Caterpillar Inc (CAT)

• Caterpillar is expanding its large engine output capacity by over 125% compared to 2023 to meet strong demand from data centers and distributed power generation. This investment positions the company to capitalize on growth in data centers, increased grid demand, and the shift towards alternative fuels like biofuels and hydrogen blends. -
• The Solar Turbines business in oil and gas is experiencing robust growth, with strong booking and quotation activity for gas compression and international projects. This indicates sustained demand and potential revenue growth in this segment. -
• The company remains bullish on long-term mining prospects due to the global energy transition driving increased commodity demand. Caterpillar anticipates higher services revenues supported by high utilization of its products, elevated fleet age, low number of parked trucks, and increased inquiry and order activity for large mining trucks. -

• Sales and revenues declined 4% in Q3 due to lower-than-expected sales in Construction Industries and timing of deliveries in Resource Industries and Energy & Transportation, with sales to users in Construction Industries down 7% and Resource Industries down 18%, indicating weakening demand in key segments. - -
• The company is facing increased competitive pressure in North America, especially in Construction Industries, partly due to the depreciation of the yen, leading to competition from international players and potential pricing pressures. Additionally, the company is at the higher end of the inventory range, which could impact future sales. -
• Management expressed concerns over the sustainability of current high margins, acknowledging potential pricing headwinds and the need to balance margins and market share, suggesting that future profitability may be under pressure. - -

1. Margin Outlook
   Q: Is the strong margin performance sustainable?
   A: Management emphasized that their primary measure of profitable growth is increasing absolute OPACC dollars. They are focused on remaining competitive across diverse markets and aim to increase absolute OPACC dollars. Investors can use their margin target ranges to gauge future expectations. -

2. Pricing Pressure in Construction
   Q: When will we feel the max pricing pressure in Construction Industries?
   A: The company is already experiencing pricing pressure due to increased merchandising programs in Construction Industries, impacting the P&L immediately. The lag impact on reserves will affect the next several quarters. - They are seeing merchandising programs return to normal levels, but this creates a headwind on price. -

3. Resource Industries Outlook
   Q: What is the outlook for the Resource Industries segment?
   A: The decline is primarily due to products like articulated trucks and off-highway trucks. While not providing 2025 guidance yet, management is bullish on mining's long-term prospects due to demand for commodities like copper needed for the energy transition. They expect higher services revenue given high utilization, elevated fleet age, and low parked trucks, with increased orders for large mining trucks. -

4. Construction Demand into 2025
   Q: What are dealers and customers saying about Construction Industries demand into 2025?
   A: The decline was due to lower rental fleet loading by dealers, despite increasing dealer rental revenue. A prior large pipeline deal didn't recur. Positively, government-related infrastructure remains healthy, with only 27% of the $348 billion IIJA funding spent as of August 2024, indicating strong future activity. -

5. Large Engine Capacity Expansion
   Q: What's the outlook for large engine capacity expansion and impact on margins?
   A: The company expects to increase large engine output capacity to more than 125% of 2023 levels over four years but hasn't detailed annual figures. Demand is driven by data centers and opportunities in distributed generation. Margins in Energy & Transportation have increased due to mix and volume, and there's potential for further margin improvement. -

6. Oil and Gas Segment Outlook
   Q: What is the outlook for the oil and gas segment into 2025?
   A: Well servicing remains weak, but gas compression in reciprocating engines is expected to be up for the year, with some softening in Q4. Solar Turbines' oil and gas business is strong with robust bookings and quotations. Potential resumption of LNG export permitting could be a positive medium- to long-term factor. -

7. Competitive Dynamics and Currency
   Q: Are you seeing increased competition due to yen depreciation and China weakness?
   A: Management remains focused on competitiveness, investing in technology and services. While yen depreciation can temporarily aid competitors, currency effects fluctuate over time. They are confident in delivering long-term value to customers. -

8. Backlog and Order Insights
   Q: What drove the strong backlog and what's the delivery timeline?
   A: The robust backlog in Energy & Transportation, driven by power generation for reciprocating engines and strong Solar Turbines orders, offset a decline in machines. Typically, 75% of the backlog is expected to be sold within 12 months, though some large engine orders extend beyond that. - -

9. Dealer and Used Inventories
   Q: Are you comfortable with dealer and used inventory levels heading into next year?
   A: Used inventory levels remain historically low, with slight increases but acceptable pricing. The planned Q4 dealer inventory reduction should bring inventories to about flat year-over-year, aligning with dealer expectations, and no significant further reductions are anticipated. -

10. China Market Position
    Q: What is your current market position in China amid potential stimulus?
    A: China accounts for less than 5% of consolidated sales as the market remains weak, especially in excavators above 10-ton. They have not seen any impact from potential stimulus and note it's too early to assess effects. -

11. Power Generation Growth Drivers
    Q: What drove the acceleration in power generation growth?
    A: Growth stems from reallocating engines between oil and gas and power generation based on demand. Solar Turbines' power generation business is also increasing. Efforts are underway to boost throughput in reciprocating engine facilities ahead of major capacity investments. -

12. Opportunities with Solar Turbines
    Q: What's the opportunity in power generation for Solar Turbines?
    A: There's increased business in power generation, including trailerized units for rental fleets meeting North American electricity demand. Solar is introducing the Titan 350, their largest gas turbine, enabling competition in new areas. Customer interest in this new product is strong. -

Quarterly guidance for Q4 2024:

• Fourth Quarter Sales: Slightly lower compared to the prior year - - - - - (no prior guidance)
• Construction Industries: Lower sales to users in the fourth quarter - - - - - (no prior guidance)
• Resource Industries: Slightly lower sales in the fourth quarter - - - - - (no prior guidance)
• Energy & Transportation: Slightly higher sales in the fourth quarter - - - - - (no prior guidance)
• Enterprise Margin: Expected to trend lower in the fourth quarter - - - - - (no prior guidance)
• Price Realization: Expected to trend lower with a headwind from merchandising programs - - - - - (no prior guidance)

Annual guidance for FY 2024:

• Sales and Revenues: Slightly lower than previous expectations due to lower-than-expected third-quarter sales - - - - - (lowered from “Slightly lower than the record levels of 2023” - - - - - )
• Adjusted Operating Profit Margin: Expected to be above the top end of the target range for the full year - - - - - (no change from prior guidance - - - - - )
• ME&T Free Cash Flow: Near the top of the $5 billion to $10 billion range - - - - - (no change from “In the top half of the $7.5 billion to $10 billion range” - - - - - )
• CapEx: Around $2 billion - - - - - (lowered from “Between $2 billion and $2.5 billion” - - - - - )
• Restructuring Costs: Approximately $400 million - - - - - (lowered from around $450 million - - - - - )
• Global Annual Effective Tax Rate: 22.5%, excluding discrete items - - - - - (no change from 22.5%, excluding discrete items - - - - - )