The world’s largest manufacturer of construction equipment, Caterpillar, has announced impressive Q2 2010 results, with net profit almost doubling compared to Q2 2009 as a result of strong sales and revenues growth. Increased demand for machinery was the underlying growth driver, with cost-cutting boosting the bottom line.

The company is often considered a bellwether for the construction industry, and indeed industry in general, with equipment used in mining, energy, and a variety of other sectors. Although the initial results indicate an impressive recovery for the construction sector, the results are somewhat distorted by the company’s poor 2009 performance. As production was substantially cut back in 2009, the strong growth reported in 2010 includes considerable base effects and restocking as a result of downsizing in 2009.

The Top And Bottom Lines

Caterpillar posted sales and revenues of US$10.41bn for Q210, rising 31% compared to Q209. The company recorded growth in all regions, owing to a combination of low interest rates and an expected recovery in demand, which has motivated fleet renovations. In addition, the restocking of equipment and machinery – compared to a cut in production implemented in 2009 – was a key driver.

Net profit for Q210 soared by 91% y-o-y to US$707mn. Cost-cutting combined with the growth in revenues have led profits to almost double. For the first half of 2010, net profits reached US$940mn compared to US$259mn in H1 2009. Based on substantial gains in Q210, Caterpillar has increased guidance for its full year results. Sales and revenues are now expected to be within the US$39bn-US$42bn range and the profit outlook has been raised to US$3.15-US$3.85 per share.

Seeing Things In Context

However, the figures are somewhat distorted. When comparing 2010 to 2009, the company’s relative performance in 2009 to 2008 adds clarification. In Q2 2009, sales and revenues fell 41% compared to Q2 2008, while net profit dropped a substantial 66% y-o-y. When looking in value terms, net profit for the first half of 2010 was still down 54% on 2008, when it reached US$2.03bn. In light of this, continued weakness in the global construction industry cannot be denied. Although most countries in the world will post industry growth in 2010, it is a tentative recovery, with underlying weaknesses in a number of markets, leaving them vulnerable to the headwinds of Chinese and US economic slowdowns in H2 2010 and 2011.

Growth in the construction industry is unlikely to return to the pre-2008 highs over the next five years (2010-2014), making 2010 gains a one-off due to 2008/2009 base effects. The headwinds from a slowdown in China are acknowledged by Caterpillar; however, it still indentifies China as that with the single largest opportunity for construction equipment manufacturers in the world. Japan’s Komatsu, the second-largest construction equipment manufacturer in the world, is equally positive about China’s potential; in Komatsu’s FY2009/10 results (April 1 2009 to March 31 2010) the only region (as categorised by the company) to post growth was China, with 15% growth in sales for the 12-month period. The company is ramping up production to meet increased demand from China, showing that Komatsu also believes there is long-term potential for China to be a fundamental driver of revenues.

A recent revision in BMI’s China construction industry forecasts echoes this view, with industry value estimated to have overtaken the US in 2009 to become the largest in the world, and industry growth almost unparalleled. However, BMI is still factoring in a substantial slowdown in the sector, and although growth will still be strong, such incredible gains experienced in 2009 and 2010, we believe, are a thing of the past.