The Institute for Supply Management’s Manufacturing PMI in the United States advanced to 60.2 in June from May’s 58.7. For the last 12 months, the Manufacturing PMI has averaged 59, ranging between 56.5 and 60.8. Manufacturing sector continues to register growth for the 22nd consecutive month, led by continued expansion in new orders, production and employment. Notably, a reading of 50 points or higher, signals growth.
The New Orders Index registered 63.5 in June, indicating growth in new orders for the 30th consecutive month. New orders expansion continued at high levels, with the index at or above 60 for the 14th straight month. Further, of the 18 manufacturing industries, 17 registered growth in June.
Tariff Woes Remain a Major Hurdle
The trade war has finally been triggered with the Trump administration imposing tariffs of 25% on $34 billion in Chinese imports on Jul 6. China retaliated with tariffs on some imports from the United States. Earlier in March, Trump implemented a tariff of 25% on steel imports and 10% on aluminum imports to counter an "assault on the country" by foreign competitors. This was a bid to reinforce the American steel and aluminum industries which had long been reeling under the onslaught of cheap imports and suffered significant reduction in production as well as employment.
While this was positive news for domestic steel players, the consumers of the metals ranging from construction, manufacturers of auto, aircrafts and machinery to beverage producers, were left worried that the higher tariffs will inflate their manufacturing costs.
Given these concerns, the industrial products
sector (one of the 16 broad Zacks sectors) has declined 11.7%, against the S&P 500’s climb of 3.4%, year to date.
Despite this underperformance, per latest Earnings Trends
report, the Industrial Products sector is expected to put up 24.5% growth in earnings in the second quarter of 2018 while revenues are expected to rise 10.9% in the quarter. The sector has an estimated long-term earnings growth of 11.6%, higher than the S&P500’s 9.8%. This instils optimism in the sector.
(CAT - Free Report
) and Deere & Company
(DE - Free Report
) are two heavyweights hogging the limelight in the sector with market capitalization of $81 billion and $45 billion, respectively. Caterpillar is the world's largest manufacturer of construction and mining equipment and also dabbles in agricultural equipment, while Deere is the one of the world's foremost producers of agricultural equipment as well as a leading manufacturer of construction, forestry, along with commercial and consumer equipment.
Both the stocks carry a Zacks Rank #3 (Hold) currently. Investors keen on this sector is likely to be inquisitive about which one has the more attractive prospects. Let's analyze both these stocks on some key metrics and see which deserves to be a part of your portfolio.
Caterpillar’s stock has rallied 25.6% in the past year, against the Industrial Products sector’s 0.4% dip and S&P 500’s 14.2% rise. Deere’s 9.3% gain came in ahead of the Industrial Products sector’s performance but lagged the S&P 500. Caterpillar is a clear winner here.
The EV/EBITDA metric is usually used to compare two stocks within the same industry or sector and has an edge over other metrics such as P/E because it is not affected by the different capital structures of the two companies. Compared with sector’s EV/EBITDA ratio of 13.6, Caterpillar and Deere are both cheaper propositions with respective reading of 8.7 and 11.4. Caterpillar is cheaper in terms of valuation.
Long-Term Growth Expectations
In terms of long-term earnings growth expectations, Caterpillar scores above Deere with a projection of 13.3% compared with the latter’s 5.7%.
For income investors, Caterpillar has a higher dividend yield (2.3%) than Deere (2.0%). Both have better dividend yields compared with the overall sector’s 1.8%. In June, Caterpillar rewarded its shareholders with a 10% dividend hike following Deere’s 15% dividend hike in May. Deere has an annualized dividend growth of 3.2% over the past five years, while Caterpillar’s growth rate is at 6.1%. Caterpillar wins this round.
Inventory Turnover Ratio
Inventory turnover ratio evaluates the efficiency of an industrial company’s manufacturing process. A high inventory turnover ratio ensures that the company is able to manage its inventory effectively to generate revenues and avoid wastage.
This is one of the most important financial ratios, which is widely used by industrial companies to measure its ability to utilize inventories. In the last year, the inventory turnover ratio for Deere and Caterpillar has been 4.2% and 3.2%, respectively, lower than the sector’s level of 4.7%. However, Deere has registered better inventory turnover than Caterpillar.
Return on Assets
Return on assets (ROA) is one of the key financial ratios for industrials as they rely heavily on inventory to create revenues. An above-average ROA denotes that the company in question is generating earnings by effectively managing assets. Coming to Caterpillar and Deere, ROA for the trailing 12-months (TTM) is 6.5% and 4.0%, respectively. Caterpillar leads on this front compared with Deere and the Industrial Products sector’s 6.1%.
Deere has a net debt-to-capital ratio of 101.8% much higher than Caterpillar’s 71.4%. Both have higher leverage than the industry’s level of 42.2%. Consequently, Caterpillar fares better on this front.
Earnings Surprise: Caterpillar has delivered positive surprises in the prior four quarters, while Deere missed in one. While both have an average positive earnings surprise history over the past four quarters, Caterpillar’s 33.4% outscores Deere’s 4.2%.
Both Caterpillar and Deere are expected to deliver earnings beat in the next quarter. This is because both the companies have the combination of two key ingredients for a possible earnings beat — a positive Earnings ESP
and a Zacks Rank #1 (Strong Buy), 2 (Buy) or 3.
You can uncover the best stocks to buy or sell before they’re reported with our Earnings ESP Filter
Deere has a Zacks Rank #3 and an Earnings ESP of 2.22%.
Caterpillar has a Zacks Rank #3 and an Earnings ESP 0.33%.
Estimate Revisions: For Caterpillar, the Zacks Consensus Estimate for fiscal 2018 has moved up 17% to $10.74 while the estimate for fiscal 2019 has gone up 13% to $11.92 in the past 90 days.
For Deere, the Zacks Consensus Estimate for Deere has moved up 1% to $9.66 for fiscal 2018 and for fiscal 2019, the estimate has moved up 0.3% to $11.49 in the past 90 days.
Earnings Projections: The Zacks Consensus Estimate for Caterpillar for the ongoing quarter is pegged at $2.65, reflecting an impressive year-over-year growth of 78%. The earnings estimate for Deere for the current quarter is pegged at $2.76, depicting a 40% year-over-year rise.
Both have witnessed strong order activity lately. Improvement in construction and cost cutting will drive margins for both the companies. However, Deere’s results will be affected by continued weakness in agriculture sector due to lower farm income. Both will be hit hard by the tariff war.
Our comparative analysis shows that Caterpillar holds an edge over Deere when considering share price performance, valuation, ROA, dividend yield, leverage and both near-term and long-term growth expectations. Deere only scores on inventory turnover.
On comparison, Caterpillar is clearly a better stock as of now.
Some Other Stocks
DMC Global has an estimated earnings per share growth of 20%. Its shares have soared 268% in the past year.
Chart Industries has an estimated earnings per share growth of 27%. Its shares have appreciated 77% in the past year.
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