Komatsu: The Japanese Caterpillar

Includes: CAT, KMTUY
by: Faisal Laljee

Komatsu Ltd. (OTCPK:KMTUY) is a Japanese entity that engages in the manufacture and sale of construction and mining equipment, industrial machinery & vehicles and electronics products. It is also expanding its businesses into other areas such as housing, transportation and logistics equipment.

One could consider Komatsu the Japanese version of Caterpillar (NYSE:CAT). The stock trades on pink sheets here in the US, but that should not deter investors looking to capitalize on the multi-year expansion currently taking place in Japan. In March 2006, the company reported an annual earnings increase of 77% over 2005.

Komatsu is not an obscure operation that you've never heard of. In fact, it has been marketing its products in the US since the 1960's. In 1970, it established a North American operation and is the second-largest manufacturer and supplier of construction equipment in the world today with nearly 2000 employees just in North America.

Lately, the company has been taking steps to strengthen its presence in China for large mining machinery, including large dump trucks and hydraulic shovels. It foresees enormous growth in this market as China beefs up resource development to meet its growing energy needs and modernizes its strip mining and related operations.

In addition, Komatsu has plans to set up a post sales service division for large mining machinery sometime in 2008 and it already has a large Chinese coal mining client to sell these services to. Mining machinery requires frequent repairs and parts replacement, therefore, management estimates post sales services can generate three to four times more revenue than the original sale over the lifetime of a machine.

Recently, Komatsu was declared the most well-rounded corporation in fiscal year 2006 Nikkei rankings based on a model that includes profitability/growth potential and R&D. So it's not surprising that the company expects to generate a record net profit for a third straight year thanks to brisk demand for its mining and construction machinery.

While the demand for small and midsize construction machinery will likely be stagnant due to a slowdown in the housing market in North America, analysts expect rising demand in emerging markets of Central and South America, Europe and Asia. For large construction and mining machinery, the demand is expected to be steady in North America and rising in other markets.

For the 9 months ending Dec 31st, Komatsu reported 15.5% increase in net sales YOY, and a 31% increase in net income. To generate shareholder value, and focus on the core business, the company said it took the following steps last year:

  • In January this year, we started up the Ibaraki Plant in Japan and Komatsu India for our construction and mining equipment business (increasing production capacity)
  • We sold 51% of the shares of Komatsu Electronic Metals to SUMCO Corporation.
  • We decided to sell Komatsu Zenoah's outdoor power equipment business to Husqvarna AB of Sweden.
  • We bought 29.33% of the shares of Nippei Toyama of Japan.
  • We decided to merge of small-equipment business of Komatsu Forklift and Komatsu Zenoah.
  • To expand our production capacity for large presses, we started up the Kanazawa Plant in Japan in January this year.
  • For the year ending March 31, 2007, group sales are expected to surge 15 per cent to 1.84 trillion yen, while net profit is forecast to leap 27 per cent to 145 billion yen. In addition, it plans to pay an annual dividend of 27 yen, up 9 yen from fiscal 2005.

    The stock is within 10% of its 52-week high of $95. It is down from a recent level of $92 to $86 right above its $85 support. I like the stock at these levels and I believe it can return 15-20% annually.

    Japan is on the rebound. After tepid growth last year, Japan's economy seems to be on the move up. Either way, Komatsu stands to gain from the worldwide rush to drill, dig and mine. With cost cutting measures in place, increased production capacity and expansion in China and India, don't you think the company is poised to gain market share over its rival Caterpillar?

    Full Disclosure: I do not own KMTUY or CAT, but my position can change anytime without notice.

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