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Wednesday, September 10, 2008

* Stock Analysis: Caterpillar Inc. (CAT)

Linked here is a PDF copy of my detailed analysis of Caterpillar Inc. (CAT). Below are some highlights from the above linked analysis:

Company Description: Caterpillar Inc. is the world's largest producer of earthmoving equipment, is also a big maker of electric power generators and engines used in petroleum markets.

Fair Value: I consider four calculations of fair value, see page 2 of the linked PDF for a detailed description:
  1. Avg. High Yield Price
  2. 20-Year DCF Price
  3. Avg. P/E Price
  4. Graham Number
CAT is trading at a discount to 1.), 2.) and 3.) above. If I exclude the high and low valuations and average the remaining two, CAT is trading at a 17.1% discount. CAT earned a Star in this section since it is trading at a fair value.

Dividend Analytical Data: In this section I consider five factors, see page 2 of the linked PDF for a detailed description:
  1. Rolling 4-yr Div. > 15%
  2. Dividend Growth Rate
  3. Years of Div. Growth
  4. 1-Yr. > 5-Yr Growth
  5. Payout 15% of avg.
CAT earned one Star in this section for 3.) above. CAT has paid a cash dividend to shareholders every year since 1933 and has increased its dividend payments for 15 consecutive years.

Dividend Income vs. MMA: Why would you assume the equity risk and invest in a dividend stock if you could earn a better return in a much less risky money market account (MMA)? This section compares the earning ability of this stock with a high yield MMA. Two items are considered in this section, see page 2 of the linked PDF for a detailed description:
  1. NPV MMA Diff.
  2. Years to >MMA
CAT earned no Stars in this section. The NPV MMA Diff. of the $1,794 is below the $7,500 minimum I look for in a stock that has increased dividends as long as CAT has. If CAT grows its dividend at 9.9% per year, it will take 11 years to equal the cumulative earnings from a MMA yielding an estimated 20-year average rate of 4.61%. The 11 years is more than the 10 years maximum I like to see.

Other: CAT is a member of the S&P 500, a Dividend Aristocrat and a member of the Broad Dividend Achievers™ Index. CAT's construction equipment and engine businesses are highly cyclical nature. Through 2009, CAT's EPS growth will likely decelerate with an outlook for ongoing softness in the U.S. economy and moderating trends in Europe. This will likely continue in the near-term.

Conclusion: CAT earned one Star in the Fair Value section, earned one Star in the Dividend Analytical Data section and did not earn any Stars in the Dividend Income vs. MMA section for a net total of two Stars. This quantitatively ranks CAT as a 2 Star-Weak stock.

Using my D4L-PreScreen.xls model, I determined the share price would have to drop to $43.22 before CAT's NPV MMA Diff. decreases to the $7,500 NPV MMA Diff. that I like to see. At that price CAT would yield 3.61%.

Resetting the D4L-PreScreen.xls model and solving for the dividend growth rate needed to generate the $7,500 NPV MMA Differential I'm looking for, the calculated rate is 13.4%. This rate may not be unreasonable. By default my model takes a conservative position in using the minimum of the 1, 3, 5, 7 or 10 year compound annual growth rate; or 15% in certain circumstances. In CAT's case the 9.9% used was the 10-year compound annual growth rate, which is heavily skewed by the earlier years (2000-2003) when CAT's growth rate was between 1.4% and 6.4%. Over the last 6 years the average dividend increase has been 17.1, well in excess of the needed 13.4%.

I would not automatically dismiss CAT based on the historic quantitative data. It is certainty worth being added to my watch list.

Disclaimer: Material presented here is for informational purposes only. The above quantitative stock analysis, including the Star rating, is mechanically calculated and is based on historical information. The analysis assumes the stock will perform in the future as it has in the past. This is generally never true. Before buying or selling any stock you should do your own research and reach your own conclusion. See my Disclaimer for more information.

Full Disclosure: At the time of this writing, I had no position in CAT (0.0% of my Income Portfolio) .

What are your thoughts on CAT?

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