Why CNH Global's Strong Recent Quarter Fails to Impress

Farm and construction equipment maker CNH Global (NYSE: CNH  ) reported a huge jump in second-quarter profits that surprised the Street, sending the shares up almost 12%.

High equipment demand buoyed quarterly sales for the company. Let's dig a little deeper and see whether the company looks worth the money.

Into the numbers
Net sales grew by 24% from the year-ago quarter, to $4.9 billion as agricultural and construction equipment sales jumped 22% and 30%, respectively. All geographic regions showed growth in equipment demand.

With agricultural commodity prices rising, farming activity increased, leading to higher demand for equipment. Such equipment constitutes 79% of total equipment sales for CNH. Even Deere's (NYSE: DE  ) second-quarter profits jumped 65%, boosted by strong agricultural equipment demand.

Operating profit for the construction segment surged 92% as positive pricing and higher demand helped offset the tight supply situation in Japan. Demand for construction equipment, which constitutes 21% of CNH's sales, is also rising globally.

Equipment giant Caterpillar's (NYSE: CAT  ) second-quarter sales rose 37%, helped by strong growth in demand in markets like Latin America and Asia. These markets also helped Terex's (NYSE: TEX  ) construction segment sales grow by 29.5% in its second quarter.

Backed by a growing top line, CNH's net profit surged to $320 million before some restructuring and exceptional items, from $144 million in the year-ago quarter. EPS, as a result, rose to $1.33 from $0.59 in the year-ago quarter.

Not-so-comfortable financials
While the revenue and earnings growth might look good, CNH's balance sheet made me sit up. The Amsterdam-based company has a high total-debt-to-equity ratio of 203%. This might not look very surprising given the fact that CNH has been expanding and innovating.

Its year-to-date capital expenditures amounted to $126 million, 40% higher from the same period last year. A few months back it announced plans to invest $100 million in setting up a manufacturing site in Argentina. CNH also announced an expanded alliance with GPS technology player Trimble Navigation (Nasdaq: TRMB  ) .

CNH's high negative free cash flow also caught my attention. Additionally, its interest coverage ratio is a low 3.4. These figures do not make me optimistic about the financial health of the company going forward.

Investors should be extremely cautious. If anything bad happens in the global construction market, this highly levered company could wind up punishing investors.

The Foolish bottom line  
CNH has upgraded its full-year operating margin outlook to the upper end of its earlier forecasted range of 7.1% to 7.9%. While quarterly margins and revenue growth may look strong, CNH's quarterly CAGR over three years is in the negative. The company also doesn't pay a dividend (and with negative FCF consuming cash, I am not expecting one anytime soon). Add these to its balance sheet woes, and I do not feel very upbeat about CNH in the long run.

Fool contributor Neha Chamaria does not own shares of any of the companies mentioned in this article. Motley Fool newsletter services have recommended shorting Trimble Navigation. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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