Andrew R.J. Bonfield
Chief financial officer at Caterpillar
Thank you, Jim, and good morning, everyone. I'll begin with a commentary on the third quarter results, including the performance of our segments. Then I'll discuss the balance sheet and cash flow before concluding with our assumptions for the fourth quarter and full year.
Beginning on Slide 8. Our overall operating performance was strong. Adjusted operating profit margin, adjusted profit per share and ME&T free cash flow, all were better than we expected, while sales grew in line with our expectations. Based on the strong third quarter and year-to-date operating performance, we now expect that the adjusted operating profit margin for the year will be slightly above the top end of our target range at the corresponding level of sales. We also anticipate that ME&T free cash flow will exceed the target range of $4 billion to $8 billion.
In summary, sales and revenues increased by 12% or $1.8 billion to $16.8 billion. The sales increase versus the prior year was driven by -- primarily by price realization, as well as higher sales volume. Operating profit increased by 42% or $1 billion to $3.4 billion. The adjusted operating profit margin was 20.8%, an increase of 430 basis points versus the prior year.
Profit per share was $5.45 in the third quarter of this year. This included restructuring costs of $0.07 per share as compared to $0.08 in the prior year. We continue to expect restructuring expenses of about $700 million for the full year. Adjusted profit per share increased by 40% to $5.52 in the third quarter compared to $3.95 last year. Other income of $195 million was lower than that -- than the third quarter of 2022 by $47 million. The decline was driven by less favorable currency impacts in the quarter, related to ME&T balance sheet translation, as compared to the prior year, along with the recurring increase and a pension expense of approximately $18 million per quarter. Higher investment and interest income acted as a partial offset.
The provision for income taxes in the third quarter, excluding discrete items, reflected a global annual effective tax rate of 22.5%, which is the rate we now expect for the full year. The slightly lower-than-expected tax rate, along with discrete items, added about $0.14 to profit per share in the quarter.
Moving on to Slide 9. As I mentioned, the 12% increase in the top line versus the prior year was primarily due to price realization, as well as higher sales volume. Volume improved as sales to users increased by 13%, while year-over-year changes in dealer inventory acted as a slight offset. Overall, the magnitude of the sales increase was in line with our expectations. However by segment, construction Industries sales were higher, Resource Industries were in line and Energy & Transportation sales were lower than we had anticipated. Services revenues increased in the third quarter. We will update you with our progress towards our services growth target, when we report our fourth quarter results, and as is our normal practice.
Price realization was slightly better than we had anticipated for the quarter. However, as we anticipated, we did see the magnitude of the year-over-year price effects moderate compared to the second quarter, as we lap the prior-year price increases. Volume was slightly below our expectations. As Jim mentioned, sales to users were lower than we had anticipated, principally, in Energy & Transportation. However, this was nearly offset by the increase in dealer inventory versus our expectations of being about flat for the quarter.
The dealer -- increase in dealer inventory was driven primarily by Construction Industries. There we had stronger-than-expected shipments in North America, particularly in building construction products and earthmoving. Within North America, these products remain constrained and are near the bottom end of the typical dealer inventory range of three months to four months of sales.
We also saw some dealer inventory increase in Energy & Transportation within the quarter. I'll remind you that dealer inventory in Energy & Transportation and Resource Industries is mainly a function of the commissioning pipeline, with over 70% of dealer inventory in these segments backed by firm customer orders. Because dealer inventory is more a functioning -- function of commissioning in Resource Industries and Energy & Transportation, it is difficult for us to predict in these two segments. I will discuss further our full year expectations for dealer inventories a little bit later.
Moving to Slide 10, third quarter operating profit increased by 42% to $3.4 billion, while adjusted operating profit increased by 41% to $3.5 billion. Price realization, which included a slight benefit from a shift in the geographic mix of sales and sales volume were favorable in the quarter. Our largest headwinds to operating profit were higher SG&A and R&D expenses and higher manufacturing costs. SG&A and R&D expenses included higher strategic investment spend. Manufacturing cost increases included higher material costs and unfavorable cost absorption, as we reduced our inventories compared to a corresponding increase in the third quarter of 2022. Lower freight costs acted as a partial offset within manufacturing costs.
The adjusted operating profit margin of 20.8% improved by 430 basis points. This was better than we had anticipated, primarily due to favorable manufacturing costs, of which freight was the largest contributor. Also, the slightly better-than-expected price helped margins.
Now I'll discuss the performance of the segments. On Slide 11, Construction Industries sales increased by 12% in the third quarter to $7 billion, primarily due to favorable price realization. By region, sales in North America rose by 31% due to higher sales volume and favorable price. As I mentioned, supply chain improvements enabled stronger-than-expected shipments in North America, which supported some dealer restocking.
Sales of equipment to end users were in line with our expectations for the region. Sales in Latin America decreased by 31%, primarily due to lower sales volume, partially offset by favorable price. In EAME, sales increased by 8%, mainly due to favorable price and currency impacts. Sales in Asia-Pacific decreased by 8%, primarily due to lower sales volume, driven by lower sales of equipment to end users. Third quarter profit for Construction Industries increased by 53% versus the prior year to $1.8 billion. The increase was mainly due to favorable price realization. The segment's operating margin of 26.4% was an increase of 710 basis points versus last year. Margin exceeded our expectations on better volume, price and lower-than-anticipated manufacturing costs, primarily freight.
Turning to Slide 12, Resource Industries sales grew by 9% in the third quarter to $3.4 billion. The increase was primarily -- primarily due to favorable price realization, partially offset by lower sales volume. Volume decreased as higher sales of equipment to end users were more than offset by lower aftermarket parts volume, which reflected changes in dealer buying patterns. Third quarter profit for Resource Industries increased by 44% versus the prior year to $730 million, mainly due to favorable price realization. Profit was partially offset by the -- by the impact of lower sales volume, which included unfavorable product mix. The segment's operating margin of 21.8% was an increase of 540 basis points versus last year. Margin was better than we had expected, primarily due to lower-than-anticipated manufacturing costs, driven by freight and price.
Now on Slide 13. Energy & Transportation sales increased by 11% in the third quarter to $6.9 billion. Sales were up across all applications. Oil and gas sales increased by 26%, power generation sales were higher by 21%, industrial sales rose by 5% and transportation sales increased by 6%. Third quarter profit for Energy & Transportation increased by 26% versus the prior year to $1.2 billion. The increase was mainly due to favorable price realization and higher sales volume, partially offset by higher SG&A and R&D expenses, unfavorable manufacturing costs and currency impacts.
SG&A and R&D expenses reflected ramping investments related to strategic growth initiatives. A reminder, the most of our strategic investments relating to electrification and alternative fuels occur in the segment, which impacts reported margins. The segment's operating margin of 17.2% was an increase of 210 basis points versus the prior year. Margin was lower than we had anticipated, primarily due to lower-than-expected sales volume, impacted by supply chain challenges for large engines and delivery delays for solar turbines.
Moving to Slide 14. Financial Products revenue increased by 20% to $979 million, primarily due to higher average financing rates across all regions. Segment profit decreased by 8% to $203 million. The decrease was mainly due to a higher provision for credit losses at Cat Financial. The unfavorable impact reflects a challenging comparison as we had reserve releases in the prior year, as compared to a more typical provision expense in the third quarter of 2023.
Of note though, through the third quarter of this year, provision expense for a comparable nine-month period is at the lowest level for over 20 years. Business activity remains strong, with our -- and our portfolio continues to perform well, with past dues and write-offs at historic low levels. Past dues in the quarter were 1.96%, a 4 basis point improvement compared to the third quarter of 2022, and a decrease of 19 basis points compared to the second quarter. Retail new business volume increased versus the prior year, and though it declined compared to the second quarter, this follows the typical seasonal pattern. In addition, we continued to see strong demand for used equipment, and used inventory remains at low levels.
Now on Slide 15. Our ME&T free cash flow has been robust this year with another $2.9 billion generated during the third quarter. With $6.8 billion generated through the first three quarters of this year, we expect to exceed our target of $4 billion to $8 billion this year. From a working capital perspective, we had a small inventory decrease of around $200 million in the quarter. Looking ahead, we expect our inventory levels will continue to decrease as we've seen sustained supply chain improvement. CapEx in the third quarter was around $400 million. With about $1.1 billion in CapEx through the first three quarters, we continue to expect around $1.5 billion for the full year. Our balance sheet remains strong. We have ample liquidity with an enterprise cash balance of $6.5 billion, and we hold an additional $4.3 billion in slightly longer-dated liquid marketable securities to improve yields on that cash.
Now on Slide 16. I will share some high-level assumptions for the fourth quarter and the full year. During the fourth quarter, we anticipate slightly higher sales as compared to the prior year. Price should remain favorable. We expect sales to users to continue to support good underlying growth, though changes in dealer inventories should act as an offset. As a reminder, we saw dealers increase inventories by $700 million in the fourth quarter of 2022, whilst we expect a decrease in the fourth quarter of this year. Specifically in Construction Industries, we do not expect the seasonal sales increase typically seen from the third to the fourth quarter. Those sales to users are expected to increase on both a sequential and year-over-year basis. Instead, we anticipate lower shipment volumes, as we complete the Cat engine changeover in building construction products, and dealers reduced their inventories principally of excavators. This compares to a dealer inventory increase in the fourth quarter of 2022.
Though we now expect that dealer inventory in Construction Industries will be higher at the end of 2023 than it was at year end 2022, we still expect it to be within the typical three months to four months of sales range. A reminder, this is an average across all dealers and all products in Construction Industries, and it's difficult to predict with precision, given over the 150 independent dealers and hundreds of different products. Similar to last quarter, there are still areas, and/or products where dealers would like to have more inventory. As Jim has mentioned, we are very comfortable with the level of inventory held by dealers overall.
In Resource Industries, we anticipate slightly lower sales as compared to the third quarter, as a result of improvements in availability. We also expect lower sales versus the prior year, driven by changes in dealer inventory. In the fourth quarter of 2022, there was an increase in dealer inventories for Resource Industries, while we expect a decrease in the fourth quarter of this year. We expect sales in Energy & Transportation to increase in the first quarter as compared to the third quarter, with higher solar turbines and rail deliveries. However, keep in mind that we continue to work through supply chain challenges, primarily impacting large engines. We also anticipate some moderation in industrial sales during the fourth quarter, compared to recent high levels.
Now, I'll comment on our expectations for margins. We provided our adjusted operating profit margin target charge to assist you in your modeling process. Based on our current planning assumptions, we anticipate the adjusted operating profit margin to be slightly above the target range for the full year 2023. This is based on the corresponding estimated level of sales. Your expectation for total enterprise sales this year will inform where margins could finish for the year. Specific to the fourth quarter, we anticipate the adjusted operating profit margin to be lower than the third quarter. We anticipate lower-than-normal volume leverage, particularly impacting Construction Industries, for the reasons I mentioned previously. We also anticipate a negative segment mix impact -- to impact operating margins, as Construction Industries sales would be a lower proportion of total sales, as compared to the third quarter.
Price realization should remain positive, though we expect the magnitude of the favorability versus the prior year to moderate as we continue to lap more favorable pricing trends from last year. Therefore, the increases in margins that have occurred from price outpacing manufacturing cost inflation, should moderate in the fourth quarter. In addition, as you look down the income statement for the prior year, there are a couple of points to note. First, short-term incentive expense in the fourth quarter of 2022 was lower than normal due to the true up for the final outcomes for the financial year. This will be a headwind for year-over-year operating margins. However, this will be partially offset by favorability in other operating income and expense, as we do not expect a significant currency translation losses that we saw in the fourth quarter of last year to recur.
By segment, in Construction Industries, we expect slightly lower margin compared to the third quarter, assuming lower volume. We also anticipate lower sequential margins in Resource Industries, as is typical, impacted by cost absorption, along with higher spend, relating to strategic investments. In Energy & Transportation, we expect margins will be similar to the third quarter, with stronger volume offset by manufacturing costs, and an unfavorable mix of products, which includes international locomotive deliveries in rail.
Now turning to Slide 17, let me summarize. Adjusted profit per share was $15.98 through the first three quarters of the year, which already exceeds our previous full year record by 15%. We generated strong adjusted operating profit margin, with a 430 basis point of increase to 20.8%. We now expect to be slightly above the targeted range for adjusted operating profit margin for the full year based on our expected sales levels. ME&T free cash flow remained robust with $6.8 billion year-to-date. We now expect ME&T free cash flow to exceed at $4 billion to $8 billion target range for the full year. We continue to execute our strategy for long-term profitable growth.
And with that, we'll take your questions.
