ANALYSIS OF INDUSTRY

Characteristics & Factors The EME industry is characterized by two things Capital intensive business and cyclical demand. Earlier the industry relied on high amount of labor to increase their profitability through scale economies but as competition grew, the importance shifted towards increased reliability and durability of the manufactured goods. This required the use of quality control measures using electronically controlled equipment. This may reduce the labor cost but has added to capital spending. Due to increase in competition from other developing nations which specialize in a particular sector, the need for constant innovation has led to increased spending on R&D activities at nearly 3-4% of sales. Another factor is the cyclical demand of the industry. The construction industry is heavily dependent on the state of the global economy. A dip in global GDP growth will cause a drastic reduction in construction activity around the world and hence decreased sale of construction equipment. The other industry where EME are heavily used is the mining sector. The mining sector is heavily dependent on the market prices of the minerals being extracted. A drop in prices causes a seizure of all mining related activities which affects the EME industry. Another avenue which the EME manufactures have tapped is the after sales supply of spare parts. Normally an EME commands a profit margin of anywhere between 5-15%. But sales of spare parts contribute nearly 25-30% as margin. Earlier the EME business was concentrated in North America and Western Europe, but with the growing economies of Asia and Latin America, it caused an explosion in the entry of smaller players who concentrate on a particular geographic region or a product portfolio.

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Caterpillar 2010
INTRODUCTION AND HISTORICAL ANALYSIS
Caterpillar Tractor Co (Cat), headquartered in Peoria, Illinois, has dominated the world in earth moving, construction, and materials machinery for more than 50 years. Caterpillar is the world's largest manufacturer of farm and construction machinery, including trucks, tractors, excavators, and graders. Caterpillar also manufactures both gas and diesel engines which are used in Caterpillar machinery and other equipment. They command over 50% market share in the EME sector far ahead of their nearest rival. Caterpillar has 22 production facilities in the United States and 11 production facilities abroad, and has over 200 dealers in over a 100 countries. Forty four percent of Caterpillars business is in the US and 56 % abroad. Rise to a Multinational company-- Critical Incidents that led to its Development Caterpillar was formed on April 15, 1925 with the merger of Holt Manufacturing Company of Stockton, California and the C. L. Best Gas Traction Company of San Leandro, California, forming the Caterpillar Tractor Co. Sales of the first year were US$13 million. By 1929, sales climbed to $52.8 million, and CAT continued to grow throughout the Great Depression of the 1930s. Defense Equipment Industry After the companies merged, Caterpillar went through many changes, including the adoption of the diesel engine. During World War II, Caterpillar products found fame with the Seabees, Construction Battalions of the United States Navy, who built airfields and other facilities in the Pacific Theater of Operations. During the post-war construction boom, the company grew at a rapid pace and launched its first venture outside the U.S. in 1950, marking the beginning of Caterpillar's development into a multinational corporation. American Auto Industry Growth Cats rise to global dominance stemmed from a mixture of good luck, analytical judgment and world history. The company was fortunate to be based in United States where the proliferation of highways that followed development of auto industry led to strong demand of EME.
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Post War Overseas Expansion With the withdrawal of the US army from Asia and Europe, the machines were left for local use. Foreign users became familiar with Cat machines and foreign workers learned servicing those machine. Setting up Independent Dealership It established independent dealership to service machines left in Europe and Asia. Along with US dealer they became an important part in Cats marketing strategy. In 1981 it had 216 world wide dealers and 889 branch stores. Spare part and Customer service focus Cat played a right strategic card by developing a well oiled spare part business and customer oriented service culture in the organization. When introducing new products the company built up two months supply of spare parts and guaranteed a 48 hour supply of spare parts. Acquisitions In addition to increasing sales of its core products, much of Caterpillars growth has been through acquisitions, including: Company Location Mentor, OH Date Products Notes Later became Caterpillar Mitsubishi Forklifts, 80% owned by Mitsubishi Founded in 1927 as Prudden-San Diego Airplane Company; assets acquired

Towmotor

1965 Forklifts

Solar Turbines

San Diego, CA

1981

Natural turbines

gas

from International Harvester

With almost 57% sales of Cat coming from overseas in 1981 it was truly and international company.
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Caterpillar 2010
SWOT

Strengths Global market leader Robust financial condition Diversified geographical Reach Good Product Mix Strong dealership network

Weakness

Falling sales in Europe Inefficient Production systems Higher Direct Costs

Opportunities Opportunities in Middle East and Asia pacific Increasing construction activity

Threats

due to growing population Joint development and acquisition programs SWOT analysis:

Intense Competition and Rivalry Economic slowdown in US Dependency on Mining Industry Raw Material Prices

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Strengths: Global market leader: Caterpillar is the worlds largest manufacturer of earthmoving machinery and construction and mining equipment Technology leadership: They have strongest and broadest product offering through their focus on R&D Diversified geographical spread: The company generates revenues from most of the prominent markets in the world, not relying heavily on a specific economy or geography. Strong dealer network: Caterpillar has over 200 full-line dealers worldwide. The dealer network is Caterpillars most significant asset. It is a key competitive differentiator. Weakness: Bad hr relations: Their increasing move towards automation is causing a sense of insecurity among the workers Internal staffing: Managers and executives are internally bred and hence share a similar line of thought which is preventing fresh ideas from coming in. Centralized decision making: Lesser autonomy to the world wide units will be detrimental to growth. Opportunities: Developing economies: Increasing construction activity due to growing population and infrastructure spending in Asia and Latin America. Joint ventures: Entry into economies with high non tariff barriers through JVs. Threats: Cost escalation: Rise in raw material prices will reduce operating margin Cyclical demand: Demand for new equipment is highly cyclical and dependent on mineral prices. United Auto Workers association intrusion: Work disruptions, strikes and worker walkouts will have a negative effect on production and revenue generation

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Caterpillar 2010
Recommendation Based on SWOT Opportunities in Asia Pacific and Africa. Developing economies in Asia pacific, Middle East are experiencing annual growth of 47% per annum. Infrastructure development and construction activities are rising at a fast rate in these countries. Asia continues to be a very large growth opportunity for Caterpillar, and it is an area in which it should focus on increasing its presence. A Case For Setting up Facilities in Low Cost DestinationsDunning Eclectic Paradigm A look at comparative cost component analysis of Komatsu will reveal that Komatsu has a distinctive advantage over Cat in labour costs; this should be case with all other non US rivals. An analysis of their sales mix to third world countries reveals that almost 70% of sales in third world countries are via exports from US. Therefore there is case for Cat to setup manufacturing facilities in low cost destinations like Japan, China etc and export back to US, thereby taking location advantage. Strategic Alliance and acquisition programs The joint Development programs should be entered to improve the production systems of the company and make them as good as Japanese TQM systems. Acquisitions should be done to enhance capabilities and strength of the company. Hedging for rise in raw material prices There has been a continuous rise in the prices for key raw materials of the company, especially metals, and these prices are expected to rise further as the global economy improves. The increase in raw material prices will increase the companys operating costs, and would limit the magnitude of potential production increases and therefore incremental earnings power. One of the ways to overcome this is by hedging in raw materials and thereby be sure about its cost structure.
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Caterpillar 2010
Reducing Mining Industry dependency Demand for new equipment is highly cyclical and dependent on mineral prices. The four major minerals produced using mining equipment are coal, copper, iron, and gold. These four minerals account for 87% of all mines using heavy mining equipment and for 88% of the population of large mining machines. Although, the demand for these minerals, which is largely determined by population growth and growth of GDP, is expected to be stable or increase in the future, there remains an element of uncertainty. Therefore steps should be taken to derisk revenue streams Labor Contracts and HR practices Since early 1980s the company has been in negotiations regarding workers contracts, healthcare, wages and job security. The last meeting between the two was unsuccessful and had led to work disruptions, strikes and worker walkouts. If the present meetings suffer the same fate as the previous then further work disruptions can occur, which will have a negative effect on production and revenue generation. Therefore proper labour contract and labour management practices should be adopted.

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Caterpillar 2010
CATERPILLAR OPERATIONS STRATEGY
Caterpillar as an organization basically designed, manufactured and marketed two product categories: a) Earth moving, construction and materials handling machinery b) Engines for the above machinery as well as trucks However, they had also diversified into marine, petroleum, agricultural applications as well as electric power generation systems. The broad geographic base and the above line of products reduced the dependence on the domestic business cycle. Caterpillars product strategy was to produce high quality products backed by effective service. Caterpillar basically concentrated on Manufacturing excellence and similarity of products anywhere in the world. Hence they had to invest heavily in state of the art component manufacturing facilities mostly nearer to Preoria to meet the world demand. These centralized facilities were useful for the overseas assembly plants which localized the product. Hence they were able to avoid the high cost of transportation of end product and also it increased the responsiveness of the company with respect to local needs. General Operations: Though Caterpillar was continuously increasing the number of plants they had, they also operated each of their plant with a capacity of less than 75% only. But still the direction was to provide products at the promised or expected time giving 100% customer satisfaction. Another aspect is that the company is backward integrated, that is they produce more than 90% of their components in-house. Futuristic Approach: Caterpillar recognized the future advantages that flexible manufacturing can provide, initially, obsolete equipment were being replaced by electronically controlled equipment. This was a form of fixed automation which will increase the productivity but is difficult for bringing in flexibility in automation. Caterpillar was always behind Japanese production systems, but that concept aligns Caterpillars intentions with their direction. Caterpillar allows the competitor to enter the market first and they watch and learn.

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Caterpillar 2010
HR STRATEGIES
Caterpillar had a unique recruitment strategy of hiring individuals who were willing to spend the entire career over there with dedication. They did not hire MBAs. Most of the top leaders grew up the hierarchical ladder gradually and they were mostly from the neighborhood of Cat. The leadership abilities were molded by the company conducting its own management development program. In Geneva, most of the employees of the company lived in one suburb referred to locally as Caterpillar Village.

Implications- This approach led to a close knit management group who were very much dedicated to their work. Though being an American company their approach towards the employees is similar to the Japanese. They had a very close mouthed attitude when it came to disclosing about business to the press. They also discouraged dealers from joining the Association of Equipment Distributors.

Implications- Being secretive about their products and strategies would leave the press guessing and sometimes the rumors can work in their advantage. Since they consider dealers as very much a part of them they would not want to create rent seeking behavior through Unionism. This is no place for Individual star performers- Lee Morgan. They followed the value system of being severally responsible.

Implications- Being a manufacturing set up a co-operative approach is important. But too much collectivism can be detrimental in bringing out the best in each employee as there is no recognition for their individual performance.

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Caterpillar 2010
FINANCIAL ANALYSIS
Under financial analysis we first look at the margin analysis of Cat over six year period, 19761981.

Margin Analysis
16 14 12 10 8 6 4 2 0 1976 1977 1978 1979 1980 1981 PAT** Op Inc EBT

** Only Operational PAT Margin is taken

As we can see that the recessionary environment took a toll on earning margin in year 1979 from thereon the margins have improved continuously. However higher direct costs especially labour costs are now showing on operating margin of the company. Ratio Analysis We have divided ratio analysis into four parts; we look at each of them in subsequent tables, the case data only enables a time series analysis and hence Cat is measured against industry standards Profitability ROE ROA 1976 18.90% 9.84% 1977 19.00% 10.24% 1978 20.58% 11.26% 1979 16.04% 9.10% 1980 16.46% 9.26% 1981 15.01% 7.95%

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Caterpillar 2010
We see no inconsistency as regards to Return on Equity and Return on Assets they tend to follow same pattern as net income changes. The area of more concern to top management is to increase margin to previous levels both operating and net margin. Liquidity Liquid Ratio Current Ratio Inventory Turnover DSO 1976 1.04 2.55 2.99 43 1977 1.01 2.36 3.35 40 1978 0.89 2.12 3.51 38 1979 0.68 1.88 3.53 32 1980 0.69 1.71 3.79 38 1981 0.56 1.50 3.31 39

The company seems to having more of non liquid assets as it is progressing, this might to because of piling up of inventory, very interesting is simultaneous reduction of liquid ratio and subsequent decrease of DSO. Usually they move in different direction, Management focus should be on removing this ambiguity.

Leverage ratios Debt/Asset Debt/Equity Times Covered Ratio

1976 0.27 0.51 16.11

1977 0.23 0.43 13.93

1978 0.20 0.37 9.61

1979 0.18 0.31 5.97

1980 0.15 0.27 5.45

1981 0.13 0.25 4.50

The Debt equity clearly shows the conservative behavior of companys top management. There has been a complete overhaul of capital structure of the company with debt being reduced. However the times covered is reducing drastically showing operational inefficiency.

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Caterpillar 2010

Recommendations Based on Financial Analysis The company needs to improve its production efficiency in order to reduce SGA percentage of sales to levels to 1970s. Economies of scale usually bring in lower direct cost but that is not reflected because of inefficient production systems, therefore investment needs to be made for getting efficient production systems and training of employees Company should in bring in more debt to capital structure and use that money for expansion in other geographies as recommended in case previously Inventory Turnover should be improved to improve liquidity position of the company Excess funds can be deployed for generating more non product revenue.

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Caterpillar 2010
Marketing Perspective

EME marketing requires special attention to the technical needs of the costumer. This aspect makes its even more challenging specially in the wake of competition that either come up with new technologies on their own or duplicate them easily. In such a situation to stay ahead in your competition you need to adopt few strategies that could lead sustained market share or increase in sales. While we suggest these strategies from a marketing perspective, we should keep in mind that EME is a low sales and high margin product. Challenge Catterpillar is a market leader and that to by a higher margin globally but due to changes in the business environment and saturation of the presently high growth yielding markets and businesses, they are faced with a problem. They are looking as to how can they sustain their growth. We can put this in a simple form as How to respond to changing industry How to deal with growing competitors

Solution Basically the situation here demands a relook into their strategy and what they want to achieve. For this we can make use of Ansoff matrix which can help us analyze and provide recommendations to deal with such a situation. Ansoff Matrix The Ansoff Product-Market Growth Matrix is a marketing tool created by Igor Ansoff and first published in his article "Strategies for Diversification" in the Harvard Business Review (1957). The matrix allows marketers to consider ways to grow the business via existing and/or new products, in existing and/or new markets there are four possible product/market combinations. This matrix helps companies decide what course of action should be taken given current performance1. The matrix consists of four strategies: Market penetration In this situation Catterpillar needs to target existing customers with existing products. It is very less risky as the products and markets are already well defined.
1

http://www.mindtools.com/pages/article/newTMC_90.htm

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Caterpillar 2010
Recommendations Focus on changing incidental clients into regular clients, and regular clients into heavy clients.eg:- Of Caterpillars overseas sales only 9% comes from Canada, 17% from Latin America etc2. They can build on such markets. Increasing the sale of EME and increase the prices of spare parts.

Implementation Typical methods are volume discounts, bonus cards and customer relationship management. Reduce the prices of EME and the reduction in margin here can be raised by increasing the margins on spare parts as once the machines are bought the spare parts would be required anyways. Market Development The basic idea here is to sell the well established products to new markets. The main advantage from this could be gain in revenue in a quick time. Recommendation Venture into new geographical territories such as Far east, Australia, ASEAN Countries etc. which are showing hopeful signs of prospering in immediate future. Use different sales channels, such as online or direct sales apart from the current distribution channel Implementation Form a joint venture with a local contactor or agency to sell or use the equipments for government contract or other big projects being handled by private players. Set up a dedicated website which can mainly be used as lead generators specifically dedicated to each of these countries mentioned above

Form 10-k reports

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Caterpillar 2010
Product Development This doesnt mean to develop new products but rather selling more variety of products to same customer. This could also mean providing an end to end service to the customer by supplying everything he needs. Recommendation Try to sell other products apart from those which are being sold to (regular) clients. This can be accessories, add-ons, or completely new products. Use existing communication channels for this as same market is to be targeted.

Implementation Develop variants or customize as per the client requirements or sell them the required spare parts along with the EME. Diversification Entering newer markets with newer products but the new products need not be related to earlier ones. Catterpillar, however, has got it right by going into related diversification like engine manufacturing etc.

Recommendation horizontal diversification (new product, current market) Like acquisition of solar turbnes division of IH for engines they should go aggressively for more acquisitions in a related industry. vertical diversification (move into firms supplier's or customer's business) Caterpillar has a strong distribution network already but it should also enter into it to gain from firsthand knowledge specifically entering a online distribution channel. concentric diversification (new product closely related to current product in new market) - New products such as earth movers which are centrally connected and operators get access to real time information etc. can be developed.

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Implementation Conduct a proper study as to where else can they diversify and then acquire them or try to produce them. Eg:- they are not present in Backhoes3 which they can enter into as competitors are already present but due to their reputation they will be able to sell better. By setting up online channels they can get leads at the same time supply directly from their manufacturing facilities. Like the beadless tire more such products and for this proper resources should be allocated

Wertheim & Co., Inc.

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Caterpillar 2010
Appendix

Ansoff Matrix

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