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Caterpillar On Impact Of Trump's Import Tariffs


With Trump's import tariffs to revive the rust belt, will Caterpillar still be able to achieve the projected profit goal for 2018? Caterpillar tells RTTNews that it expects strong North American construction pricing in fiscal 2018 to offset cost increases.

Caterpillar Inc. (CAT) and Boeing (BA) are the closely watched DOW components in the recent past, as these two stocks represent 14% of the index. A tight rein on expenses and improving economic conditions across many end markets, helped Caterpillar post strong results for the fourth quarter and fiscal 2017. In the last 52 weeks, the stock has nearly doubled, and played a crucial role in lifting the Dow 30 index, along with Boeing. Now, with U.S. President Trump's 25% import tariff on Steel and 10% on Aluminum, Caterpillar, which makes construction and mining equipment, is likely to face cost increases.

When releasing fourth quarter results in late January, Caterpillar guided for a 2018 profit of $7.75 - $8.75 per share or $8.25 - $9.25 per share, excluding $400 million in restructuring costs. The outlook is based on an expected increase in sales volumes across the three main segments in which the company operates - Construction, Resource, and Energy & Transportation.

Perceived sales growth drivers for 2018 include

*expected improvement in residential, non-residential and infrastructure markets in North America, which accounted for 46% of construction revenues in 2017. The company believes that construction activity in Asia Pacific - the next highest construction-revenue contributing geography in 2017 (27% of construction revenues) - is expected to continue to grow in fiscal 2018 as well. Construction Sales in Asia/Pacific were higher, primarily due to increased building construction and infrastructure investment in China. The company said in late January that it sees 2018 sales in China to be higher.

* global economic momentum and increasing commodity prices should restore miners' business confidence and encourage mining businesses to invest in equipment replacement cycles, while higher machine utilization levels should support continued strong after-market parts opportunities, says the company.

*Strong gas compression and well servicing activity in North America, recent acquisitions in rail services and the slight up-tick in Power Generation business after a multi-year downturn is expected to support the company's Energy & Transportation segment.

A lower 24% tax rate, including the impact of U.S. tax reform, also buttresses the strong 2018 outlook.

But, now with new import tariffs, will Caterpillar still be able to achieve the projected profit goal for 2018?

In its recent 10K filing, Caterpillar defines the following risk...

"The implementation of more restrictive trade policies, such as more detailed inspections, higher tariffs or new barriers to entry, in countries where we sell large quantities of products and services could negatively impact our business, results of operations and financial condition. For example, a government's adoption of "buy national" policies or retaliation by another government against such policies could have a negative impact on our results of operations."

The import tariffs come into effect on March 23, excluding only Canada and Mexico that too with limitations. Canada is the largest steel exporter to the U.S. About 16.7% of U.S. Steel imports come from Canada, while Mexico ships 9.4%. Any other country that feels it deserves an exemption is encouraged to make a case for one. A deal with Australia is in the cards already, according to a recent Trump tweet.

Caterpillar sources its raw materials and manufactured components from suppliers both domestically and internationally. The company distributes its equipment to 192 countries through a strong dealer network (48 dealers in the U.S, and 123 outside the U.S.). Sales and revenues outside the United States were 59% of consolidated sales and revenues for 2017, 2016 and 2015.

On top of cost increases, import tariffs may spook retaliatory tariff action from the countries Caterpillar serves outside the U.S.

To the question, if the company can still achieve profit goals for 2018, Caterpillar told RTTNews that while it was still studying potential impacts on steel prices, it believes that strong North American construction activity is likely to support pricing actions to offset cost increases in 2018.

The company also said that most of the steel used in the U.S is domestically sourced, which should give it short-term protection, and somewhat contain the cost increases in 2018. However, the company added that recent exemptions from Tariffs make it difficult to predict the impact on domestic steel prices.

A robust order book is currently in place for the company. At December 31, 2017, Caterpillar reported a backlog of about $15.8 billion vs. $12.1 billion at December 31, 2016, thanks mainly to a significant increase in Resource and Construction Industries. About $2.9 billion of the total backlog at December 31, 2017, was not expected to be filled in 2018.

The stock now trades around 9% off its recent 52-week highs, and any dip would be an attractive buy point, based on the company's current fiscal 2018 outlook. However, import tariffs inject a good deal of uncertainty in the prospects of the stock, which otherwise has at least 25% upside from current levels, if everything goes as planned.

For comments and feedback contact: editorial@rttnews.com

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