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Better Buy: Caterpillar Inc. vs. United Technologies

By Dan Caplinger – Mar 23, 2016 at 4:33PM

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These two industrial behemoths have both struggled, but which has a more promising future?

Image: United Technologies.

The American economy was built on the back of heavy industry, and both Caterpillar (CAT 0.55%) and United Technologies (RTX 1.32%) have long histories in producing essential equipment that has helped drive economic growth for decades. More recently, though, both United Technologies and Caterpillar have seen their stocks come under pressure, and many investors fear that macroeconomic conditions for the two companies could get worse before they get better.

Some value investors have become interested in the stocks, but they still wonder which one is the better buy right now. Let's look at how Caterpillar and United Technologies compare on some key metrics to see which one might be a smarter pick for investors.

Both Caterpillar and United Technologies have seen their shares lose ground during the past year. Since March 2015, Caterpillar shares are down about 3%, while United Technologies is down 15%.

It's natural to expect that a sizable drop in stock price can give a company a more-attractive valuation, but a closer look at United Technologies and Caterpillar shows other factors at work, as well. United Technologies trades at just 11 times trailing earnings compared to a much-richer 21 times trailing earnings for Caterpillar.

Yet some fears about United Technologies' future earnings trajectory is at least partially to blame for the disparity, because many investors expect United Technologies to post bottom-line declines between now and 2017. On a forward basis, Caterpillar's earnings multiple remains near 21, but United Technologies trades at more than 14 times forward earnings. Still, that difference is wide enough to give United Technologies the advantage.

Dividend investors like to see current income, and Caterpillar easily takes the prize on the dividend-yield front. The heavy-equipment specialist currently has a yield of 4% compared to United Technologies' solid 2.6% dividend yield.

A substantial portion of the difference relates to how the two companies allocate capital. United Technologies has a much more sustainable payout ratio of just 57%, and that compares favorably to the 84% payout ratio that Caterpillar currently has.

Moreover, when it comes to dividend growth, both companies have demonstrated a long-term commitment to shareholders. The two each have a 22-year streak of consecutive increases in annual dividend payouts, putting them in line to become the newest members of the prestigious Dividend Aristocrats within the next few years. Caterpillar's higher yield gives it a slight advantage, but both companies have good track records on the dividend front.

One big question facing Caterpillar and United Technologies is what will happen with their businesses. Caterpillar has continued to see sales plunge, reporting a 23% drop in revenue in its most-recent quarter stemming largely from the Energy and Transportation business. Natural resources and construction also suffered, and Caterpillar doesn't expect near-term relief, projecting another 10% drop in revenue for 2016. Yet recent turns in the commodity market have created at least a little optimism among investors who've patiently waited for Caterpillar's exposure to the energy and mining industries to stop weighing so heavily on its financial performance.

United Technologies also had a tough 2015. Full-year sales fell 3%, and operating profits dropped by nearly a quarter. The sale of the Sikorsky helicopter division led to a radical transformation for the conglomerate, and fears that the aerospace industry's fast pace of growth might have topped out led to the share-price declines that United Technologies saw throughout much of the year. Looking ahead, though, United Technologies remains hopeful that its strategic moves will bear fruit and produce revenue gains even in a tough environment in 2016.

For investors looking at both stocks, whether Caterpillar or United Technologies is the better buy depends on your time frame. United Technologies has a much clearer road ahead, and as long as aerospace remains strong, it has the potential to keep producing steady gains.

Caterpillar, meanwhile, is still suffering in many of its core industries, but it has a much greater capacity for a bounce when conditions improve. All told, United Technologies gets the nod here for being the better buy for most investors.

Dan Caplinger has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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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Caterpillar Stock Quote
$236.41 (0.55%) $1.29
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Raytheon Technologies
$98.72 (1.32%) $1.29

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