Jul 22, 2021
[9 min Read]
$CAT - Caterpillar Inc. is the world's leading manufacturer of construction and mining equipment, among other equipment and vehicles. Caterpillar operates under 4 main business segments, which consist of Construction Industries, Resource Industries, Energy & Transportation, and Financial Products.
Business Reporting Segments:
Caterpillar has an order backlog that amounts to $14.2B in deferred revenues for the fiscal year ending December 2020. Of this $3.6B is expected to be expensed as an allowance for doubtful accounts. This means that Caterpillar is not expecting to realize this $3.6B as revenue. Talking this into account, Caterpillar has approximately $10.6B in deferred revenues, that they can start to realize as early as this year.
In order to undergo my comparable analysis (which is yet to be seen), I needed to find 4 companies that I could use to compare to Caterpillar that will assist me in valuing Caterpillar as a company.
These companies have to be publicly listed, operate in a similar manner, be of similar marker cap, operate in similar geographies, and have valid financial ratios and multiples.
By using the above criteria, I arrived with the following 4 comparable companies:
$DE Stock - Deere & Co: Deere & Co. manufactures and distributes equipment worldwide. Deere also operates in 4 main segments, which include Agriculture, Construction, Forestry, and Financial Services. They compete with Caterpillar in the Construction, and Forestry segments as their product offerings in these spaces are the most similar.
$PCAR Stock - Paccar Inc: Paccar Inc. Is a distributor of trucks and their parts. Paccar has 3 segments to their business Trucks, Parts, and Financial Services. Paccar offers their trucks to some companies that would use Caterpillar machines, so these companies are a bit more complimentary rather than competitive. However, I decided to include Paccar because they have the same target market and they both manufacture vehicles and provide financial services for their end customers.
$TEX Stock - Terex Corp: Terex provides both Aerial Work Platforms, and Materials Processing machinery. Their Aerial platform products include lifts, articulating booms, telescopic booms, telehandlers, and utility equipment. Terex is more of a competitor in the construction space, as they provide machinery that is commonly used on construction sites.
$OSK Stock - Oshkosh Corp: Oshkosh manufactures and markets their specialty vehicle worldwide. Oshkosh provides machines such as telehandlers, wreckers, mixers, cranes among other vehicle and machine offerings. Oshkosh competes with Caterpillar in the mining, railroad, and construction industries.
I was able to calculate my own high and low estimates of Caterpillar's WACC through my models in the DCF model. The low WACC implies an equity/debt weighting of 80% and 20% respectively, and the high WACC implies a equity/debt weighting of 70% and 30% respectively. I then took the average of these two estimates to come to one final WACC estimate of 7.17%.
I used the average growth rate in the average analyst revenue growth forecasts for 2022 and 2023. The average growth rate that analysts are forecasting in this year is around 11.5%. I used this estimate because I believe it to be reasonable, contingent on the fact that Caterpillar can bounce back after the pandemic.
I estimated Caterpillar's CAGR for 2027-2030 to be 4.6%. This is because this was their average Gross Profit CAGR, over the past 5 years (when factoring out the effects of covid). I think that Caterpillar will return to this level of steady growth after they bounce back from covid.
In the years between 2023-2027, I gradually decreased Caterpillar's growth rate so there was a smooth transition into their 4.6% growth rate through 2030. In these years I decreased the average growth by 1.5% each year until 2027.
Operating Expense Increase Rate:
Over the past couple of years Caterpillars operating expenses have risen by an average of 1.94%. I used this growth rate to forecast their future operating expenses.
Interest Expense Increase Rate:
Over the past couple of years, Caterpillar's interest expense has grown by an average of 5.64%, which I used to forecast their future increases in interest expense.
Depreciation and Amortization Increase Rate:
Over the past couple of years, Caterpillars Depreciation and Amortization figures have grown by a yearly average of 4.39%. I used this increase rate to forecast their future depreciation and amortization expenses.
I was able to locate Caterpillar's annual effective tax rate for the year ending December 2020. I found this in their SEC 10-K filing, which was 25.2%.
Capital Expenditures (CAPEX) Decrease Rate:
Over the past couple of years, Caterpillar's capital expenditures declined by an average rate of 7.8%. I used this decline rate to forecast the future decrease in Caterpillar's capital expenditure figures.
Risk Free Rate:
I was able to find Caterpillar's risk-free rate through Finbox, which estimated it to be 2.25%.
In order to properly value Caterpillar, I underwent a DCF model. In order to conduct this model, I used the information found above in the “valuation information” section of this report. By using this information, I arrived at a fair value of Caterpillar of $210/share, which implies that Caterpillar is currently at fair value. In order to gain more insight into the valuation of Caterpillar, I decided to undergo some comparable analyses.
By comparing Caterpillar's EV/EBITDA multiple to that of their competitors (listed above in the “competition” section of this report), I found Caterpillar to have a fair value of $225/share, which implies an upside of 7%.
By comparing Caterpillar's EV/Revenue multiple to that of their competitors, I found Caterpillar to have a fair value of $146/share, which implies a downside risk of 30%. This is obviously very different from the valuation as achieved through their EV/EBITDA comparable, so I decided to do one more comparable to gain more insight.
The last and final ratio that I compared was the P/E ratio, by doing this I found Caterpillar's fair value to be $200, which implies a downside risk of 5%. All of the comparable analyses show drastically different valuations, and as a result of this I decided to take the average result to achieve one final comparable valuation.
By taking the average result as achieved through the 3 comparable analyses, I arrived at one final comparable valuation of $190/share. This valuation implies that there is a downside risk of an investment into Caterpillar of 9%.
My last valuation estimate came from my dividend discount model. This model predicted that Caterpillar has a fair value of $312/share, which implies a 49% upside.
In order to formulate a plan on investing into Caterpillar, I first decided to take the average result from the 3 different models that I created. By doing this I arrived at one final fair value of Caterpillar of $238/share, which implies an upside of 13%.
My plan for this investment would encompass buying under $210, which is the fair value achieved through the DCF model. After this, I would look to exit at $238/share, which is the final fair value that I achieved for the company as a whole. This plan would yield a 13% return if followed directly.