Caterpillar Q1 2022 Earnings Call Transcript

Quartr
Provided by Quartr
April 28, 2022

Key Takeaways

  • 14% YoY sales growth to $13.6 billion in Q1 drove EPS of $2.86 (GAAP) and $2.88 (adjusted), both slightly ahead of last year.
  • Supply chain constraints—semiconductor shortages, freight and material cost headwinds—limited potential sales upside and pressured margins.
  • Backlog expanded by $3.4 billion, led by Energy & Transportation, underscoring robust order demand despite shipment delays from ongoing supply issues.
  • Dealers increased inventory by about $1.3 billion in Q1, still near the low end of typical ranges; a seasonal Q2 drawdown is expected but no large restocking benefit is projected for 2022.
  • Pricing to more than offset elevated manufacturing costs is expected in 2022, with margins improving in H2 and ME&T free cash flow targeted at $4–8 billion, largely returned to shareholders.
AI Generated. May Contain Errors.
Earnings Conference Call
Caterpillar Q1 2022
00:00 / 00:00

There are 17 speakers on the call.

Operator

Welcome to the First Quarter 2022 Caterpillar Earnings Conference Call. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Ryan Fielder. Thank you. Please go ahead.

Speaker 1

Thank you, Emma. Good morning, everyone, and welcome to Caterpillar's Q1 of 2022 earnings call. I'm Ryan Fiedler, Director of Investor Relations. Joining me today are Jim Umpleby, Chairman and CEO Andrew Bonfield, Chief Financial Officer Kyle Eppley, Vice President of the Global Finance Services Division and Rob Rangel, Senior IR Manager. During our call today, we'll be discussing the Q1 earnings release we issued earlier today.

Speaker 1

You can find our slides, the news release and a video recap at investors. Caterpillar.com under Events and Presentations. I would also like to remind everyone that we are hosting Caterpillar's Investor Day on May 17 from 10:30 am to 3 pm Central Time at the Hilton DFW Lakes Executive Conference Center in Grapevine, Texas. Our theme is Services, Technology and Sustainability, Helping Our Customers Build A Better World. Please check out the details on our investor website.

Speaker 1

Caterpillar has copyrighted this call and we prohibit use of any portion of it without our prior written approval. Moving to Slide 2. During our call today, we'll make forward looking statements, which are subject to risks and uncertainties. We'll also make assumptions that could cause our actual results to be different than the information we're sharing with you on this call. Please refer to our recent SEC filings and the forward looking statements reminder in the news release for details on factors that, individually or in aggregate, could cause our actual results to vary materially from our forecast.

Speaker 1

On today's call, we'll also refer to non GAAP numbers. For a reconciliation of any non GAAP numbers to the appropriate U. S. GAAP numbers, Please see the appendix of the earnings call slides. Today, we reported profit per share of $2.86 for the Q1 of 2022 compared with $2.77 of profit per share in the Q1 of 2021.

Speaker 1

We're including adjusted profit per share in addition to our U. S. GAAP results. Our adjusted profit per share was $2.88 for the Q1 of 2022 compared with adjusted profit per share of $2.87 the Q1 of 2021. Adjusted profit per share for both quarters excluded restructuring costs.

Speaker 1

Now, Let's flip to Slide 3 and turn the call over to our Chairman and CEO, Jim Amblebe.

Speaker 2

Thanks, Ryan. Good morning, everyone. Thank you for joining us. I'd like to start by thanking our global team for their contributions to another good quarter. We continue to execute our strategy for long term profitable growth as demonstrated by our Q1 results.

Speaker 2

I'll begin with my perspectives on our performance in the quarter and then I'll provide some insight on our end markets. Before discussing our results, I'd like to take a moment to say we remain deeply saddened by the tragic events continuing to occur in Ukraine and hope for a peaceful resolution. Through the Caterpillar Foundation, we have donated more than $1,000,000 to support both urgent and long term needs of the Ukraine's humanitarian crisis. I'm proud of our employees for their generous contributions to the Foundation Matching Gifts program, which added nearly an additional $1,000,000 of support for Ukrainian refugees. On the operations front, We suspended production in our Russian manufacturing facilities and will continue to comply with all applicable laws and evolving sanctions.

Speaker 2

Moving on to our quarterly results, sales rose in all three of our primary segments due to volume gains and favorable price. Sales and margins were both slightly better than we expected. And similar to the second half of twenty twenty one, our top line would have been even stronger without the continuing supply chain constraints. Overall, we remain encouraged by the strong demand for our products and services. The Q1 of 2022 marked the 5th consecutive quarter of higher end user demand compared to the prior year.

Speaker 2

Services remained strong in the quarter. We continue to make progress on our service initiatives, including customer value agreements, e commerce, connected assets and prioritized service events. Moving to Slide 4, sales and revenues increased by 14%, slightly better than we expected. The increase was primarily driven by higher end user demand and the impact of changes in dealer inventories as well as strengthening price realization. The impact of our price actions started to accelerate in the second half of twenty twenty one.

Speaker 2

We generated double digit sales growth in all primary segments and sales rose in North America, Latin America and EAME. Asia Pacific was down by 4%. Compared with the Q1 of 2021, sales to users rose 2%, which was about as we expected. For machines, including Construction Industries and Resource Industries, sales to users increased by 3%, while Energy and Transportation decreased 1%. Sales to users in construction industries were about flat overall with good growth globally in the Q1 except for China.

Speaker 2

North America grew by double digits as residential construction remained strong and non residential contributed to show signs of improvement. Latin America saw higher end user demand supported by construction and strong commodity prices. End user demand increased in the EME due to residential growth and supportive commodity prices. I'll briefly discuss China. In the Q1 of 2021, China's greater than 10 ton excavator industry was at an all time high, which resulted in a difficult comparable in the quarter.

Speaker 2

In the Q1 of 2022, China was lower than we expected due to weaker residential construction and COVID-nineteen related shutdowns. Overall, sales in China were about half the level we saw in the prior year's quarter. Keep in mind, China sales are typically 5% to 10% of our enterprise sales. Outside of China, Asia Pacific sales to users grew as we continue to see strong demand in the region. In Resource Industries, the overall environment remained positive with sales to users up 13%, an improvement from the 4th quarter.

Speaker 2

Mining increased at a measured pace, which which is in line with the expectations that we've been communicating to you for the last couple of years. Strong commodity prices supported the high utilization and a low number of parked trucks. In heavy construction and quarry and aggregates, sales to users increased versus the prior year for the 4th straight quarter as end user demand continues to improve. In energy and transportation, sales to users declined 1% versus the prior year. Solar turbines declined as expected due to the timing of projects.

Speaker 2

Excluding solar, sales to users were strong. Oil and gas sales to users were down in the Q1 with improvement in reciprocating engines more than offset by solar. Despite continued data center and rental demand strength, power generation sales to users were down overall due to timing of some larger projects. Industrial end user demand strengthened across all regions. Lastly, transportation benefited from growth off a low base, primarily in marine applications.

Speaker 2

Now, let's spend a moment on dealer inventory. Dealers who are independent businesses increased their inventories by about $1,300,000,000 in the Q1. This compares to a $700,000,000 increase in the Q1 of last year. While dealer inventories remain near the low end of the typical range, we continue to work closely with dealers to satisfy higher end user demand. Andrew will provide additional color about dealer inventory later in the call.

Speaker 2

Regarding ongoing supply constraints, We experienced similar challenges to what we highlighted in the Q4, which was in line with our expectations. We continue to experience constraints with semiconductors and search and other components. Our team continues to implement solutions to help mitigate the overall situation. For example, we executed engineering redesigns to provide customers with alternative options. We also increased dual sourcing of components and place specialized capital resources at suppliers to help ease constraints.

Speaker 2

I remain proud of our global team's ability to deliver double digit sales growth despite supply chain challenges. Similar to previous quarters, absent the supply chain constraints, our top line would have been even stronger. When the supply chain conditions ease, we expect to be well positioned to fully meet demand and gain operating leverage from higher volumes. Operating profit increased 2% in the quarter to $1,900,000,000 driven by strong volume and favorable price realization across all segments, which was partially offset by higher manufacturing costs and SG and A and R and D expenses. The higher manufacturing costs primarily reflected increased material and freight costs in the quarter.

Speaker 2

While we did see some labor inefficiencies, these were not as significant as they were in the Q4. Operating profit margins were 13.7% in the Q1, which was lower than the Q1 of 2021. We expect the comparisons would be difficult as inflationary impacts to manufacturing costs accelerated in the back half of twenty twenty one and remained at a similar level in the Q1 of 2022. On a sequential basis, our margins improved versus the Q4 as we expected. Our profit per share was $2.86 versus $2.77 in the Q1 of 2021.

Speaker 2

The adjusted profit per share was $2.88 versus $2.87 in the Q1 of last year. On Slide 5, we had an ME and T free cash outflow of about $400,000,000 in the quarter, which Andrew will discuss in a few moments. To remind you, our Today target is to deliver ME and T free cash flow of between $4,000,000,000 $8,000,000,000 per year. We expect to be within that range for the year 2022. Regarding capital deployment, we completed $800,000,000 of share repurchases and returned $600,000,000 in dividends to shareholders.

Speaker 2

We remain proud of our dividend aristocrat status. We continue to expect to return substantially all of our ME and T free cash flow to shareholders over time through dividends and share repurchases. Now, I'll share some high level assumptions on our expectations for the full year. We expect to achieve our Investor Day targets for adjusted operating profit margins and as I've just mentioned to lever ENT free cash flow within our targeted range in 2022. As I previously indicated, we continue to be encouraged by strong order demand across our segments.

Speaker 2

In the Q1 of 2022, our total backlog increased by $3,400,000,000 as we experienced continued strong demand and supply chain challenges. Backlog increased in all segments with the largest increase in energy and transportation. The environment continues to be challenging due to supply chain constraints and the more recent COVID-nineteen related shutdowns in China. Although manufacturing costs are expected to remain elevated, we expect price to more than offset these cost increases for the full year. Turning to Slide 6, I'll discuss our expectations for key end markets this year.

Speaker 2

In Construction Industries in North America, residential construction remains strong with non residential continuing to improve. Despite rising interest rates, infrastructure investment is expected to improve in late 2022 and beyond, supported by the U. S. Infrastructure Investment and Jobs Act. The 10 ton and above excavator market in China was very strong in 2020 2021.

Speaker 2

We now anticipate this market will be slightly lower than 2019 levels. The rest of Asia Pacific region is expected to grow due to higher infrastructure spending. In EME, despite the broader geopolitical concerns, We remain cautiously optimistic due to housing growth and the EU investment package that is expected to drive construction demand. Construction and mining activity in Latin America are supportive of growth that could be impacted by inflation and interest rate policy decisions. In Resource Industries, we believe commodity prices will continue to drive higher production and utilization levels, which support more investments in equipment and services in 2022 and beyond.

Speaker 2

Within heavy construction and quarry and aggregates, We also anticipate continued growth in 2022. Lastly, we are seeing increased quoting for our autonomous solutions, which includes large mining trucks, drills, truck type tractors, water trucks and underground machines. In Energy and Transportation, We expect improving momentum in 2022 with strong order rates in most applications. In oil and gas, Although customers remain disciplined, we are encouraged by continued strength in reciprocating engine orders, especially for large engine replacements as asset utilization increases. Power generation orders remain healthy due to positive economic growth and continued data center strength.

Speaker 2

In 2022, while solar services are expected to remain steady, we continue to expect new equipment shipments to be lower than last year due to the lead time of Solar's products. Solar's new equipment orders strengthened significantly in the Q1 and shipments are expected to improve in late 2022 or early 2023. Industrial remains healthy with continued momentum in construction, Agriculture and Electric Power. In rail, North American locomotive sales are expected to remain muted, but international locomotives are more promising. We also anticipate growth in high speed marine as customers upgrade aging fleets.

Speaker 2

Now on to Slide 7. In 2021 and into the Q1 of 2022, Caterpillar and our customers announced a number of projects that will contribute to a reduced carbon future. We recently entered into an agreement with Ioneer, a U. S.-based lithium boron miner. This will be the 1st greenfield site in the U.

Speaker 2

S. To use autonomous haul trucks. Lithium is a key component for electric for battery electric vehicles and the minerals from this Nevada mine will help contribute to a more sustainable future. Our autonomous technology is a competitive advantage as it delivers significant benefits to our customers, including improved safety, productivity and efficiency while lowering greenhouse gas emissions per ton of material moved. Our commitments to the annualized rate remains strong as we continue to execute our strategy for long term profitable growth.

Speaker 2

I look forward to hosting you at our Investor Day on May 17, where we will be talking more about services, technology and sustainability. With that, I'll turn the call over to Andrew.

Speaker 3

Thank you, Jim, and good morning, everyone. I'll begin with a recap of our Q1 results, including the performance of our segments. Then I'll comment on the balance sheet and free cash flow before concluding with a few comments on our expectations as we move into the Q2 of 2022. Beginning on Slide 8, Sales and revenues for the Q1 increased by 14 percent or $1,700,000,000 to $13,600,000,000 volume, including higher dealer inventory build and price drove the increase in sales and revenues, which as Jim mentioned was slightly better than we had expected. Operating profit increased by 2% to $1,900,000,000 as price realization and volume growth were partially offset by higher manufacturing and period costs.

Speaker 3

Our adjusted operating profit margin of 13.7% was slightly better than we had anticipated, primarily due to the stronger than expected volumes and favorable price realization. 1st quarter profit per share was $2.86 compared to $2.77 in the prior year. Adjusted profit per share was $2.88 in the Q1 compared to $2.87 last year. Adjusted profit per share for both quarters excludes restructuring costs. Our global tax rate in the quarter was about 24%, slightly lower than we had guided you into in January.

Speaker 3

However, on a comparable basis, the lower tax rate was offset by lower favorable discrete tax benefits compared to the prior year. Now on Slide 9. As we anticipated, the top line improved on stronger volume and price realization. End user demand increased versus the prior year, but the growth rate accelerated on a sequential basis due to tougher comparisons, especially in China. Dealer inventory rose by about $1,300,000,000 Services revenues remained strong in the quarter, price realization strengthened, while currency was a bit of a headwind.

Speaker 3

Let me provide some color on dealer inventory. The $1,300,000,000 increase versus year end 2021 was nearly double what we had anticipated and about $600,000,000 more than the increase we saw in the same quarter last year. About half of that $600,000,000 increase year on year came from Resource Industries due to the timing of shipments from our dealers to their customers, which can be lumpy. These units are backed by firm customer orders, but were not recognized in our reported retail sales quarter. This is in part due to variations in on-site assembly times.

Speaker 3

The other half of the deal inventory increase was mainly due to the timing of shipments in construction industries late in the quarter. We anticipate that dealers will start to sell down their inventories in the Q2 following their normal seasonal pattern on strong sales to users. Our expectations for the full year haven't changed and we do not expect to see a significant benefit from dealer restocking in 2022 as end user demand remains strong. 1st quarter sales and revenues increased by double digit percentages in all regions except Asia Pacific. Sales in North America rose by 23% with continued growth in the 3 primary segments.

Speaker 3

In EAME sales increased by 15%, while Latin America sales grew by 26%. A 4% decrease in Asia Pacific sales was primarily due to softening in China. Sales in the remainder of that region were positive. Moving to Slide 10. As I mentioned, 1st quarter operating profit increased by 2% on favorable price and volume.

Speaker 3

Price realization was slightly better than we had anticipated. Manufacturing costs remain elevated, but in line with our expectations, primarily due to continued material and freight cost headwinds. SG and A and R and D costs increased partly due to investments in services and technology such as digital, autonomy and electrification. Our 1st quarter adjusted operating profit margin was 13.7%, a 2 10 basis point decrease versus the prior year. As we said in our Q4 2021 earnings call, We expected the largest margin headwinds to occur in the Q1.

Speaker 3

1st quarter margins were lower than the prior year. Favorable price realization did not offset higher manufacturing costs, but did improve compared to the Q4 of 2021. Margins were slightly better than we had anticipated on stronger price and volume, partially offset by higher than expected short term incentive compensation. I will discuss our expectations for the Q2 and full year margins in a bit more detail later. Moving to Slide 11, let's review segment performance starting with Construction Industries.

Speaker 3

Sales increased by 12% in the Q1 to $6,100,000,000 primarily driven by favorable price realization and strong sales volume. End user demand improved in 3 of the 4 regions. North America had the highest sales growth in sales dollars, a 28% increase as nonresidential demand improved and residential construction remained strong. Sales in Latin America increased by 60% as construction activity supported higher demand. The AAMI sales increased by 18%, primarily due to growth in residential construction demand.

Speaker 3

However, Asia Pacific sales decreased by 21% due to a reduction in sales in China, which had a very strong quarter a year ago. The segment's 1st quarter profit increased by 1% versus the prior year to $1,100,000,000 Price realization and higher sales volume drove the increase more than offsetting increases in manufacturing costs. Price realization was stronger than we had anticipated, lag manufacturing costs in the quarter. The segment's operating margin decreased by 180 basis points to 17.3%. Turning to Slide 12, resource industry sales increased by 30% in the Q1 to $2,800,000,000 The improvement was mostly due to higher end user demand, the impact from changes in dealer inventories and favorable price.

Speaker 3

End user demand increase in heavy construction and quarrying aggregates as well as mining. 1st quarter profit for Resource Industries increased by 16% to $361,000,000 Higher sales volume and favorable price realization were partially offset by higher manufacturing costs and increases SG and A and R and D expenses. Manufacturing cost increases were primarily due to freight and material. The segment's operating margin decreased by 150 basis points versus last year to 12.8%. Now on Slide 13.

Speaker 3

Energy and transportation sales increased by 12% to approximately $5,000,000,000 sales up across all applications. This included a 4% sales increase in oil and gas, including aftermarket parts for reciprocating engines. Power generation sales increased by 5%, the small reciprocating engine sales improved. Solar Turbine sales were lower in the quarter for oil and gas and power generation applications, impacted by a higher than usual Q1 in 2021. Industrial sales rose by 25% with strength across all regions.

Speaker 3

Finally, transportation increased by 9% Profit for Energy and Transportation decreased by 20 percent to $538,000,000 Higher sales volume and price realization were more than offset by higher manufacturing costs, reflecting continued headwinds from freight and material. In addition, SG and A and R and D expenses increased. The segment's operating margin decreased by 430 basis points versus last year's 10.7%. Let me take a moment to provide a bit more color on Energy and Transportation Margins. Seasonally, Q1 margins are typically lower compared to the rest of the year in this segment.

Speaker 3

The Q1 of 2022 proved a bit more challenging due to continued supply chain constraints, including elevated freight and material costs. I'll discuss freight generally, but note that increased freight costs have impacted this segment more than others. Also, Energy and Transportation took price increases later in the year in 2021, given the differing marketing dynamics as compared to the other primary segments. However, similar to the other segments, we expect margins to improve through 2022 as the benefit of higher price realization starts to pull through. Moving to Slide 14.

Speaker 3

Financial Products had another good quarter. Revenue increased by 3% to $783,000,000 segment profit decreased by 2% to $238,000,000 Whilst profit was down, this represents our 2nd highest 1st quarter profit in 8 years. The decrease was mainly due to a higher provision for credit losses at CAP Financial related to reserves associated with Russia and Ukraine. Note, the Russian Ukraine generally accounts about 2% of Catapos and Enterprise sales and less than 1% of the Cat Financial portfolio. Demand for used equipment remained very strong in the quarter and that helped mitigate the impact of higher provisions.

Speaker 3

Moving to our credit portfolio. It remains high quality as customers and dealers continue to perform well in the quarter. Past views were 2.05%, the best Q1 performance we've seen in 15 years. That's down 85 basis points year over year and up just 10 basis points compared to the 4th quarter, which had marked 15 year low. While new business volume typically decreased versus the 4th quarter, this is typical seasonality.

Speaker 3

New business volume was our 2nd highest first quarter performance in 8 years, 2nd only to the prior year, which benefited from pent up demand following COVID related shutdowns. Regarding interest rate changes, we are in a good position as our matched funding strategy serves to mitigate that risk. We also maintained healthy spreads on new business. Now on Slide 15. We had an M E and C free cash outflow of about $400,000,000 a decrease of $2,100,000,000 versus the Q1 of 2021.

Speaker 3

Let me take a moment to discuss the changes. In a typical year, the Q1 is our weakest from a cash generation perspective, primarily due to the payment of our incentives. We paid approximately $1,300,000,000 in short term incentive compensation during the Q1 compared to 0 in the prior year. This counts for the majority of the difference year over year. In addition, we continue to build production inventory in the quarter by about $1,000,000,000 which contributed to a negative net working capital impact of approximately $600,000,000 Despite these first quarter impacts, We continue to expect to achieve our Investor Day free cash flow target of between $4,000,000,000 $8,000,000,000 for the full year.

Speaker 3

Moving to shareholder return, we paid around $600,000,000 in dividends during the Q1. We also repurchased about $800,000,000 worth of common stock, supporting our objective to be in the market on a more consistent basis. Enterprise cash was $6,500,000,000 a $2,700,000,000 decrease compared to the year end. The $400,000,000 free cash outflow and $1,400,000,000 in shareholder returns accounted for the majority of the decrease in our cash position. In addition, we have moved some of our cash balances into slightly longer dated liquid marketable securities in order to improve the yield on that cash.

Speaker 3

This amounted to about $800,000,000 in the quarter. Now Slide 16. In light of the current environment, including supply chain constraints, we continue to refrain and providing annual profit per share guidance. However, I do want to share some thoughts on the Q2 and the full year. The Q1 played out slightly better than we had anticipated on the top line, resulting from higher volume and better than expected price tailwinds.

Speaker 3

Supply chain challenges remain steady, which we expect to continue into the Q2. Despite these challenges, we anticipate the top line will increase compared to Q1 on continued strong end user demand and favorable price realization. Looking to the remainder of the year, Our order books and backlog remain robust. We expect continued strong end user demand and pricing, although supply chain changes will impact the extent to which we'll be able to fully meet demand. As I mentioned, we do not expect to see a significant benefit from dealer restocking in 2022.

Speaker 3

On margins as we discussed in January, we do not expect a typical year. In a normal year, we'd see strong margins in the first with margins decreasing sequentially through the Q4. However, this year we expect margins to improve in the second half of the year compared to both the first half and the comparable period of 2021 as the impact of price actions accelerate. Comparisons ease in the back half year as well as we lap the manufacturing cost increases from the prior year. As Jim mentioned, we continue to expect price to more than offset manufacturing costs of the full year.

Speaker 3

Specific to the Q2, we expect similar margins to the prior year as additional price actions should offset manufacturing cost increases. Looking at the 2nd quarter by segment, we do expect margins in both construction industries and resource industries to be closer to higher than the prior year as price improves and manufacturing cost headwinds are in line with the Q1. Margins in Energy and Transportation should still lag the prior year as the timing of price actions was late as compared to the other segments. However, we expect the lag in the 2nd quarter was not will not be as significant as it was in the Q1. As we move into the second half of the year in Energy and Transportation, we expect a reduction in expediting costs and an improvement in efficiencies.

Speaker 3

Increases in large end and termite volumes versus 2021 should also positively contribute to margins in the second half of the year. However, it's important to note that the majority of our core investments related to the energy transition will impact this segment. Finally, to assist you with more modeling, we currently expect our accrual for short term incentive compensation expense to be around $1,300,000,000 this year. We anticipate a global effective tax rate of around 24% and restructuring costs of approximately $600,000,000 for the full year. Turning to Slide 17.

Speaker 3

In summary, we performed well in a challenging environment. End user demand remains strong and we realized $1,700,000,000 more in revenues. Sales and margins were slightly better than we expected. Looking ahead, comparisons ease in the second half of the year, and we expect to achieve our Investor Day targets adjusted operating profit margins and ME and team free cash flow. And with that, we'll take your questions.

Operator

As a reminder, management asks that we limit to 1 question per analyst. Your line will close once the question has been posed. If clarification is desired, please rejoin the queue. Your first question comes from the line of Rob Wertheimer with Melius Research. Your line is now open.

Speaker 4

Thanks and good morning everyone.

Speaker 2

Good morning, Rob.

Speaker 4

If I have it right, I think your backlog increased by the most in a decade, maybe one of the couple best order quarters, implied order quarters you've had. And obviously there's some moving parts you guys addressed, the fact that you'd like to ship a little bit more. I don't know if you can quantify that. I know you've done a lot of work with dealers helping them forecast to I don't know whether you can sort of give context around that backlog increase, how much more you would like to ship? Does dealer optimism drive a lot of it or is it really end user demand?

Speaker 4

Anything you can say to help us out? Thank you.

Speaker 2

Thanks for your question, Rob. So just in terms of the backlog. The largest backlog increase was actually in energy and transportation and as orders continue to strengthen for both solar and for reship oil and gas. And as you know, Those products tend to have longer lead times. I haven't said that we are certainly working with our dealers To help them satisfy end user demand, we do have a new S and OP process and we do feel good about the quality of the orders that we're getting in ENT and RI again, which tend to have some of those longer lead times.

Speaker 2

So again, just a real positive backdrop moving forward.

Operator

Your next question comes from the line of Jamie Cook with Credit Suisse. Your line is now open.

Speaker 5

Hi, good morning and nice quarter. Jim, I guess my question I'll direct it towards you because it's with regards to ENT and you used to run that business. So Can you help me understand the top line was a little lighter than I would have thought. What are you hearing from your oil and gas customers and how does that impact the trajectory of growth for ENT this year. And then I guess on the margin side, I understand And the puts and takes with Solar and pricing having to come through in investment, but is there any way you can help us with how to think about sort of E and T margins As we exit the year, I don't know if investment some of the investments you're making will sort of create pressure on margins, I guess, over the longer term.

Speaker 5

So thank you.

Speaker 2

You bet. Oil and Gas customers Do continue to display capital discipline. However, we are encouraged by the improvement in orders for both RECIP and solar. As As I mentioned earlier, those products tend to have longer lead times, higher oil prices leading to increased utilization and refurbishment of frac assets and it's an approved opportunity for pump and flow iron as well. Dan, in terms of your question Around margins, as you can imagine, as volume increases in solar and oil and gas that will help.

Speaker 2

Also, we've mentioned previously We took price action in energy and transportation around engines later than we did machines and as those price actions Continued to take effect that will also help margins as we move throughout the year.

Speaker 5

So no structural headwinds margins?

Speaker 2

Again, certainly we're making investments in sustainability and some of the things we're doing there around alternative drivetrains. So we're making those investments, but again, the other side of it is, of course, improving volume and price.

Operator

Okay. Thank you. And

Speaker 3

as I indicated, Jamie, we would expect Just the same for the other segments, margins to improve in the second half of the year in Energy and Transportation.

Speaker 5

Okay. Thanks.

Operator

Your next question comes from the line of Mig Dobre with Baird. Your line is now open.

Speaker 6

Thank you for the question. Appreciate it. I guess maybe a question for Andrew, looking to kind of clarify some of your comments. In terms of price realization, I guess you're pretty clear that this continues to build momentum. You talked about E and P.

Speaker 6

I'm curious as to how you're thinking about variable manufacturing Assuring costs sequentially, 2nd quarter and the back half of the year. Recognizing that the comps are a little bit different, but obviously Input costs have changed a little bit versus previous assumptions given all that's been happening in the world. So how should we think about that framework?

Speaker 3

Yes. So if you recall, I think, Q4, we had about $600,000,000 of price and about $800,000,000 increase in manufacturing costs. Obviously, this quarter was a similar level in manufacturing, cost increases and price was a little bit better $700,000,000 We thought we would probably be about around the same in the Q1 as we have been in the Q4. We also indicated that we would expect manufacturing cost increases to continue at this sort of level for the at least Q1 and Q2 and then moderate as we get into Q3, Q4 because of the impact of lapping the increases that have occurred in Q3, Q4 the previous year. Yes, it is likely that those costings will be slightly higher than we had originally anticipated back in January Because obviously, their input costs are continuing to grow.

Speaker 3

However, we have taken extra price actions. So that's why we're still more than comfortable that price will more than offset manufacturing cost increases for the year. So That will be probably the way I would look at it as we go out for the remainder of 2022.

Operator

Your next question comes from the line of Steve Volkmann with Jefferies. Your line is now open.

Speaker 7

Thanks. Good morning, everybody. Jim, I think in your prepared comments, when you were speaking about Construction Industries, you mentioned a couple and support of commodity prices was helping demand there. And I'm curious for a little more detail, can you just talk about how much of CI you I think is kind of driven by commodity prices and sort of how that unfolds going forward.

Speaker 2

Yes, Steve, I believe I mentioned commodity prices being supportive of RI as opposed to CI. But just to talk about CI a bit. Again, we talked about residential, non residential improving infrastructure investments being made by various governments around the world. So those are all Tailwinds for CI. The commodity prices certainly are supportive of investment in RI and of course ENT as well with oil prices Thank

Operator

you. Your next question comes from the line of David Raso with Evercore. Your line is now open.

Speaker 8

Hi, good morning. Given the last few months, it seems like a theme that Maybe people wouldn't have expected 3 months ago was sort of a rebirth of old energy, let's call it. You mentioned a bit about oil and gas Picking up on the reship side and maybe the turbine activity on the order book at least. I'm curious on the mining side,

Speaker 2

Can you give

Speaker 8

us a little more color on any change in tone? And obviously, coal comes to mind. But even more broadly, what are you hearing in the last 3 months, any tone change, particular on some of the old energy customers?

Speaker 2

Well, thanks for your question, David. And as we've been talking about for a couple of years, We've been expecting moderate increase over time in mining and that's really how it's played out. Our customers are Continuing to display capital discipline, but in fact, we're seeing investments, we're seeing new orders for trucks, parked trucks remain at low levels As utilization increases, in terms of coal, certainly coal prices have been up for the last year or Remains to be seen exactly how this plays out. If there are prolonged restrictions on natural gas, What we're seeing in Europe and other places there in fact could be increased demand for coal. But having said that again, we've seen improved coal prices over the last year.

Speaker 2

And so commodities in the mining sector have been supportive of investment across a wide range of commodities and I put coal in that bucket as well.

Operator

Your next question comes from the line of Tami Zakaria with JPMorgan. Your line is now open.

Speaker 9

Hi, good morning. Can you update us on your services business? What was the growth in that segment in the quarter. What's the total dollar size of the services segment now versus your Investor Day targets? And what are you expecting for services in 2Q and the rest of the year?

Speaker 2

You bet. Well, we're pleased with services growth in the quarter. We released the annual services sales and revenues once a year. And so we'll do that in January for a full year 2022. Having said that, we continue to make progress with our various initiatives.

Speaker 2

We're pleased at the way things are going and we're still driving towards that target of doubling services sales between 2016 2026.

Operator

Got it. Thank you. Your next question comes from the line of Chad Dillard with Bernstein. Your line is now open.

Speaker 6

Hi, good morning guys.

Speaker 2

Hi, Jay.

Speaker 6

So I just want to go back to your comments about improving orders on the RECIP and solar side. And I was just hoping you could talk about how Cat is set up for this upcoming oil and gas CapEx cycle versus prior years. Maybe you can talk about just from a product standpoint Or even just like how much extra wallet share you can capture now that you have Weir under the fold? And just any Like proptivity enhancing technology that you have now that you did before that would set you apart versus your competition.

Speaker 2

Well, thanks for your question. And we do feel good about our competitive position. Just starting quickly with Solar, they have a strong They have strong leadership in the market and we're very pleased at the way they're positioned moving forward. On the research side, we made a number of changes as you know we made the acquisition from Weir and we now have a more complete product line which really does put us in a We believe in a strong competitive position as our customers work to reduce their carbon footprint As they increase oil and gas production and as you can imagine, particularly in North America, there's a real strong focus by our oil and gas customers to do that. So again, we feel good about the way we're positioned there with our portfolio now.

Speaker 2

E fracking. We have gas engines being purchased by our oil and gas customers for e frac. So again, a whole variety of things going on there. Customers are buying our DGB engines, which allow them to substitute up to 85% diesel fuel with natural gas. So again, we believe we are quite well positioned.

Operator

Your next question comes from the line of Nicole DeBlase with Deutsche Bank. Your line is now open.

Speaker 9

Yes, thanks. Good morning, guys. Good

Speaker 2

morning, April.

Speaker 9

Just maybe to look at the 2Q outlook and elaborate a little bit. I guess, You guys said sales up Q on Q and 2Q and that's kind of consistent with what's normal in the business. I guess if you were to think about that Is there any reason why the magnitude of the increase in 2Q would not reflect typical seasonality?

Speaker 3

I mean, the one the only small factor that I would raise and it's a very small factor is Obviously, there was $300,000,000 of X-ray inventories put out by CI very late in the quarter and which would otherwise not be a normal season impact. So that will impact a little bit of their reported revenues in Q2. Aside from that, we expect normal seasonality. As you know, demand is Very strong for our product. The biggest challenge is actually being able to supply the market.

Speaker 3

We would be able to if we were able to put more products Into the channel, we would sell more. So that would be the really key factor there.

Operator

Your next question comes from the line of Ross Gilardi with Bank of America. Your line is now open.

Speaker 10

Hey, good morning. Thanks guys.

Speaker 2

Hi Ross.

Speaker 10

Hey, so Jim, your North American construction, The retail sales growth, it improved quite a bit from Q4 to Q1, but It continues to significantly lag the growth for the national rental companies, particularly if you look at what United Rentals put up for rental revenue growth last night. I mean, is there an accelerating structural change to rental over equipment ownership In this world we live in right now with all these supply chain issues and anything you're working on with your dealers The better position cap for this ship rental channel that's been going on for an awfully long time, but if anything, it seems like it's accelerating right now. And just with that, your overall dealer sales decelerated to plus 3% versus plus 5% last quarter. Does that number get worse Potentially go negative again before it gets better or do we see a reacceleration in Q2? Thanks.

Speaker 2

Well, thanks for your questions. Firstly, in terms of demand for CI in North America, it is quite strong. And As I mentioned earlier, supply chain challenges prevented us from having even higher sales in the quarter. Having said that, Caterpillar has a strong rental business. If you add up cat dealers Across North America, it is a strong business and something our dealers are very focused on.

Speaker 2

And we have a relatively new rental leader, so we're working on improving our capabilities there. Having said that, the real issue is supply chain. So if we had in fact more product, we could have more product in the rental fleets and our dealers having to make decisions between putting units in the rental fleet and selling to customers because demand is strong everywhere. So really this is a function of our ability to produce more product due to supply chain constraints as opposed to anything structural. Certainly rental is important.

Speaker 2

It's a growing part of the business, but it's one that we believe we're very well positioned to participate in. The big issue we have at the moment is again the ongoing supply chain challenges, which we've been discussing. And

Speaker 3

then Ross, on your question around on Stew momentum, Obviously, there were a couple of factors in Q1, which did cause a deceleration. I know you're looking at machines, not energy and transportation. So that was the impact on E and T. And then obviously, China was disproportionately it was a very strong quarter in the comps last year, And that has a disproportionate impact and we'll need to see how that pans out in Q2. Overall, though, we do expect actually to see very positive stews again in Q2 versus the comparable period.

Operator

Your next question comes from the line of Courtney Yakavonis with Morgan Stanley. Your line is now open.

Speaker 11

Hi, good morning guys. Thanks for the question.

Operator

Good morning, Chris. I'm wondering if we can

Speaker 11

dig into resources A little bit more, obviously sales were much better than we were expecting this quarter. But in the slide deck you call out heavy construction and quarrying aggregates Ahead of mining, so just wanted to understand on the OE side, is mining reflective of these numbers that we saw or is that full story that's on the come. And then the incremental flow through was also a little bit lower than we would have expected. And is that really just a reflection of these supply chain issues that we're seeing or is that part of this also OE versus aftermarket mix happening. And finally, just since much of the build this quarter that you mentioned in dealer inventories occurred in resources.

Speaker 11

Just wanted to confirm that the 2Q comment that sales will be up Also is applying to that segment as well.

Speaker 2

We remain positive about mining and We continue to see increases in end user demand and again it's playing out much as we've been predicting the last couple of years with improving market conditions, improving orders and improving sales. So we feel good about that. Minor CapEx is up. Commodity prices remain certainly supportive of investment and we're seeing demand for both services, parts and new machines, our trucks remain at low levels, utilization has been increasing And a lot of interest in our in 0 emissions as well. So we've seen a lot of announcements there, things that we're doing with customers.

Speaker 2

Machine average age continues to increase. And so parts rebuilt and aftermarket services are expected to benefit from those aged fleets. So again, mine It's playing out much as we had anticipated. Yes.

Speaker 3

I think just in the quarter, obviously, we did see slightly Foster growth in heavy construction and quarry and ags versus mining, but they were still both up very strongly. As regards the retail stats, obviously, the dealer inventory, the approximately $300,000,000 of units throughout there, Which are being reassembled by the dealers before being sold out to the customer. Those will be reflected in retail units in Q2. So that will help the overall retail stats for RI in the second quarter.

Operator

Your next question comes from the line of Seth Weber with Wells Fargo. Your line is now open.

Speaker 2

Hey, good morning.

Operator

I just

Speaker 12

wanted to ask a question on pricing. I'm really just trying to understand How dynamic is the pricing environment? I think pricing was about 6% here in the Q1. You've talked about E and T pricing getting better through the year here. I mean, Could pricing in aggregate be up more than the 6% that you put that you showed in the Q1?

Speaker 12

I'm just trying to understand how much flexibility you have Change pricing real time here through the second, third quarter.

Speaker 2

Yes. The way we characterize it here is, we do expect price more than offset manufacturing cost increases in 2022 and we expect more of an impact of pricing in the second half versus the first half. We continually monitor the marketplace in terms of what's going on from a competitive situation. We obviously take into account What's happening from a cost perspective as well and we have the flexibility to do what we need to do, but we have taken pricing action. And again, the pricing actions that we've taken will have a larger impact in the second half of the year versus the first, but certainly we always have the flexibility to do more if we believe that's prudent.

Operator

Your next question comes from the line of Steven Fisher with UBS. Your line is now open.

Speaker 13

Thanks. Good morning. So it seems like you've raised your incentive compensation expectation for 2022. I think that would be kind of flat year over year. I think previously it was expected to be a tailwind.

Speaker 13

But I guess the positive in that is now you must be expecting something better than your prior expectations. Wondering if you can just give us a bit of color on what the biggest things are that Are contributing to that improvement in incentive comp payout for this year. I know you said kind of sales were better than In Q1, but it sounds like maybe that was a seasonal inventory build. So what are there other operational things that are now running better than you expected for The balance of the year. Thank you.

Speaker 3

Yes. So obviously, as you know, our incentive compensation schemes use a variety of measures, Not just operating profit, OPAC services revenues and there are other non financial metrics that are out there. As we said, the performance for the Q1 was actually a little bit better than we expected, not just from a revenue perspective, but also a little bit better on margins. And so that is reflective of where that's feeding through into some of that incentive compensation change.

Operator

Your next question comes from the line of Tim Thean with Citigroup. Your line is now open.

Speaker 14

Thanks. Good morning. So a lot of good color on the dealer inventories, but I just wanted to ask, Andrew, just about cat inventories, which have continued to increase here and obviously The complexity in supply chain is certainly having some impact. But I'm just curious how should we think about that As we go through the balance of the year and I'm especially interested in how that the potential implications that have to the extent That's not projected to grow further. What implications that will have just in terms of absorption and ultimately incremental margins.

Speaker 14

Thank you.

Speaker 3

Yes. So Tim, I mean, obviously, what we have been very clear on is in the situation where we are with the supply chain challenges. Switching off supply is not probably the best is not a sensible thing because While you're waiting for individual components to arrive, it is better to make sure that you don't end up with a shortage of something else I'm switching off. So we built a little bit more production stores inventory than we would normally have. We did that at the end of 2020 as well, and that was a deliberate action reflecting the fact that we expected an upturn.

Speaker 3

Obviously, that has continued. We know that the demand is out there. So we know we'll be able to burn it off pretty quickly as and when we are able To work through all the other supply chain challenges that are out there. Our expectation is, obviously, we saw a build in Q1. Our aim is probably to be more neutral on working capital for the full year and obviously start to work some of that inventory down as we go through the remainder of the year.

Speaker 3

And obviously, then that can feed through into positive cash momentum as we move into 'twenty three and beyond.

Operator

Your next question comes from Matt Elkott with Cowen. Your line is now open.

Speaker 6

Good morning. If I may switch it up a little bit and ask you guys about the locomotive market. Clearly, the New build market in North America has been largely non existent for the last couple of years here. As we look forward to the next 2 or 3 years, do you think the railroads might continue to hold off on new builds until They make up their mind on whether they want to go battery electric, hydrogen or even cleaner diesel. And any update on the upgrade market, which I think is like a services revenue for you guys would be helpful.

Speaker 6

Thank you.

Speaker 2

Yes, thank you. As you mentioned, certainly, the North American freight locomotive market Is depressed. There's no question about it. We do have a services business that is doing well. We have hope for international this year as well.

Speaker 2

Hard to answer your question. It's very difficult to predict what the railroads would do over the next couple of years. I mean, we can anyone on the call can build competing cases there for what's happening. So there's Still, kart locomotives. On the other hand, everyone knows what's going on with supply with some of the freight constraints in the U.

Speaker 2

S. As well. I'd like to see how it all plays out. We are seeing interest in our battery electric locomotives that are used in shunter switching applications and we're pleased with that. And you probably have read about an agreement that we have to work on a longer term solution for hydrogen based locomotive as well.

Speaker 2

So again, Very difficult to predict what the renewals would do, but I certainly concur that currently the market for freight locomotives in North America is quite depressed.

Operator

Your next question comes from the line of John Joyner with BMO. Your line is now

Speaker 15

Hi, good morning.

Speaker 2

Good morning, Joe. Good morning, Joe. Maybe this is not a

Speaker 15

fair question and today's environment. So I appreciate some of the additional assumptions that you provided for the full year. But Given that you have internal projections, do you anticipate eventually getting back to offering full year EPS guidance Maybe to help give investors some goalpost for the year and possibly avoid what can at times be a wide range of EPS estimates.

Speaker 3

Yes. I mean, I think, as you know, the challenge in the environment we're in at the moment is Predicting what the likely outcome is going to be within the range is probably narrow enough for people to do. I mean, unfortunately, Part of the reason why your estimates are wide is because our estimates are wide as well because of the uncertainty. So you have to take those into account. So That's part of the reason why we haven't reinstated guidance, but I think it is One thing that we will come back to in due course as and when things stabilize in the external environment, But not at this stage.

Speaker 3

There is a I've just had a written question in. Somebody just asked a question About retail stats and whether pricing is included in retail stats. Just to be clear, retail stats are dollar neutralized, price neutralized Pricing is not in the retail stats, so that is a pure volume number on a comparable basis.

Speaker 1

Operator, we have time for one more question.

Operator

Your final question today comes from the line of Jerry Revich with Goldman Sachs. Your line is now open.

Speaker 16

Yes. Hi. Good morning, everyone.

Speaker 2

Good morning, Jerry. Good morning, Jerry.

Speaker 16

Jim, you've spoken about a steady recovery in resources. I'm wondering if you could just update us on where lead times stand for large mining trucks Today, the revenue level in the business is 50%, 60% below prior cycle highs. I'm wondering if it's fair to think about backlogs at comparable levels versus last cycle as well. Thanks.

Speaker 2

As we say, as I mentioned earlier, certainly Mining is playing out the way we expected in terms of increased orders. Our lead times are not Extended as anywhere near as much as they were during the prior peak a number of years ago. We're working with our customers and are working very hard to meet their lead time requirements. And I think we're quite close to that.

Operator

That concludes today's Q and A. I turn the call back over to Jim.

Speaker 1

Great. Thank you. Thank you, Jim, Andrew and everyone who joined us today. A replay of our call will be available online later this morning. We'll also post a transcript on our Investor Relations website as soon as it is available.

Speaker 1

You'll also find a Q1 results video with our CFO and an SEC filing with our sales to users data. Click on investors. Caterpillar.com and then click on Financials to view those materials.

Operator

If you

Speaker 1

have any questions, please reach out to Rob or me. You can reach Rob at pringlerobbcat.com and me at fiedlerryan assetcat.com. The Investor Relations general phone number is 309-675-4549. We hope you enjoy the rest of your day. Now let's turn Back to Emma de la Riquel.

Operator

Thank you for attending today's conference call. You may now disconnect.

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