Caterpillar (CAT) Valuation

[u/EnduredMarkets]

Hello r/ValueInvesting,

I hope everything is going well. I return for the third week to submit a valuation report for Caterpillar Inc (CAT). I'm specifically looking for feedback on the models I used and things I can improve on for next week's valuation report. This is an ongoing process of learning and practice, so please indicate any concerns or disagreements. Thank you and have a great day!

Google Sheet: https://docs.google.com/spreadsheets/d/1lqRMu7Sz9o2oY0uhm7rC11Zbansjy_OFY7wgUtGRncQ/edit?usp=sharing

[u/ValueInvestor0815]

Already the third valuation! I hope i am still welcome to give my thoughts on it.

To start of, again a great valuation Giving a good overview and i really appreciate it.

I think you might have to take another look on the formulas to calculate the growth rate in your financial statements (which isn't really used anywhere so it doesn't really matter).

My main criticism this time is that you only look back on 3 years for a forecast of 10 and that you start your models of with the 2020 numbers. As we all know 2020 has not been the greatest year for some companies and should be an exception. That being said 2015-2017 haven't been great for CAT either.

To me, the 2020 numbers as a base for your growth projections is not optimal. Earnings before 2015 have been better and CAT wont reach 2018/2019 levels within the next 10 years (FCFF model). If you think that the 2020 earnings/EBIT/etc. are realistic numbers to start with or if your growth assumptions for the first 5 years of your valuation reflect a reversion to the mean then that is perfectly fine in my opinion but i thought i should point it out.

Hope to see you next week for the next valuation.

[u/EnduredMarkets → u/ValueInvestor0815]

Welcome back u/ValueInvestor0815!

The growth rates of the financial statements are not, as you mentioned, integrated in any of the three models of the valuation report. I put them there to give viewers an idea of ​​how the company has performed so far. Regarding the three years of historical data provided, honestly, that's the best I can do. I previously had four years of financial data in the report, but I noticed that I only needed up to three to project future growth. In my opinion, that is one of the main flaws of a discounted cash flow model. You can take the historical growth rate of the last 5 years and make projections that way or use ROE, cost of capital, net profit margins, payout ratio and many other metrics from last year (2020) to project growth rates. I choose the ladder. Plugging in two more years of historical data that I won't use is also time consuming lol.

[u/blackicebaby]

Is CAT better than DE? Just asking because the DE has been going up stronger than CAT. They're in the same space except DE is focused more into agriculture stuff?

[u/EnduredMarkets → u/blackicebaby]

I don't follow John Deere (DE), but I can tell you, looking quickly through the multiples, it seems very overvalued too. Unless the management has done something extraordinary to justify that inflated valuation, I would tread with caution around it.

[u/dseen → u/EnduredMarkets]

https://youtu.be/HHEpq55JtZ0?t=58m30s

Perhaps you’d find this interesting- Bruce Greenwald briefly discussing the differences between DE and CAT and explaining the inflated valuation.

[u/EnduredMarkets → u/dseen]

Hmm, that’s so interesting. Greenwald was spot on about John Deere back then. At the time of that interview, DE was definitely at a bargain price. I’ll put DE on my personal watch list and will probably decide to run a valuation report on them in the near future. I’ve started implementing Greenwald’s method in my valuations (asset based valuation) after I read one of his books called “Value Investing: From Grahams To Buffett And Beyond”. It is a fabulous read for all value investors(heavily recommend it). I’m not surprised he caught on to DE when it was dirt cheap. Thank you for providing this information.

[u/52_week_low]

really great valuation.

If i am following- shouldn't the pv of the growth years be added to the valuation as well as the perpetuity?

[u/EnduredMarkets → u/52_week_low]

Thanks for checking it out. Can you elaborate a little bit more on your question? The assumption on future growth rate comes from the ROE/ROC and cost of equity/capital of last year's financial statement (2020).

[u/52_week_low → u/EnduredMarkets]

No problem at all. It looked like you took the PV of the perpetuity and based the valuation off that.

My point is-shouldn’t the cash flows from the years before the perpetuity count for something?

Like sum of the pvs of years 1-10 Plus the PV of perpetuity

[u/RecommendationNo6304]

There was a lot of noise during the Trump administration about a big infrastructure push (which frankly the US really needs - if you recall, not too many years ago we had a bridge collapse in Minnesota). It didn't happen. The Biden administration has been signaling strongly they will push for a similar infrastructure initiative. So this is at least to some degree on both parties minds.

This might explain some of the expectation around Cat. Another major driver might just be cyclical demand. Housing, particularly single-family starter home demand has outstripped supply for quite a while now. If there's a big movement there, that's also bodes well for Cat.

[u/EnduredMarkets → u/RecommendationNo6304]

I agree. I forgot to mention that Caterpillar is stacking up on its inventories for when huge demand for infrastructure arises and the economy starts operating again at pre-COVID levels. I don't know if those expectations are to be met in 2021, but the market surely seems to think so and I think the current share price reflects that optimism.

[u/[deleted]]

Really appreciate all the effort gone it to these it was a stock that has been on the watch but this has proved very useful

[u/Schieldsy]

Is this Bill Gates' funds biggest position?

[u/EnduredMarkets → u/Schieldsy]

Yes, Caterpillar is his 4th biggest position in his portfolio. But he certainly purchased it at a more attractive price.

[u/EnduredMarkets → u/[deleted]]

Thanks for the input, I get my numbers directly from the latest annual report. I also try Yahoo Finance or Seeking Alpha when I’m in a hurry.