.com.

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