Caterpillar Results Disappoint

Caterpillar CAT shares declined nearly 10% after the company reported fourth-quarter adjusted EPS of $0.44, 15% below consensus estimates. The main contributor to the miss was lower operating margin in construction industries. Management also shared its 2019 GAAP EPS guidance of $11.75 to $12.75, which was below our estimate of $12.81. As we incorporate information from the quarterly report and update our margin assumptions, we are putting Caterpillar shares under review because we anticipate a reduction in our fair value estimate that may exceed 10%.

The performance of the construction industries segment during the quarter was the biggest disappointment. While revenue grew approximately 8% year over year, operating margin declined to 14.8% from 15.8%, well below our estimate of 20.7%. Issues cited for the margin decline included weak demand in Latin America and the Middle East. At the same time, freight and materials costs were elevated. Consistent with our research, management was upbeat on U.S. construction activity for 2019.

Caterpillar's resource industries segment maintained its upward growth trajectory, increasing revenue 21% year over year, and segment operating margin increased to 14.3% from 9.1%. Mining customers continued to invest in capital equipment as commodity prices remain supportive. Management remained positive about its 2019 outlook for the segment due to ongoing reductions in customers’ idle assets. Additionally, there are early indications of strong demand for quarry and aggregate machinery.

Caterpillar’s energy and transportation segment also showed healthy growth in the quarter. Revenue increased 11% year over year, while operating margin increased to 17.2% from 15.5% in the year-ago period. Strong power generation sales, especially to data centers, contributed to the segment’s performance. Rail service revenue also increased. A strong U.S. economy and robust demand for gas compression equipment are likely to boost 2019 segment revenue 2019.

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