Caterpillar (CAT) has been one of my top picks in the industrial goods space for more than four months now. It has since delivered stellar returns and still has significant room for even greater appreciation. Another related company worth considering is Manitowoc (MTW), which has significant value to be unlocked from a breakup. Based on my review of the fundamentals, DCF model, and multiples analysis, I believe Caterpillar and Manitowoc will deliver high double-digit returns for 2012.
From a multiples perspective, Caterpillar is the cheaper of the two. It trades at a respective 15.4x and 10x past and forward earnings, with a dividend yield of 1.6%. Manitowoc trades at 10.7x forward earnings and will benefit from high risk-adjusted returns, given that it is 210% more volatile than the broader market with significant leverage.
At the fourth-quarter earnings call, Manitowoc's management noted a solid close to 2011:
"We are pleased to report strong fourth quarter results that marked an end to what was truly a transitional year for Manitowoc in 2011, culminating with impressive year-over-year sales growth of 25% in the fourth quarter. Despite some unexpected turbulence during the year, our focus on execution, coupled with continued progress against our strategic initiatives, helped us reach most of our full year 2011 expectations. In fact, both of our industry-leading businesses delivered higher year-over-year sales and operating earnings, a testament to our ability to navigate an increasingly uncertain global economic environment and fluctuating demand levels that lingered across our markets for a large portion of the year".
For Manitowoc, fourth-quarter crane bookings totaled $676M, which was very impressive. The 2012 outlook for crane margins and 10%-15% income growth was, in my view, overly conservative, given the company's expansion into Brazil. Moreover, the Enodis transition still has more synergistic value waiting to be unlocked, and investors may be failing to fully acknowledge this.
Also, part of the reason why investors may be hesitant to acknowledge Manitowoc's strengths relates to the company's balance sheet and the extent to which it is debt-loaded. But, having cleared off $140M worth of debt, Manitowoc is well positioned to meet its debt obligations.
Manitowoc's management needs to weigh the benefits of being diversified on one hand against the benefits gained from a split on the other. I believe that the sum of the parts is worth more than the whole and a breakup would allow more efficient allocation of risk to drive value creation.
Consensus estimates for Manitowoc's EPS forecast that it will grow by 128.9% to $0.87 in 2012, and then by 77% and 35.1% in the following two years. Modeling a 3-year CAGR of 76.2% for EPS and then discounting backwards by a WACC of 9%, Manitowoc may soar by as much as 50%.
Caterpillar is similarly an attractive bet on the construction market. It has excellent scale and flexibility over its cost base. The firm also made the appropriate decision to close its EMD plant following a dispute with the Canadian Auto Workers. A shift to a place like Indiana, where plants may be non-unionized will mitigate supply chain disruptions and labor headwinds. I am further attracted by the company's increasing penetration into high-growth emerging markets.
Consensus estimates for Caterpillar's EPS forecast that it will grow by 28.5% to $9.51 in 2012, and then by 19.5% and 17.4% in the following two years. Assuming the multiple drops to 13.5x and a conservative 2013 EPS Of $11.15, the rough intrinsic value of the stock is $150.53, implying 32.1% upside.
Caterpillar is currently valued at only 80% of its historical 5-year average PE multiple. The beta of 1.9 will help close this discount as the economy picks up.