More Mining Pain Before Significant Mining Gain

More Mining Pain Before Significant Mining Gain

In recent history, mining has been the epitome of a cyclical industry. It's up; it's down; there's a boom, there's a bust. A lot of people get rich, and a lot lose their shirts.

That's one reason some of the most profitable ventures associated with the industry have been those that sell the tools that make it happen. From shovels and picks to articulated trucks and draglines, equipment makers have profited handsomely in good times and bad from our seemingly endless demand for metals and minerals -- until the last couple of years.

Although the rest of the world is slowly emerging from the doldrums of the Great Recession, the mining industry is still scraping along the bottom. And the two biggest players on the usually reliable equipment-making side, Caterpillar and Joy Global , are signaling that there is still no end in sight for the industry's current plight.

Caterpillar's results showed how slow things have been
Caterpillar kicked off the recent bad news barrage when it released second-quarter results in late July. Many observers had been hoping for good news -- after all, things were beginning to look up elsewhere, and they expected something positive from this company's performance.

But no such luck: Caterpillars' revenue fell 16% from the year before and earnings per share were down an even more disappointing 43%,missing estimates and driving the stock down 4% over the next three days near its 52-week low.

Additionally, Caterpillar said its 2013 sales and revenue outlook was 12%-15% lower than its final (and disappointing) 2012 results. It attributed about half of this decrease to lower end-user demand in the mining sector.

Company officials also predicted that the rest of the year would remain challenging as dealers continued to lower their inventories in the wake of declining sales caused by mining company production cutbacks. And they noted that while it was still too early to forecast next year's performance, surveys have been released suggesting capital expenditures by mining companies could drop another 20% in 2014.

No wonder investors started to bail, especially considering that the company's mining segment delivered only 26% of its machinery and power systems profit during the quarter, compared with 43% in the year-ago period, as sales dropped 34%.

Joy Global's results showed the slowdown hasn't let up
Joy Global continued the downbeat assessment when it released third-quarter results in late August. Like Caterpillar's outlook, the news was bleak: Orders tumbled 36% year over year, and earnings fell 6%. Most mined commodities remained "in or near supply surplus," said president and CEO Mike Sutherlin, with prices down 20%-40% over the past 18 months.

Sutherlin was no more optimistic at an analyst conference in September. He said conditions are now as bad as they've been in at least a decade, the result of a much longer and steadier decline than anyone had anticipated. And he added that he believed the industry will bounce along the bottom for a time before it begins a slow, steady recovery.

While Joy's most recent results slightly beat expectations, the prospect of a continually challenging period has driven its share price down 15% this year. And despite the company's attempts to slash costs to battle the downturn, even its supporters see little reason for short-term optimism.

The Foolish bottom line
Caterpillar's third-quarter earnings release is scheduled for Oct. 23. Analysts do not expect improvement until commodity prices start to firm, which will prompt mining companies to expand and upgrade their fleets.

When might that happen? Coal supply and demand is probably the biggest indicator. Consumption of the mineral rose 2% globally last year, but even with mining cutbacks, production was up 3% -- leading to an even bigger surplus and a further drop in price. This should force coal miners to cut back more on short-term spending and long-term development plans.

On the positive side, the International Energy Agency projects global coal demand will likely rise for the next several years. Increases are even expected in the U.S., where cheaper natural gas and political pressure have curtailed use in recent years. Despite that, coal burn for power generation here was up more than 10% during the first half of the year while stockpiles were reduced to near their five-year average.

But that news alone isn't enough to instill much optimism. And that's because much of the decline in coal usage has been in China, which is another big key to the performance of the mining industry. There, annual growth in coal consumption dropped from 10% in 2011 to 4% in 2012. While many see the slow down in that country as temporary, the level and speed of any upturn is unknown.

In late September, for example, TheWall Street Journal reported that China's economic growth target is the lowest it has been in 25 years and coal is falling out of favor as public opposition to air pollution drives utilities from coal-burning plants to nuclear power and natural gas. So while China's demand for coal and other commodities will continue to play an important role for the industry, the country will not likely be the gravy train it has been for mining companies and mining equipment manufacturers.

In short, when weighing the few pros and many cons, it seems logical to expect that mining will face many more challenges before a real improvement takes hold.

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