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Caterpillar, Inc. (NYSE:CAT)

Barclays Industrial Select Conference Call

February 20, 2014 9:45 AM ET

Executives

Rich Moore - Director of IR

Matt Hohulin - Manager of IR

Analyst

Andy Kaplowitz - Barclays Capital

Andy Kaplowitz - Barclays Capital

Okay, we are going to get started again. We are very excited to have Caterpillar with us here. We missed you guys last year. You are back this year, again, very excited for that. We have Rich Moore with us, who is the Director of Investor Relations, and Matt Hohulin, who is the Manager of Investor Relations.

I want to start off I am going to turn over to Rich he’s got some introductory comments. Rich, if you could talk about your retail sales data that came out today and you did change the reporting a little bit so maybe you could talk about that. And then maybe you could give us some highlights of your recently reported earnings, your outlook, anything you want to talk about with that. And then we will get into the automated response system and I’ll start my Q&A.

Rich Moore

Sure. Well, thanks Andy and it’s great to be here in Miami coming from Peoria, Illinois it’s great to come here in fall for a couple of days so thanks for having us. And I do need to read some forward-looking statement the disclosure here.

So this morning we’ll be discussing forward-looking information that involves risks, uncertainties and assumptions that could cause our actual results to differ materially from the forward-looking information. Additional information concerning the factors that could cause our results to materially differ can be found in the Risk Factors section of our Form 10-K filed with the SEC.

So with that Andy I can give maybe a little bit of a comment about our retail statistics that we released this morning and one of the things that I did want to highlight is that the format of the report changed this time we actually broke out machines between resource industries and construction industries to give a little bit more clarity about the direction of each of those segments. And the reason why we did that again we’re always looking at how we can improve the information, clarity to the market and we all know that during the last 12 months the resource industries’ sector was down, the segment down quite a bit and this really wanted to show the differences between the segments and that’s really how we look at it and report it externally that’s how we look at it internally so it’s just a more direct reflection of how we look at those two segments.

And Matt do you want to cover maybe what the numbers actually show?

Matt Hohulin

Just in terms of the numbers themselves I think the overall representative of what we have in our 2014 outlook. In total in December we were down 9 for the world for machines and we’re down 8 in January, so a slight improvement. For our systems in December we were down 6 and in January we’re showing up 2. Within the breakdown that Rich just described resource industries for the month of January for the world we’re down 37% and CI for the world is up 9% again representative of our outlook.

Rich Moore

And just remember these are three month rolling year-over-year comparison.

Andy Kaplowitz - Barclays Capital

Maybe I could ask you a little bit about retail sales in the sense that comps have continued to get easier I mean yes things have improved a little bit month-to-month but still only a very slight improvement with generally easier comps. So, what’s really holding you back, is it still mining needs to still lap the easier comps basically or…?

Rich Moore

Well, remember that this three month growing period we still have November and December of ’12 in that so and then resource industries that was still a pretty good time for dealer deliveries. So the comps really won’t get much better in that segment for a little while long ago.

Andy Kaplowitz - Barclays Capital

Okay. And then electric power actually showed some descent inflexion there. So maybe you can talk about that it’s been a pretty lethargic business for you for a quite a while I know it’s lumpy when you sell turbines so should we read anything into that and also electric power tends to be pretty levered in Europe do you see any improvements here in Europe in general beyond what you’ve seen over the last six months?

Rich Moore

Well yes, electric power business is quite sensitive to regional GDP growth and we do expect and we have seen some improvement in some regional GDP output so that has helped I think the group internally has been performing very well too. So I think when you look at Europe in particular there is I think an expectation that that time they will continue to improve modestly and so that should also support the electric power business going forward into ’14.

Andy Kaplowitz - Barclays Capital

Okay. We should probably do the automated response question one and two now and then we can continue. You currently own the stock one yes overly two yes equally three yes underweight four no. Lot of people know we can convince them all today, question number two what is your general buy for the stock right now one positive two negative three neutral? Okay, so a lot of the negative and neutral and very little positive actually.

Rich Moore

We have a tough cal today.

Andy Kaplowitz - Barclays Capital

I think that’s good again a lot of convincing. So obviously I think a lot of people are negative or neutral based on sort of the mining drag that you have. So maybe you should talk about that a little bit. In the sense that one thing that you said on the call which I think is important is if you look at large mining trucks they’re already down sort of 75% from the peak if you include 2014 in your expectation. So as a Company when you look towards that metric you said yourself okay, like we have already really experienced the average recession, it really shouldn’t get that much worse. And then what are you seeing, do you need to see an uptick in orders just to make that 10% down maybe your forecast?

Rich Moore

Well, yes when you look at our outlook of down 10%, we also commented that we think aftermarket will have stabilized and be more flattish for 2014. So that would really imply that the OE side of the outlook is down more than 10%. So that’s something to keep in mind as well. And also if you think about what we went through in 2013 with the sizeable dealer inventory adjustment of over 3 billion and a big part of that was in resource industries. That’s also reflection of how the end-market is performing compared to how we performed in 2013. So going forward now there has been a lot of that dealer inventory has been reduced, there is still some additional to go in mining that we expect that to come out as the year progresses. But it is a pretty good reflection of how the end-market demand is expected still to be fairly soft.

Andy Kaplowitz - Barclays Capital

So let’s talk about inventory destocking and the possibility of restocking a little bit. I mean 2013 was a tough year in terms of destocking both in resource industries and in construction. What’s the confidence level that the Company has that at least in construction and power systems we could actually do some restocking here in 2014. And then what’s the Company’s confidence that destocking would be kept to a minimum across the channel in resource industry in 2014?

Rich Moore

Yes, okay a couple of things to point you to there, as we mentioned that dealer destocking for construction in particular and also the power systems is largely behind us. We think that we’ve got a pretty good level of inventory both Caterpillar and dealer inventory going into ’14. So we’ll have a much cleaner look of the end-market performance versus our production in shipments.

Regarding restocking, I think part of the -- within our outlook I would say we’re not expecting significant changes in inventory both up or down. So it’s significantly relatively stable. But restocking has been largely depend on how the year plays out on a sales side as well as how we perform in the overall inventory management processes that we have been looking on quite a bit really through our new group Caterpillar Enterprise Systems. It’s really looking at built in quality, visibility and interconnection throughout from the dealers all the way back to the supply chain with the overall objective of reducing lead times. And as we accomplish that, those steps that will really help us manage inventories better through the cycle. So that’s also at play and we’ve made some good strides on that as well.

Matt Hohulin

Andy I’d add to that too, in terms of the ordering activity in the third quarter and fourth quarter for construction industry it’s been actually pretty good. We have a 90 day window basically if we look at those orders coming in. And with that in mind, and with that good view of the end market we should be able to produce to the dealer inventory needs. As they pull from lane one for those things that they can pull from lane one on and the other that we produce as needed.

Andy Kaplowitz - Barclays Capital

Could you just talk a little bit more about the lane strategy in the sense that again some of the criticism that we hear is that CAT mismanaged inventories through its product distribution centers. But I actually think that’s an opportunity going forward for you guys. So where are you in the process here? Can we count on Caterpillar to get it more right this time as we build the next couple of years to manage the channel better, and what kind of opportunity is that for you guys?

Rich Moore

Well that’s absolutely our expectation and we need to do a better job of managing both our inventory and the whole channel inventory through these cycles. And as I mentioned the Caterpillar Enterprise Systems Group is led by Dave Bozeman and Caterpillar is really going to be at the core of that. But just looking at the PDC performance, we’ve taken a lot of our inventory reduction we have had all through last year a big piece of that was part of the PDC. And so now we feel that we have the right volumes, the right products in those PDCs to help serve the dealers needs. And that also drives the confidence level of the dealers if they can rely on and draw from that source to take their inventories down and manage at an overall channel level that’s lower. So that’s the overall thesis and what we’re looking on to make that a reality and again the Enterprise Systems Group is going to be at the core of making sure that that is optimized.

Andy Kaplowitz - Barclays Capital

And in resource industries how do you know that your bigger customers are not going to continue to differ cancel equipment, so that you can count on only moderate destocking and resource industry that are led. Like how do you -- can you give us any indicator that, give us more confidence that you’re not going to have the same issues in resource industries that you had although last couple of years in terms of more destocking?

Rich Moore

Well I think the best thing I can point you to is how far we’re actually currently producing off of that previous peak and the fact that mining companies are still producing, they are still operating and restructuring the mines. And so you will have the, we eventually just don’t know the timing of it, but we will have the eventual replacement cycle kick in as well as the tactics that we believe they have been using throughout last year of the lane in deferring some of the maintenance repair and rebuilds, that’s also going to have an impact on the aftermarket we believe in 2014. Some of that work is just going to have to be done based on the production levels that the mining companies are actually producing.

Andy Kaplowitz - Barclays Capital

I know the U.S. closed only less than 10% of your mining business but international gas prices obviously are a big topic here. As they continue to move higher that can affect your Company multiple ways; one is in mining, and obviously one is in natural gas applications. So maybe you can talk about a little bit -- have you seen any uptick at all in the aftermarket ordering on the resource industry side. And then how should we view this recent uptick? I think a lot of people think that the natural gas prices spike is just temporary but at the same time, the more that it stays higher the more that several of your businesses can actually benefit from it.

Rich Moore

I think the switching back to coal is something that I think a lot of people are pointing to right now. I am not sure that the data actually supports that yet. I haven’t seen anything that supports that but that is a thesis that’s out there, and it could play out and if that does happen, some of those machines do go back to work, that would obviously help even though it is a fairly small part of our overall mining business. And as you point also to the fact that the higher natural gas prices does help our Energy and Power Systems Group and the supply levels in natural gas has come down pretty significantly over the past few months. And so that also would support the diversity of that Energy and Power Systems Group has, with the drilling and fracing and production levels of natural gas.

And I think when you look at aftermarket, probably again I’ll point back to my comment before, and probably the biggest driver of aftermarket and resource and really what’s factored into our overall resource industry down 10% is the fact that stabilization of aftermarket. And probably the thing I would point to there is really just the expectation that some of the delays and deferrals of the maintenance and rebuilds and repairs that we know, will be going on last year, but some of that will be coming back just based on the production levels of the mine site, that’s probably a bigger driver than maybe an uptick in coal in the U.S.

Andy Kaplowitz - Barclays Capital

Can you remind us going back to Power Systems, I think you’ve said in the past, that electric power is approximately 40% of business and oil and gas is approximately 30% of business, I might be switching that, but I think you’ve said that. And if I look at that oil and gas business that’s 30% of the business, how much of that is sort of directly tied to drilling and fracing because we know that business is down a lot. But can we size with the opportunity as if we actually see more sustained natural gas pricing going forward.

Rich Moore

Yes, it’s a smaller percent but the largest segment of our oil and gas business is compression. When we think of the gas turbines and compressors from Solar as well as the recip engines that come from CAT, CAT branded. That’s really a bigger part of oil and gas sector, but certainly that the drilling, the fracing, the pressure pumping dynamic that we saw a pretty big slowdown over the past few years and again I would think that with the storage levels where they are and some of those fundamentals that really are playing out in that industry that might be a little bit better this year than we saw in the past few years.

Andy Kaplowitz - Barclays Capital

Is it fair to say that might be a quarter of that 30%, just making up numbers?

Rich Moore

We don’t break that out in that much detail, but that’s probably even a little high for what that specific part of the oil and gas business is for us.

Andy Kaplowitz - Barclays Capital

Okay, that’s fine. Let me ask you, actually I want to ask you one other number on here, the industrial engines were up 81% and you’ve talked about a pre-buy impact so don't, watch out for lower numbers as you go into the first quarter. I know it’s a three months rolling average, and we understand that, but if you look at the January -- I would have thought that that number would come down a little bit. I guess it’s how it says. So maybe any comments you can give us on that?

Rich Moore

Well, yes. We do believe that there was a pre-buy in the last half of the year, particularly in the fourth quarter related to primarily European emissions changes for the industrial engine, loose diesel engines we sell to several industries in Europe and around the world. So we think that did have an impact, and as you point to the three months rolling average --November, December, are still on those numbers; so let’s see how the year plays out. but we do expect that subsector that end-market of Power Systems will likely year-over-year be a little bit lower than it was in ’13.

Andy Kaplowitz - Barclays Capital

So what can you tell us about January at all, in terms of, did you see a big slowdown in that business or was it actually decent versus your expectations? And maybe I should say just stepping back, you know you have tax incentives that expired, all that kind of stuff in fourth Q, so people were a little concerned about a pre-buy in construction, in addition to this industrial engine business. So as you have gotten the January data now, how do you feel about, was there a significant pre-buy that we need to worry about overall places for construction?

Rich Moore

Well, yes we don’t really give monthly information on our result, but I would just point you to again at the relating to industrial engine, it’s a smaller part of our overall, it is the smallest end-market of our overall Power Systems business and we will have to see how the year plays out. And we do expect it to be a little lower. Now on the other question you had about impacts on the exploration of the bonus appreciation in the U.S., how that impacted? It may have impacted construction. And as well as maybe emissions and construction equipment in Japan, that was also another something I would point you to for last year.

And for the U.S. we think it may have had a minor impact on our fourth quarter sales. We surveyed our dealers after in December. We don’t think it had a material impact on fourth quarter sales.

Andy Kaplowitz - Barclays Capital

So I wanted to ask you about pricing before I forget. You’ve talked about I think at 0.5% pricing in ’14 or less than 0.5% pricing, which like I would think CAT overall could or should be able to do better than that. I know you are having -- mining is tough construction right now is competitive, people are worried about the Yen and what that does for Komatsu and guys like that. So maybe you could talk a little bit about pricing, are we at a low point in pricing because of all these issues and if construction actually gets better in terms of the overall macro environment pricing can get better? What’s really wrong with less than 0.5% pricing because it doesn’t seem very good on the surface?

Rich Moore

Well, I think you’ve answered a lot of points but you keyed up the question. But I think some other things maybe to think about there is for construction we did have on pricing we did have drag on the large transaction we had in Brazil in 2013. And it was a several thousand unit transaction and it was very tough pricing. And then I would say generally it’s been a very tough competitive environment in construction really around the globe. And we think that lot of that’s going to stay with us for a while. I think that’s an environment that we shouldn’t expect to have been a 2013 phenomenon. And also I think the -- as you know our business model is really driven by fuel population and market share and that’s another area that we’ve been focused on and it’s actually paid dividends, our market share and machine overall is up. And so that’s something that’s really feeds our business model of seed, grow and harvest for that parts and service opportunity for our dealers long-term. So that is part of the equation as well.

I would say in with mining and in certain aspects of our power systems businesses where you have large production type equipment, pricing on that equipment is generally more sticky than it is in other products and where you have high quality, high productivity type situations that really add back to that customer value perspective where they look at really total owning and operating cost over the lifecycle of those products, in those types of applications pricing is generally more sticky than it is in other applications.

Matt Hohulin

And I might add to that too in terms of the overall question about margin compression. One of the things we also look at in a lower inflation environment like we’re in today is how much impact we can have with material cost reductions. We had sizable improvement in 2013. We expect that to continue into ’14 in fact we’re forecasting and we’ll continue to see material price reductions in -- so in this environment it’s -- you kind of have to look at both parts of that equation.

Andy Kaplowitz - Barclays Capital

Got you, it’s really price versus cost. I did want to ask you one another thing about construction. In these data that you have, North America up 12% doesn’t seem like there is any weather related impact but that’s sort of the topic du jour at this conference to a certain extent. Could you comment on it at all like one of the things that I think about it that January is probably not as big in ordering time as February and March are but longer the weather stays kind of bad the more do we have to worry about that particular business?

Rich Moore

Yes, coming from the Midwest it’s been long-hard winner this year. And so obviously in those regions of Midwest, the East Coast, New England States, I am sure those regions are feeling an impact on some delay in construction projects and housing. And I’m sure they’re feeling the impacts of that. When you look at our construction business and even in the U.S. there are a lot of regions that are impacted by the weather and certainly globally you would also not expect that much of an impact. But certainly for those regions I’m sure our district offices that are in those regions are feeling the effects of harsher winter than they did last year, which was much more mild.

And then I would also point to as we’ve already talked quite bit about that the harsh winter also does -- we do play a pretty big role in the energy space as well. And so as natural gas prices have picked up, as we’ve already talked about and supplies are down, storage is down, so that should also play into an aspect of the power systems business. That really is the beauty of diversification of our businesses that’s been kind of play on the both sides of it.

Andy Kaplowitz - Barclays Capital

Okay great. Let’s do question three and four, if we could, and then we’ll open up for the audience and take any questions. In your opinion, do you sight EPS for Caterpillar will be, one, above peers, two, in line with peers, or three, below peers?

Rich Moore

As mentioned, what they’re thinking about is who the peers are. There is a good chart in our 10-K in regards to how we perform versus the S&P 500 and it’s interesting to look at over last five years.

Andy Kaplowitz - Barclays Capital

Right, so 51% say below peers, which is a good challenge to you guys I know that doesn’t look very good but I think that is a good chance. So in that respect is there anything you can do like let me just ask you the question around self help. We know that you talked about some restructuring, you get a couple hundred million of benefit now in 2014 and then that ramps up to 400 million to 500 million overtime, and that’s a decent size number but you’re a very large Company you know so, can you do more than that, in other words I’m not going to sneeze at a goal of $0.50 of restructuring, but at the same time you is there more low hanging fruit and this is scratching the surface of what you can do.

Rich Moore

Well if you go back and look at what we did in 2013, we if you exclude the impacts of peered cost absorption we reduced costs by 1.2 billion and that’s a pretty sizable amount, now some of that cost will come back as we get into 2014 but just looking at the restructuring actions that we’ve announced I would say right now most of the focus on cost, we’re doing about everything we can to pull the levers to lower cost where we can. Throughout all 2013 we were, with all hands on deck focusing on what to do to lower costs, and I would say a lot of that mentality and that has carried right over into ’14.

And so we’re still pretty much on cost lock down across the Company going into ’14. But some of the yes structural actions that we have already completed and have yet to complete I think will also play into that going forward. So I would say that we have down quite a bit on cost restructuring and we do have more to go as we already announced. Do you want to add to that?

Matt Hohulin

The only thing I’d add to that is you can’t eat the seed corn either so as you into ’14 there were things with this all hands on deck approach where we worked our R&D cost down too and some of that will come back, just because part of what makes us a great Company is that we’re on the forefront of technology and we have to continue that forefront.

Andy Kaplowitz - Barclays Capital

And I don’t want to single Bucyrus out but I will, just in one context people don’t ask me the question any more but you had a long-term synergy goal there of 500 million if you go back to when you announced it, where are you on that? And like obviously, people, the game has changed a little bit so like, but at the same time you know I still think about that as a big number, the same size numbers that you’re talking about for that, so is there any overlap there, what can do with that Bucyrus footprint and sort of squeeze out more in costs out of that.

Rich Moore

Well in 2013 a lot of the structural cost actions that we did announce were related to resource industries and it was, a lot of the actions that we took were related to facilities and products, rationalization and, so that was a big part of the overall resource industries plan I would say. But when you look at the synergies and the process that we’ve been going through over the past few years, it’s really broken into three main categories, one is a systems structure, organizational structure processes, back office processes, that’s largely been completed now and I think there is, any time you are talking about system integration and process integration that’s kind of an ongoing thing, but the majority of that I would say is largely behind us.

The second big element has been the divestiture of the distribution network to our dealers. And right now, so that’s pretty much stayed on-track throughout this whole process and we’re at about 90% I would say of completion on that. I remember that’s north of $2 billion amount of recovery from that acquisition that we have divested now to the dealers and that’s going I’ll say pretty well, the dealers are very excited about that, they like the acquisitions they made in the Bucyrus distribution space.

And the third area is probably the one that will have the most impact, the most benefit and it’s probably was the longer term process as well and that’s the integration of our tech component into the Bucyrus equipment. And so that’s the biggest element of that and I would say that’s making a lot of nice accomplishments there, we have four truck models and two shovel models now that have been converted to Cat component, and there’s obviously a lot more to go on that now, but that’s getting back to what Matt mentioned earlier, that’s an area that we need to move forward and still continue to spend R&D on to get that implemented because that that has such a big impact on the integration and the ultimate benefits that we will realize from that acquisition.

Andy Kaplowitz - Barclays Capital

Let’s have question four and then we’ll open to the audience in your opinion what should Caterpillar do with excess cash, one bolt on M&A, two larger M&A, three, share purchases, four, dividends, five, debt pay down, and six, internal investments?

Rich Moore

This would be interesting. I think it’s all going to be number two.

Matt Hohulin

Yes, probably not.

Andy Kaplowitz - Barclays Capital

So, I guess I need to ask you this question before we open to the audience, sorry guys, but with Cat announcing pretty big share purchase authority very recently so, is that sort of a change in tactic for you guys in other words are you trying to signal that you really do believe that your stock is undervalued here and you’re willing to step up and buy significant stock, I mean how should we look at that?

Rich Moore

Yes, a couple of things, and I do have, I can take everybody through our cash deployment model to kind of frame this a little bit because I think that’s important, but, Andy I don’t know if I’d read too much into the authorization, we have announced large authorizations in the past when we’ve completed previous the authorizations so that just gives us runway, it gives us the flexibility to do more when we elect to do more, but it’s probably not to read anything more into that it’s five years of 10 billion, so it gives us a lot of flexibility to do more stock buyback since we have completed the previous.

But I think it is fair to say that we have changed our perspective on cash deployment compared to where we were let’s say, in 2008. And just some data points I think that’s important just to note if you look at our prioritization of cash deployment that really starts with maintaining a solid balance sheet, maintaining financial strength as defined by us as maintaining mid A credit rating. And if you look at the one of the main metrics we use is debt-to-capital or debt to total capital ratio and just to frame this topic 2008 first of all our target is to maintain between 30% and 45% of a debt to cap ratio and in 2008 we were at 58% so clearly outside of the bounds and quite frankly at that time we were very close to losing our single A credit rating.

So through the years we’ve been able to bring that down to at the end of 2013 we were below 30, we’re actually 29%. So -- and if you take the $6 billion of cash on our balance so the net debt to cap would be even below 20. So our balance sheet strength and fundamentals are really solid. We’ve really improved that area significantly. The next priority that we’ve had historically on our cash deployment is to fund growth and that’s CapEx, M&A and R&D.

And we’ve averaged in 2008 just again put in perspective we averaged about $4 billion for those elements of funding growth. And then the period of 2010 through 2012 we averaged 8 billion a year. We had some large M&A, EMD, MWM, Bucyrus we added capacity early in the cycle. So we’ve really invested heavily in that period of time. And then in 2013 we were back to about that 4 billion level, and probably going forward it may even come down a little bit since we have that funded growth aspect well taken care of.

The third priority is to maintain well funded pension and benefit plans. And again we’ve been averaging about $1 billion a year in cash contributions to our pension plan. And that raised our funded status from 61% in 2008 to about 86% at the end of 2013. Now we were obviously benefited by a reset in the discount rate as well as very strong performance in our asset portfolio. But our pension plans are now very well funded and will be a less cash need there.

Our fourth and fifth priorities is really returning cash to shareholders through dividend increases and our objective there is to maintain a sustainable increase in our dividends and we’ve done that and we spent about 1.5 billion in dividend in 2013. And then the fifth priority is share repurchase. So, I think the story here is, is that a lot of our higher priorities over the years have been taken care of and with our outlook we expect to still have fairly strong cash flow, so more of that probably will be available for shareholders.

Andy Kaplowitz - Barclays Capital

Great. Question from the audience?

Question-and-Answer Session

Unidentified Analyst

[Indiscernible]

Rich Moore

So the last part of that question I didn’t catch it, maybe you can repeat it for me.

Unidentified Analyst

[Indiscernible]

Rich Moore

Yes, it was the vast majority was for our resource industries and a much less percent for construction. We don’t give more specifics than that but it was a vast majority well over half of the dealer inventory reductions.

Unidentified Analyst

[Indiscernible]

Andy Kaplowitz - Barclays Capital

Do you have that now…

Rich Moore

I don’t recall what that number was for…

Andy Kaplowitz - Barclays Capital

I don’t know if they have disclosed just no one ever asked that question.

Rich Moore

Yes, I don’t have that definition.

Andy Kaplowitz - Barclays Capital

But we probably should right, other question?

Unidentified Analyst

I know you’ve spent a lot of time on inventory already if I could think of it maybe just from a different perspective. I wanted to think about inventory and working capital trends from a longer term perspective I think that data suggests that inventory days have come down quite a bit let’s say some recent years maybe three to five years, but are still high relative to let’s say longer term history though let’s call it a decade or so. Just wondering if you could help us understand fundamentally what might drive the longer term change in inventory whether you think that the current levels are about right and where you see things going in the future?

Rich Moore

Yes, again I’ll point back to the fact that we’ve implemented this CESG Caterpillar Enterprise Systems Group and that area is really going to focus on starting with built in quality and having visibility throughout the whole value chain from dealers all the way to suppliers. And the ultimate goal of that Group really is to shorten lead times. And that will allow us to better manage through the cycles, better manage our inventory I should say through the cycles both dealer inventory and our own inventory as we have better visibility and better signals from the market on able to manage through the cycles.

And I think that’s going to be a huge source of improving our cash-to-cash cycle, lowering inventories of the whole chain, including suppliers. And so that will lower cost, it will give us more flexibility as far as response time to the market as we ramp-up or ramp down, because again we’re in cyclical businesses. We have to a better job of managing our inventory through the cycles, and this is going to be the tool, the process we’re going to use.

It’s based on lean manufacturing principles and it’s again looking at the end-to-end value chain from dealers and the signals, the information we get from our dealers on the market demands all the way back to our manufacturing operations and even into the suppliers. And that’s going to be I think the next -- it’s a carry on effect from our CAT production system process. And once that is more fully implemented that will really help us manage again through the cycles related to inventory.

Matt Hohulin

And I might add to that too, as you know in 2013 we took roughly 3 billion dealer inventory out to our dealers reduced our inventories by about 3 billion, we took about 2.9 billion out of our own inventory. But as you compare back with previous years, there is a bit of a shift in the way we manage overall inventory and that is we have added this component that we call lane one inventory, where their finished products sitting at products distribution centers that the dealers can drop from. And what the overall hope is that total -- the whole inventory between us and the dealer reduces overtime. So if you look at just one component and compare it with previous years, you have to remember about that additional layer of inventory that we’ve added to CAT to help our dealers out.

Unidentified Analyst

The Company may comment after last quarter’s conference call regarding the Bucyrus deal indicated that it would do the deal again, it didn’t think it was a bad deal. And then on the conference call talked about going back and doing M&A in 2014, does that Company acknowledge the timing of Bucyrus deal was probably not great, that deal was probably not great? And if the company is going to be cautious with regards to doing M&A in the near-term and the longer term? And I have got a follow-up.

Andy Kaplowitz - Barclays Capital

The question is does the Company now the Bucyrus deal might not have been the best of deals. And even whether you do or not are you going to be more cautious with M&A now going forward based on what you did with it?

Rich Moore

Yes I think the answer to the question about Bucyrus is absolutely not, we’re very happy with that acquisition. You can’t just -- this was an acquisition that we made for the next 57 years, it’s not something that we made to see immediate impacts over the next few quarters or few years. It’s for long-term, our view on mining is very positive, over the medium to long-term. We’re going through obviously a significant re-step we have had, and we’re going through a bit of challenge right now. But that doesn’t in any way change our view of that Bucyrus acquisition. We have incorporated that now fully into our global mining division and our dealers are really excited about this product. We have got a lot of opportunities.

If you think about satisfying our customers, taking care of our customers which is really at the core of what we’re trying to do with all our products and services. We are able now to offer about 70% of mining companies’ total needs. And we believe that that mining industry is going to be good for the long-term and if you look at the dynamics and that’s based on the thesis of global population growth, higher energy needs, rising middle class. And all the demand that puts on minerals and energy, we really like our position and we really like the mining industry long-term.

Now whether that’s changed our view of acquisition going forward, that’s really a function of as I just went through our cash deployment model. It’s really a function of where we are with capacity, with our product line. We don’t really have a significant need to do very large scale acquisitions, we will always have I don’t know Matt at any point in time we’ve got 230 deals maybe that we’re looking at. But there is smaller bolt-on type generally like we made an acquisition in the fall of last year with Berg Propulsion Equipment which is a nice bolt-on to our marine engines that offers that full propulsion package for shipbuilders. It’s those types of acquisitions that we probably will continue to move forward in. And there is nothing really in the horizon of any very large scale that’s out there and that’s really just a function of we took care of those product gaps and capacity needs over the past three of four years.

Matt Hohulin

I’d add on to that too, often overshadowed are acquisitions we made in the locomotive business with EMD. We’ve taken a fair amount of costs out of that product. We have improved market share as with our biggest competitor there, our parts penetration has improved. So it’s a pretty good success story and a bit of jewel on the rock that we were able to hone into a diamond. I would say on MWM, another one of our larger acquisitions, that’s gone equally well. We’re in the process of training our dealers to have worldwide distribution of this product and that’s going as planned and has been quite successful too.

Unidentified Analyst

One follow-up if I can; why is it taking so long to get CAT components into Bucyrus and when do you think that process will be substantially completed? Thanks.

Rich Moore

Again we’ve incorporated several machine models where we could but really if you think about putting the CAT components into the machines, it’s really the best time to do that is really to engineer those components into the products at a new product introduction and model changeover, and that’s where you get the most optimal value of the integration of all the system; the engine, the transmission, the hydraulics, the electronics, all the major subcomponents of that Caterpillar brings to the machine, some of that you can retrofit in and do in a shorter period of time, and we have done that. But most of the larger scale applications we’re talking about now really is that a model change and the redesign of the product.

Andy Kaplowitz - Barclays Capital

Kent, before we get to you, I just want to get to question five and six before we lose people. In your opinion, of when multiple 2014 earnings in CAT traded less than 10 times, 10 or 12 times, 13, 15, 16, 18, 19, and 21 or higher than 21 -- 13 to 15. Okay, let’s do question six. What do you see as the most significant investment issue for Caterpillar, (1) core growth (2) margin performance (3) capital deployment (4) execution strategy?

Rich Moore

You should do all these again. Now after we have had our talk.

Andy Kaplowitz - Barclays Capital

Yes, we have seen it before in that manner. Core growth is very important but execution strategy shows up as pretty important too. Kent, do want to ask your question?

Unidentified Analyst

Yes, I just want to ask about, I mean the inventory issue seems like such a 1990s problem. And I am wondering if you have changed your management compensation structure at all to incent people to keep their eye more on the inventory situation? That’s kind of the first question. The second question as it relates to your supply chain, I mean you crushed your supply chain last fall and literally turned them off with very little notice and so I am assuming you have really damaged a lot of your supplier relationships. What are you doing to try to kind of make sure that your suppliers are there for you in the future, and try to kind of smooth out that relationship?

Rich Moore

Yes, on the first part of your question, our incentive compensation plan is really designed around a balanced score card of some financial performance metric as well as some operational performance metric. So there are elements of operational excellence, inventory management and to market share, safety, quality. So there is a lot of -- it’s a balanced score card. So that element does get captured in the overall compensation of management. It is not just a profit sharing type plan. It is a balance of financial and operational metrics. And on the supply base I guess I would say that the -- again keep in mind that the big, it’s different from ’09 where in ’09 really all segments of our business were down significantly and it impacted a much broader slot of our supply chain.

I’m not going to undermine the fact that with mining being down like it has been -- it certainly has impacted a significant portion of our supply base. But we have a much more collaborative process now with our suppliers and we try to work with them, to give them as much advance signals of both upturns and downturns. And just maybe one anecdote I can point you to is that we are working with some of our key suppliers in traditional bottleneck type components of large castings and other axle housings, and other big components, that we know is a very, very long lead time products, and we are staging some of that inventory with our suppliers to help them also keep operations going and that also helps us for when the upturn will happen we will be staged with some key component inventory throughout the pipeline to take care of some of that bottleneck of the upturn.

Andy Kaplowitz - Barclays Capital

Okay, well. Thanks everybody. We appreciate it. Thanks for coming.

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