BY VICTOR REKLAITIS
INVESTOR'S BUSINESS DAILY
Posted 6/6/2008
The ongoing trend toward making things more earth-friendly doesn't leave out diesel engines.
Stricter emission standards for diesels are hitting the U.S. and other countries.
Engine maker Cummins (CMI) knows how to control emissions, so it's thriving in this regulatory environment, according to some analysts.
"It's not that they are unique and nobody else can do it," said Eli Lustgarten, an analyst at Longbow Research. "But they have really developed a more systematic approach and have been able to deliver products faster that meet the new standards."
A Cummins spokesman points out that the company is unique in being the largest diesel engine manufacturer that doesn't produce vehicles. Mark Land, the spokesman, says this lets Cummins concentrate on engines and emission standards.
"This is what we do. We're not making trucks. We're not making heavy-duty equipment," Land told IBD. "We're making engines and related components."
Lustgarten, the Longbow analyst, views Cummins as well-positioned after developing the market-leading technology for the Environmental Protection Agency's 2007 standards. He sees the company maintaining its lead as it makes engines and components that comply with the EPA's new 2010 standards.
"Cummins' real strength is they have developed the best expertise in emissions of any company that's competing at this point," Lustgarten told IBD.
In addition to growth tied to industry-leading technology, analysts expect big gains from the company's exposure to emerging markets. Columbus, Ind.-based Cummins has formed joint ventures or other partnerships with large automakers in these markets, including Tata (TTM) in India, Dongfeng and Foton in China, and Kamaz in Russia.
This international exposure is helping the company weather the recent U.S. slowdown, according to Brian Rayle, an analyst at FTN Midwest.
"It's similar to all industrials in that overall earnings volatility for the industrials group as a whole has been greatly reduced for this cycle vs. the last," Rayle said, "just because there's been a concerted effort by these manufacturers to move internationally."
Other analysts say few companies can top Cummins' worldwide reach. Credit Suisse analysts said in a recent note that Cummins is one of the best ways to "play the global infrastructure cycle." Credit Suisse does investment banking work for the engine maker.
International sales became the majority of Cummins' total sales for the first time in 2005. Last year, about 54% of the company's $13 billion in revenue came from outside the U.S. About 19% of 2007 sales came from Asia and Australia, with 18% from Europe and Russia, 9% from Latin America, and 5% from Africa and the Middle East.
Engines remain the company's bread and butter, providing 52% of last year's revenue. Cummins' components and power-generation divisions each provided 19% of '07 sales, with the remaining 10% coming from its distribution segment.
The engine maker's single biggest customer is Chrysler, primarily because the U.S. automaker uses Cummins diesel engines in certain Dodge Ram pickup trucks. Chrysler provided 8% of Cummins' consolidated net sales last year, according to a regulatory filing. Other top customers include the nation's main big rig truck producers: Paccar, (PCAR) which makes Kenworth and Peterbilt trucks; Navistar, which owns the International Truck brand; and Daimler's (DAI) Daimler Trucks North America, which has the Freightliner brand.
For this year's first quarter, Cummins said per-share profit rose 37% to 97 cents, beating Wall Street's expectations by 8 cents. Revenue grew 23% to $3.47 billion, also above forecasts.
The company's gains overseas during the quarter helped counter higher commodity prices and softness in some U.S. markets. Despite the U.S. weakness, Cummins says it increased its market share in the North American heavy- and medium-duty truck markets.
For the current quarter, analysts expect earnings to increase 15% to $1.23 a share. They see revenue climbing 15% to $3.86 billion.
Cummins has turned itself around after having to fight to survive from about 2000 to 2003. But a range of challenges still confronts the company, which was established in 1919.
"One longer-term concern is the fact that on the heavy truck side in North America and globally, you are going toward a more vertically integrated structure," said Rayle, the FTN Midwest analyst. "More of the truck manufacturers are building their own engines."
Other challenges include the U.S. economic slowdown and how it spills over into other markets. Cummins also faces competition from companies such as Caterpillar (CAT) and Volvo. In addition, analysts are concerned about high introduction costs tied to new products and other expenses.
"The biggest challenge is execution for the company. The company has positioned itself with lots of opportunity from the new products, but that involves a dramatic increase in capital spending for the next five years," Lustgarten said.
"The issue is to execute — to bring the products to market on time and within the cost matrix, especially in a higher commodity, inflation environment."
Among the new products are light-duty diesel engines for the U.S. and China that are slated to get introduced by 2010. Cummins' partners in this effort include Chrysler and Nissan. (NSANY)
Cummins expects that high gas prices and environmental concerns will help increase demand in the U.S. for light-duty diesel engines, which are about 30% more fuel efficient than gasoline engines. Land, the Cummins spokesman, said that's one of many growth opportunities.
"We are fortunate that we have been able to turn things around in the last few years, and now it's a pretty exciting time. It's a time for us of trying to figure out how we're going to take advantage of the opportunities," Land said. "So that's exciting, and that's also the big challenge for us."
