DBRS Confirms CAT Ratings at “A” and R-1 (low), Trends Stable

DBRS has today confirmed the ratings of Caterpillar Inc. and Caterpillar Financial Services Limited (collectively, CAT or the Company) at “A” and R-1 (low), respectively. The trends are Stable. The ratings confirmation reflects CAT’s strong business profile as a leading global producer of construction and mining equipment and recent enhancement of product diversification through its ability to increase its product offering in both surface and underground mining. During 2011, the Company completed the $8.6 billion (net of $200 million of acquired cash) purchase of Bucyrus International Inc. (Bucyrus), as well as the EUR 580 million acquisition of Motoren-Werke Mannheim Holding GmbH (MWM). CAT’s record-high revenues and earnings in 2011 were sufficient to absorb the impact of higher debt levels required to fund the acquisitions, keeping the Company’s financial profile in line with the ratings. DBRS expects the ratings to remain stable over the near to medium term as underlying mining and construction fundamentals further support demand for CAT equipment in both developing and developed countries.

The Company generated record-high revenues and earnings in 2011, driven by strong volumes and price increases. Growth in the global economy increased demand for commodities and kept commodity prices at levels that encouraged investment, supporting higher sales of equipment for mining. Despite weak construction activity in the developed countries, higher sales were driven by customer demand to upgrade machine fleets by replacing older equipment and from dealers refreshing equipment in their rental fleets. Earnings were partially offset by higher manufacturing costs, selling, general and administrative costs, research and development (R&D) expenses and forex headwinds.

Higher earnings resulted in record cash flow from operations, which was more than sufficient to cover higher capex and dividend spends. In addition, strong working capital management led to significant net free cash flows. To fund the Bucyrus acquisition, the Company used free cash flows, commercial paper and issued $4.5 billion in long-term debt. As expected, CAT’s record-high earnings were more than sufficient to absorb the increased debt levels, and all coverage metrics were in line with the rating at the end of 2011. However, adjusted debt-to-capital at 47.1% is aggressive for the ratings.

Going forward, CAT expects to surpass 2011 revenues and earnings in 2012. Supporting the increased sales forecast is the fact that CAT will have a full year of sales related to the Bucyrus and MWM acquisitions. At the end of 2011, CAT had $29.8 billion in backlog ($4 billion of which is not expected to be filled until 2013), compared with $18.7 billion at the end of 2010. A large portion of the backlog – $4.1 billion – is attributable to the acquisition of Bucyrus. Mining fundamentals are projected to remain strong, which will drive demand for mining equipment globally. CAT also anticipates that sales of new machines for construction in developed countries will improve as customers continue to rebuild fleets during 2012. In addition to stronger volumes, the Company expects to increase prices by 1% to 1.5%, which should help offset increases in labour and material costs and higher R&D expenses, as well as expected higher tax rates due to the unfavourable country mix.

Given the expectation of higher earnings, the Company is forecasting strong cash flow from operations, which is expected to cover CAT’s announced increase in capex spending to approximately $4.0 billion in 2012 (compared to $2.5 billion in 2011), and DBRS’s projection of a higher dividend payout. DBRS expects that the Company will generate solid free cash flows. DBRS does not expect the Company to make any large debt repayment apart from an upcoming 2012 $500 million maturity. Given higher projected earnings and slightly lower debt levels, DBRS expects adjusted leverage to improve to a level between 35% and 40% by the end of 2012. DBRS also forecasts that 2012 adjusted debt-to-EBITDA will improve to around 1.0 times and cash flow-to-debt to move closer to the 70% range. Interest coverage metrics are projected to stay above 15 times. We also expect CAT to maintain a conservative financial profile and as such we believe that CAT will carry out its growth strategy in a measured, disciplined and financially balanced manner.

DBRS expects CAT’s rating to be stable in the near to medium term, as underlying fundamentals in the mining industry (due to attractive commodity prices) and in the construction industry support continued demand for CAT’s products in both mature and emerging economies.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating Companies in the Capital Goods Dealership Industry, which can be found on our website under Methodologies.