Caterpillar Inc. (CAT) Earnings Call Transcript & Summary

Good morning, everyone. Thank you very much for joining us. I'm Jerry Revich from Goldman Sachs, and I'm really excited to have with me here Jim Umpleby, Chairman and CEO of Caterpillar; and Ryan Fiedler, Vice President of Investor Relations. Jim Ryan, Caterpillar team, thank you very much for joining us. We're going to run this conversation on fireside chat format. Before we dive in, Ryan has a few disclosures on forward-looking statements, as do I.

Great. Thanks, Jerry. Really appreciate the opportunity to be here today. So during today's discussions, 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 from the information we're sharing with you. Please refer to our recent SEC filings and the forward-looking statements reminder in our filings for details on factors that individually or in aggregate could cause our actual results to vary materially from our forecast. A detailed discussion of the many factors that we believe may have a material effect on our business on an ongoing basis is contained in our SEC filings. 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. I'll turn it back over to you, Jerry.

Great. Let me just add to the legal discourse just for fun. We're required to make certain disclosures in public appearances about Goldman Sachs relationships with companies that we discuss. The disclosures relate to investment banking relationships, compensation received or 1% or more ownership. We're prepared to read aloud disclosures for any issue upon request. However, these disclosures are available in our most recent reports available to U.S. clients on our firm portals. Disclosures and updates to these disclosures are also available by ticker on the firm's public website at gs.com/research/hedge.html.

All right, with the lawyers now satisfied, Jim, I'm wondering if you could start the conversation 6 years since you became CEO, the company has doubled its earnings power, delivering sharply higher margins in construction and resources, in particular. I'm wondering, to frame the conversation looking back at the past 6 years from your seat, what have been the 2 or 3 most significant drivers of that performance.

Well, thank you, Jerry. It's great to be back here at CONEXPO again after the last 3 years. But we introduced a new strategy for profitable growth back in 2017. It was based on a number of elements. The framework we use is what we call the operating and execution model, which requires that our leaders look at our business at a much more granular level, understand by product, by market, by application, where we're creating shareholder value and where we're not. And by providing that visibility shining a light on each product application and market, we were able to challenge our leaders to improve the financial performance of those products that were underperforming in our view. And I think we -- our team has done a very good job of improving the financial performance on a number of the products and businesses. There was a few where we concluded that they were not either strategically or financially aligned with where we want it to go. And so we made some divestments there. But even more importantly, that framework gives us the ability to bias our resources, investments in capital expense and management attention in those areas that represent the best opportunities for future profitable growth. And I believe that operating execution model has played a large part in our improved financial performance over the last few years. We also had 3 other major pillars in that strategy. One is operational excellence, which is safety, quality, lean and a competitive and flexible cost structure. So we'll talk about that for a moment. We're continually looking for ways to reduce our structural costs to allow us to be more nimble in the future, to free up resources, to invest again in those areas that represent the best opportunities for future profitable growth and also to help us deal with changes in business dynamics as well to make us more nimble in the cycle and improve our performance over time. Another element there was services, and we've, of course, talked a lot about services. We established a goal to double services, and we are increasingly confident in our ability to do that. And I'm sure you'll ask some more questions about that later, so I'll hold that. And the last is expanded offerings. Traditionally, Caterpillar has been known for having the highest quality, most productive pieces of equipment, always want to have the best quality. But what we were doing in some cases is we were discounting the most productive piece of equipment to capture what we call life cycle value customers. And if you stop and think about the most productive piece of equipment, that's one that can move, let's say, the most material one in a 24-hour period. But even the same -- even the one customer might decide to have the most productive premium product at the job site where it's operating 24 hours a day, 7 days a week. And if you have a machine in the back that operates 2 hours a day, maybe you don't need that. And we were discounting those premium products to capture those life cycle value customers. And now what we're doing is we are designing products specifically to capture those life cycle value customers, the GX, the GC product lines. And that's all part of the strategy as well. So again, really, it's a combination of things. And we also now added sustainability as a focus area to our strategy gear, and we can talk more about that as well. But again, I think those are the things that have really primarily led to improved execution over the last few years, and I give great credit to the Caterpillar leadership team and all of our employees for what they've accomplished in the last 6 years.

And Jim, can we expand that conversation around the different product ranges for different customer segments? Where are we in that journey? Are we complete? Or is there more to do in terms of additional product categories where we need to apply that?

Yes, I'd argue, in product development, it's never complete. It's a never-ending journey. So we continue to introduce products at the top end of our range, the most productive piece of equipment, and we've been showing some of those here at the show today. And we also continue to introduce products that allow us to capture those life cycle value customers. So again, it's a never-ending journey on both ends and we continue to invest in.

And just to shift gears. On your progressive margin framework, is really interesting, right, because if you're in a normal economic environment where you get 5% growth, that implies you have to improve margins by nearly 1 point. How long can you folks deliver that? Presumably, we're not talking 15 to 20 years. So can you just talk about how long is that vision feasible? And how do we get there?

So when we introduced our strategy for profitable growth back in 2017, we talked about the fact that our measure of profitable growth is OPACC, which is operating profit after capital charge. So we're really focused on ensuring that we get a return on every dollar of capital that we invest. We understand that we also need to invest for the long term. We do that as well. But again, we're very capital disciplined. Having said that, we did establish margin targets, as you discussed, and they are progressive, meaning that the higher levels of sales and revenues, we expect to get higher margins. The way we do that is through increased operating leverage. So if we get more sales, and we're in a good shape, we're in good shape from a manufacturing footprint perspective, so -- and certainly in the short term, medium term, we don't expect to have to make any kind of a long term -- any capital investments for -- to increase long-term production. But again, higher sales and revenues, more operating leverage, higher margins. We did adjust our margin targets over the last -- during the last year or so because, in fact, when we set those margin targets, we were in a low inflationary environment. And what we've seen, of course, over the last year or so is much higher inflation. So a relatively larger percentage of our sales increase came from price as opposed to volume. And when a larger percentage comes from price versus volume, you don't get that additional operating leverage to increase margins. So that's why we changed our margin targets. But again, we'll look at that continually. But again, we should get additional operating leverage as we increase volume, which should allow us to increase margins.

And just to shift gears, talk about the products, Jim, obviously, everyone's out here at the show. What are the -- what are 2 things that you want people to focus on?

We have a whole variety of things that we're focused on. We have a technology area where we're really talking about the -- some of the great technologies that are allowing our customers to become more productive, allowing operators to become better operators, even if they have less experience. And we're also have a big focus on services as well. We're helping our customers with things like remote diagnostics. We have 1.4 million connected assets now, and we're using AI and leveraging that to help our customers avoid unplanned downtime to maximize availability and to really be more successful. So again -- and we also have some battery-powered prototypes out there, which we can talk about. So again, a lot of exciting product development.

Sounds good. And obviously, pretty active week in the U.S. economy, unfortunately, heading into the show. Over the past 6 years, we've seen really high economic volatility. Can you just talk about, from a Caterpillar standpoint, how are you folks approaching managing the cycle given this seeming dynamic of shorter and more volatile cycles that we've seen over the past 6 years?

When I -- in answer to your first question, I talked about that competitive and flexible cost structure and how important that is. And so we believe we've done a much better job in the last few years of being nimble and be able to react more quickly and really to put it in perspective. Since we've introduced our new strategy in 2017 through last year, we've produced $5 billion to $6 billion of free cash flow every year except for 2020, where we had more than a 20% decline in our top line that was pandemic-induced because of COVID. But even in that year, even in 2020, we produced $3 billion of free cash flow even though we lost 20% of our top line. And I'd argue that many people, if they look at Caterpillar, historically would have been willing to bet that we wouldn't have been able to do that. So a big part of managing the business, of course, has been more nimble, really focusing on structural cost, focusing on having as much flexibility in our cost structure as possible and being able to react quickly. We also have working very closely with our dealers, and we have a new S&OP process. where we really work very hard to stay in touch with what's happening in the marketplace to ensure that not too much products being built, again, trying to forecast what's happening. But again, all those things have played into that improved performance.

And in terms of this economic cycle, in particular, pretty unusual to see weak U.S. housing demand, weak demand for construction equipment in China and the industry and you folks seeing such strong demand for your products. Can you just weigh in on your view of this economic cycle given all of these moving pieces?

I'd be happy to. And we said in our last earnings call that we expect our performance to be better than last year, and last year was a very good year for us. We expect this year to be better, both on the top and the bottom line. And just to describe some of the dynamics there, you talked about housing. Well, in North America, we expect construction to continue to be strong. Nonresidential is improving, and nonresidential represents about 75% of construction industry sales, and about 25% is residential. So again, improving nonresidential construction activity, a lot of it being driven by healthy backlogs. We expect the various legislation that's passed over the last year to start helping towards the end of the year as well. Residential, although there's been some moderation, it's still at healthy levels. So that's positive as well. As we think about the other elements of our business, in mining, one of the things we've been talking about for quite some time and predicting is because our customers are displaying capital discipline, a more moderate, steady increase in business year-over-year, and that's exactly how it's playing out, and we expect that to happen again this year. So again, business is improving. Well, I'm sure we'll talk about the energy transition in a moment here, but there's -- we believe that's a tremendous opportunity for profitable growth for Caterpillar. If you look at the mining industry, there is high utilization of our equipment. There's a low number of parked trucks -- parked mining trucks, and those trucks are aged. So again, those things combine to make us feel good about what's happening in mining. Energy & Transportation, a lot of positive things happening there. And power generation, that business continues to have momentum and is improving due to a whole variety of factors, but one of them is data centers, which continues to be quite strong. Order rates are quite robust for Solar Turbines. They have a good backlog and orders are strong there as well. In Caterpillar oil and gas, also robust orders. That's strong. So Energy & Transportation is improving as well. You mentioned China. Yes, China, we expect to be lower this year than last year. We had a couple of very strong years in China in 2020 and 2021, there was a drop off in 2022, and we expect it to be further weaker this year. China represents 5% to 10% of our total sales in a given year depending on where you are, as you can imagine kind of where we're towards the lower end of that range today. Asia Pacific outside of China, we expect to grow. Europe, Africa and the Middle East, Middle East is quite active, quite strong, which will offset some uncertainty in Europe. So again, all in all, when you step back and look at the individual elements of our business, there's a lot to be positive about. And again, that's why we expect this year to have a better top and bottom line than last.

And Jim, you mentioned being nimble around moving pieces. Obviously, question marks around the Silicon Valley Bank read across. Can you just talk about what signpost are you folks looking at to think about, hey, should we take a more cautious approach to our production plan? Any key variables that you share with us that you're monitoring?

Yes. So let me mention Cat Financial first. Cat Financial is very conservatively managed. We only loan money to customers that are buying Caterpillar equipment. And of course, we have -- that equipment as collateral for that loan. We match assets and liability in duration. So that's very important, and again, it's a very conservatively managed operation. In terms of looking for signpost, one of the -- well, sorry, one more comment about Cat Finance. One of the things we do monitor as a signpost is past dues, and those are near record lows. So looking at that, what that tells us our customers financially are quite healthy. Now other signposts we look at in the business, obviously, lots of conversations with our dealers. We look at order rates. We look at sales to users. We look at quotation activity that's occurring. And again, everything that we see is very consistent with that landscape that I described for you earlier in terms of what we see in the marketplace. So again, we watch a lot of things very closely. But again, past dues new record lows for Cat Finance. Healthy STUs, healthy order rates. We feel good about the business.

And I'll add one more data point to the line of credit that you folks have at Cat Financial. It covers 150% of your commercial paper borrowings, too.

Yes. Good point.

In terms of the comment you made earlier, Jim, just tweaking at times products where you're starting to see rising supply, you mentioned that earlier, what falls into that category today? What kind of products fit that narrative based on how fast you've been able to scale up supply?

Yes. So certainly, the -- we've talked a lot about the supply chain, and I've been quite reluctant over the last few years to actually predict exactly when things will get solved because I've seen a lot of CEOs do that and then have to walk back those words. So I'm still going to be a bit cautious here. But we have seen improvements in some areas in the supply chain, although some pockets of real challenge remain. And so as an example, semiconductors, we've seen an improvement there in some areas and a lot -- much has been written about the fact that the semiconductor shortage is over. Well, it's not really true. On the high end, certainly, things have improved, high end meaning the more sophisticated latest technology chips that are used in iPads and smartphones and tablets and all the rest. But for the chips that we use, we tend to utilize the same pool that auto manufacturers do. And that's still -- it's gotten a bit better, but it's still not what it was pre-pandemic. If you look at our product line, there are certain products which are still certainly demand -- excuse me, supply chain-constrained. There's a number of those that are out there, some of our smaller products. BCP line, larger engines that we build, the 3500, 3600. Those are still, again, supply chain constrained. In other areas, the situation has improved. So it's still a mixed bag. But still, as we mentioned in our last earnings call, our sales would have been higher in the fourth quarter and in 2022, if not for the supply chain constraints that we still continue to navigate.

Super. Why don't we shift gears and talk about automation. So it's been a really key priority for you folks. You can -- probably just to touch on the level of automation adoption that you're seeing, construction, E&T and what does that product path look like over the next 5 to 10 years in terms of your capability set.

Yes. We continue to invest in our products to make them easier to use. Again, everything we do is based on making our customers more successful. And so that's what we're following. So we've done a number of things over the last few years to make our customers' job easier. And one of the things we talked about is that, for a piece of construction equipment, we now can take a relatively inexperienced person, and in a day or 2, they can be productive using some of our latest technologies where, in the past, you would need an operator that had many, many years of experience to get to that point. And so one of the things we're doing through grade control, and it's a whole variety of technologies that we're displaying at the show, we're making it easier for operators to operate our machines. We're doing things in Energy & Transportation as well in terms of automation, things like our frac fleet optimizer, which really optimizes and automatically controls a whole variety of well servicing trailers at a site. It helps our customers reduce fuel and lower their carbon footprint as they produce oil and gas. Of course, in mining, of course, we have our autonomous mining trucks, which we talked a lot to you about. Very excited about that solution that's making our customers up to 30% more productive in -- compared to the best man site. And then importantly, in 10 years of autonomous mining truck operation, we've had 0 recordable injuries that we're aware of. So again, very, very pleased with that as well. We're now at a point in -- I believe we're past the tipping point in autonomy for mining. One of the things we've worked very hard with our customers on is to reduce the amount of capital that needs to be invested to make autonomy work. It used to be a relatively large mine with a lot of trucks to make it pencil. Now if you have 10 to 15 trucks, we believe that it warrants the capital investment to put autonomy in. We're also now starting to expand autonomy. We received our first order from a company called Luck Stone, a family-owned company for quarry and ag, where we will be putting autonomy in that non-mining application. And there's a whole variety of things that we're doing in terms of semiautonomy. You can operate now 3 or 4 dozers remotely at the same time. And if you get out to our booth, you could -- we'll let you operate some machines remotely as well. So a whole variety of things that we're doing to make our life easier for our customers.

Hope you guys are insured. And Jim, you touched on applying resource technologies into construction industries. Is that a big road map because you guys have been added for a while in resource? The construction process is a little different. But to what extent can you leverage the same core technologies?

Yes. So certainly, it is different in that there's more variability in a typical construction site than there is a mine site. But having said that, as I mentioned earlier, we are starting to apply some of those technologies in construction industries to make certainly a lot of repeatable tasks, right, where you can use autonomy or semi-autonomy to help customers be more productive. So yes, there's a natural transition going on there. But even within mining as well, we continue to develop autonomy in different products. We now have an autonomous water truck, which the [ MineStar ] system senses the level of moisture on the road, it will autonomously put water in the right place. If the tank runs low, it will go back to the filling station and fill itself up, it will give itself, its next assignment or if there's an moisture in the road, the truck will go park itself. We've got autonomous drills as well, again, semiautonomous dozer. So again, we're continuing to expand that technology as it makes sense in both RI and now starting in CI as well.

And if we could just talk about parts and service when you rolled out the target, so $28 billion by 2026, $14 billion in 2016, you're up about $8 billion off of that base. Can you just talk about what initiatives or part of the plan have had an outsized impact on the journey so far and the visibility that you have on the next leg to get to the full target?

Yes. There's a whole variety of things that we're doing, and of course, services is one of the main elements of our strategy we introduced back in 2017. And services is everything we do to help a customer be successful after the initial sale. And so we're working very closely with our dealers, again, always with the mind of making our customers more successful. But done right, increasing services, it's good for the customer, it's good for the dealer and it's good for Caterpillar. So it's a whole variety of things that we're doing, everything from connected assets. We now have about 1.4 million connected assets, which gives us the ability to leverage AI, to leverage a whole variety of technologies that we continue to develop to make our customers more successful, avoid unplanned downtime, maximize availability, be more productive. We are utilizing AI. We have things called PSEs or prioritized service events, which allow our dealers to have leads to help our customers prevent a downtime to help them in a very timely manner. We've invested a lot in our digital capabilities, including in e-commerce, and that's coming along very, very well. The team has done a great job there. We're making it easier for our customers to buy parts and service from us. Again -- and part of it also is siting down in -- with our teams internally and with the dealers and a bit of a culture change. Our culture is one of -- we're very, very good at developing the very best products in the world, and we have the best distribution in the world, still have that through our dealers. But we're much more purposeful now about thinking about ways we can grow services. So we sit down and talk to our dealers, particularly our highest priority dealers, where we think we have the biggest opportunity. All right, what is the biggest opportunity in your territory? Meaning that there are some customers that own Caterpillar equipment that choose not to get their parts and service from Cat. And so there's -- what do we need to do to capture that business, what does Caterpillar need to do, what do the dealers need to do and put together short-term action plans to go capture that business. So very much focused on by our leadership team, by our dealers. And the great news here is that, certainly with our dealers, our economic interests are aligned. So it's good for them, it's good for us. And again, we always strive to do something that's good for our customers. So it's a win-win-win. But a lot of activities going on. I could talk for an hour about a lot of the different services initiatives. But again, a big focus, a big area of commitment. And when we threw out that target by 2026 a few years ago, I think people -- a lot of people were quite pessimistic. And the reason we picked a big number, which we want to get our teams energized and put a big number out there, we weren't sure exactly how we're going to get there and drive for it. And now based on the progress we've made, as you mentioned, $22 billion last year, based on the technologies that we're developing, based on the traction that we're getting, we're increasingly confident in our ability to meet that target.

And what's been really interesting is the growth in prioritized service events and other connectivity areas, those aren't slowing year 2, year 3 after the rollout. Can you just talk about the momentum that you're seeing from customers that have tried the product and how much visibility do you have to get the targets just by -- essentially haven't seen this journey for other customers that are later in the adoption phase.

Yes. We think we've just scratched the surface in a lot of these technologies. We're very excited about what is possible. And everything is like -- we have that's called Cat Central now, which is an app which makes it easier for customers to do business. If you're -- one of the things that we're really focused on is our smaller retail customers as well and becoming easier to do business with. Traditionally, our dealers have done an excellent job servicing our bigger customers, our mining customers, our big construction customers, to oil and gas customers. But oftentimes, those smaller customers, it's been more difficult sometimes to serve them. And now we're starting to leverage technology to make it easier for us to serve those customers and make them more successful. So if you're a small customer, let's say you have 12 machines or whatever, you bought your 13 machines, now you buy one, it has a QR code in the machine, you can -- we have an app. You can scan the QR code, and it allows you to purchase the right part to get the support from the dealer because our customers don't have time. Especially if you're a small customer, you're doing -- a lot of times, it's a small contractor. You're doing everything yourself, and you're very, very busy. And so by putting this technology in the hands of our customers, we're becoming -- we and our dealers have been much more -- much easier to do business with. So that's part of the goal.

I need that QR code for my printer, Jim.

Yes, I know.

Can we talk about the spread between your dealers that are farthest along on this digital journey versus the laggards? And what sort of incentives are you folks putting in to drive, call it, the bottom quartile adoption group?

Well, as I say, the good news about growing services is our economic interests are aligned. And we actually yesterday here at the show, we had an award ceremony for those dealers that have produced the most services growth over the last few years, and it was kind of like an Academy Awards, and we gave shows. We gave awards, and I gave a couple of awards, and my colleagues did as well. So again, those kinds of events help, again, face-to-face conversations. But again, our dealers are very much supportive of what it is we're trying to do. And as is the case with any group of organization, some are farther and long in some areas than others. And the same thing was in Caterpillar as well. We're farther along in some groups than we are with others, but we're all focused on the goal, and we're making good traction. We're making good progress, which is borne out by our numbers.

Can we talk about alternative energy? So you folks had a really interesting rollout at Tucson, the 793 mining truck battery electric prototype. Can you just talk to us about the value proposition for customers? What do the economics look like versus diesel based on where we stand today?

You bet. Let me step back for a moment and talk a bit about the energy transition. So I mean everyone knows, I believe what the forecasts are for the amount of electric vehicles that are going on the road that are forecasted to be on the road over the next few years and all the other elements of the energy transition. We firmly believe that the energy transition is increasing Caterpillar's total addressable market. If you stop and think about the commodities that need to be produced to support the energy transition and the infrastructure investments that need to occur, Caterpillar is very well positioned to benefit from that. As an example, on average, automobile that's an electric vehicle versus an internal combustion engine, automobile, take 6x as many minerals. So 6x as many for the EV is the internal combustion engine. Well, obviously, we produce the products that allows our mining customers to produce that increased commodity. And even if you don't believe all the forecast from the automobile companies and you give it a haircut by 10%, 20%, 30%, 40%, it's still a tremendous increase in commodity demand that we are very well positioned to just satisfy. And if you stop and think about the fact that we have, in our view, the best autonomous solution, we feel quite strongly about that. And our customers are voting with their purchase orders on that, demonstrating that we're very well positioned to benefit from that. In other parts of the business as well, Construction Industries, just thinking about the infrastructure investments that need to occur to install the solar panels, the transmission lines, the charging stations, again, a great opportunity there. And as more renewables are added to the grid, that does create instability -- gird instability issues, which creates opportunities for our Energy & Transportation portfolio, both our reciprocating engines and our gas turbines, which burn a whole variety of fuels that can burn natural gas, biofuels, hydrogen blends and all the rest. So again, we believe the energy transition represents an outstanding opportunity for future profitable growth. Now in terms of batteries and machines, I believe that the adoption of batteries versus diesel engines will vary pretty dramatically by product, by geography, by application. And right now, the biggest demand or pull we're getting for battery power machines is from our mining customers. Our largest -- particularly the largest mining customers in the world are very focused on reducing their carbon footprint. And so we're working very closely with them. And as you mentioned, last November, we're very excited to have a demonstration of our prototype of a large battery-powered mining truck for our customers, and it was fully loaded. It's 37 miles per hour fully loaded on the flat, demonstrated the fully loaded truck going up at 10- to 12-degree grade, basically demonstrated diesel performance in that battery-powered prototype. And one of the things that we're excited about is this is a real change. If we stop to think about a mining site, it's not just about putting batteries in the machine. The mine side has to change dramatically as well. And we're uniquely positioned because of our Energy & Transportation portfolio, micro grids, recip engines, gas turbines, all the other elements that we have there to help our customers electrify the mindset, if you will, because a battery in a fully loaded mining truck will run down in maybe 90 minutes. Battery technology is always changing, but that's probably where we're close to where we are now. So you have to figure out where to dynamically charge the truck and the mine site, and that requires a whole different setup by our mining customers, and we're very committed to help them with that. In construction, again, I believe the rate of adoption of battery part machines will vary significantly by geographic area and also by application. One could envision a situation where in Western Europe or in North America in a certain city, a city may dictate that for a city project or even altogether, we don't want any diesel engines in the city, whether it's an automobile or a piece of construction equipment or anything else. Our strategy is to have the products ready, and so we have some prototypes here at the show today, to support those customers if they need those battery part products. However, we're not walking away from all of our other customers, and we'll continue to invest and support our customers that have products with diesel engines around the world. And what happens in Manhattan, what happens in Asia, Africa or even Kansas could be very, very different just based on the application. If one is building a road in the middle of nowhere in -- across Nebraska as an example, it's not easy to charge a machine. So what do you do when the battery runs out? Do you have a fast charge with the diesel engine, which kind of negate the purpose? Do you have an extra machine? Do you try to change what -- it's a complicated issue. So I do believe that the transition, particularly in construction, is going to be a relatively long road. I think this is going to take a long time before a significant percentage of our machines that are shipped have batteries on them. But again, we'll be ready. It's really based on customer pull. When our customer wants a battery machine, battery-powered machine, we'll have it for them. If they want a diesel-powered machine, we'll have it for them. But one of the thing that's really important as well is we are producing machines now with different technologies, different transmissions, different engines that lower our customers' carbon footprint. So some of the products that we're introducing can reduce fuel burn by 19% and 20%, which has a corresponding positive impact on greenhouse gas emissions as well. So it's not just about batteries and machines for internal combustion engine machines. We're very focused on improving efficiency and reducing emissions as well.

And what's interesting, if we got to a fracking site that has your autonomous solutions on it, we're going to see Cat employees there running those operations. Is that where mining with battery electric trucks was headed? You mentioned dynamically charging. I mean that sounds like a pretty complex process.

Well, we already have Caterpillar employees and dealer employees on site in autonomous solutions. So we have over 500 mining trucks and operating in the world and there are Caterpillar employees at those sites, helping the customer be successful. And yes, as you mentioned, we now have both in our -- in oil and gas, we have Caterpillar and either it's -- whether Solar Turbines employees or Cat oil and gas, helping our customers be more successful. So certainly, as the technical solutions be more complex, and it transitions from just being about a product you build in a factory to shipping to things that have to happen at the site on an ongoing basis, there is an increased need for us to become more involved. And again, our goal is to increase the value that we provide to our customers every single day. If we do that, if we're successful in adding that additional value, that makes us more of a partner with our customers as opposed to just a supplier, which I think is a good thing for us long term. So again, if we do our jobs right, I think it's very good for our competitive position as well.

So essentially, just to put the pieces together, yes, diesel engines are profitable parts of part stream. But on the flip side, in a battery electric environment, we're going to have more ability to add value on the site infrastructure and support side, that sounds like more than offsets the potential parts headwind of not having those diesel engines in the field.

Well, we think there's a lot of opportunity around battery-powered machines. One of these keep in mind the difference between let's say, a Caterpillar machine and an automobile is a number of hours it runs, and think about undercarriage wearing out. So undercarriage is still going to wear out. You still have tools in the dirt they're going to wear out there. So it's a very different situation than an automobile. And one of the things to keep in mind again is think about the number of machines that Caterpillar has around the world globally. It's a very large number. And think about just from a time line perspective, as I mentioned, we expect, particularly in construction, that time line to be quite extended. Yes, again, our strategy is to have those battery-powered products ready for those customers that want them along with traditional machines that have better fuel efficiency and lower emissions. But having said that, this is a very -- this is a process that's going to take a long time in my view. But again, our strategy is it's always difficult to predict how quickly these things will evolve. But our strategy is to have the products ready and the customers will decide how quickly this transition occurs.

Super. And Jim, if we just shift gears to talk about earlier, we spoke about the operate and execute business model. And you folks, to get to the margins where you are, as you said, you've exited some areas. How sizable are the opportunities in front of us to do that continued type of calling of the portfolio? Or are we past the low-hanging fruit?

I would say that we continually evaluate the financial performance of our existing portfolio, and importantly, think about, again, how do we bias the investment of our resources to those areas that represent the best opportunities of future profitable growth, which is one of the reasons we're so focused on services as an example. So again, we're continually evaluating our product line. We made some decisions in the last couple of years. We'll continue to evaluate the product line. So that's -- I'll answer that question. There's always opportunities.

Right. Okay. And from a capital allocation standpoint, really strong balance sheet, strong cash return to shareholders, bolt-on M&A instead of sizable M&A. Is there any scenario that you could think of where we're sitting here in the next CONEXPO and you folks have found a meaningful new M&A opportunity? And if so, what are the key parameters that we should be thinking about?

Yes. So we continually challenge our leaders to look for M&A opportunities in their various areas. And what you've seen over the last few years is relatively small compared to the past, acquisitions that provide technology as an example. Think about carbon point solutions, tangent. We did buy Weir oil & gas, I think that we bought that in my view, a very good time in the cycle, which has allowed us to expand our oil and gas portfolio and also help our customers lower their carbon footprint through e-frac and some other issues. So I'll never rule anything out. But if your question is are we out there elephant hunting, the answer is no. But if the right opportunity, obviously, if the right opportunity presented itself where we could get a return on the premium that we would pay in that business, we'd be open to it, but we're not out looking for. And having a strong balance sheet, certainly, it was very beneficial as we went into COVID. You recall the early days of COVID, where a lot of companies were figuring out, all right, how do I secure funding to ensure I meet payroll, I didn't have any sleepless nights. We have a strong balance sheet, and that's not a bad thing to have during periods of uncertainty.

And you didn't get caught with the variable rate move either.

We didn't. That's correct.

Can we talk about resources. So Jim, you mentioned steady recovery from here. I'm wondering if you just rank order for us which regions or commodities are the strongest in that mix.

If you stop and think -- well, for us, it's generally copper, iron ore, gold, coal. Those are some of the commodities that are most important for us. And again, if we stop and think about the energy transition and just the mine commodities that need to be produced, from where -- if you look at the commodity production today and you look at EV projections and what -- and the aspirations of net zero in 2050, the investment that will need to be made in infrastructure and in commodities is -- it's very, very big numbers. And again, even if a certain percentage of that occurs, we think we're very well positioned for that. But as I say, right now, commodity prices are continue to be supportive of continued investment by our customers. They are -- both our oil and gas customers and our mining customers are displaying capital discipline. And I think it's really a good thing for us, right? Because in many areas, again, we're still dealing with supply chain challenges. And it's -- when demand spikes up and then comes down very quickly in a couple of years, that makes it very tough for our customers and makes it very tough for us. So I'm really encouraged that the scenario is playing out much as we've been predicting for the last few years is that moderate increase year-on-year as we produce more products for our mining customers.

And with mining trucks, the bigger the truck, the higher the Caterpillar market share. And over the past couple of years, we've seen demand for smaller trucks just by virtue of where commodity demand has come from. Any opportunities for you folks to sharpen the pencil on smaller mining trucks to essentially improve where that share position is for the small product specifically?

Yes. So we continually evaluate our competitive position and where we should invest dollars. So again, we always -- we're always -- something we're always looking at. We do feel quite good about our competitive position in mining. Again, a lot has to do with our autonomous solution. We feel very, very good about that. So again -- but we continually evaluate the breadth of our product portfolio and where we think the market is moving, and we'll make investments based on that.

And Jim, can we go back to a comment you made earlier in terms of being able to reduce the upfront investment for automation in mining so you can run a 15-truck fleet. Can you expand on how you folks were able to do that? And is there a runway to continue to drive that lower?

Well, we can -- it's something we continually focus on. Again, a lot of it has to do with technology, us getting better at this. Our customer is getting better at this, changes in technology. But again, part of it is just this experience curve that we've been on. And by learning more about the different elements and components that need to go into that autonomous mining site, we've been able to get down that it's not surprising, get down that cost curve. So now it's 10 to 15 trucks where it makes sense to make that capital investment. And again, if you stop to think about a potential 30% productivity increase, it's pretty unbelievable. And then you add that to the fact that 0 injuries in 10 years. One of the things we think about battery-powered trucks it goes hand-to-hand with autonomy because I don't think you could really divorce the 2. So one of the things that we believe will -- not only will our Energy & Transportation portfolio help our competitive position as our mining customers start to adopt battery-powered trucks, but our autonomous solution is very important as well because you mentioned earlier the complexity of that electrified mine site. Autonomy, of course, seems to be a big part of that. So having an autonomous -- the best autonomous technology, along with battery technology, we believe will provide a tremendous competitive advantage for us moving forward as mining customers electrify their fleets.

And in terms of the adoption curve that you see ahead for construction industries moving towards automation, how long until the level of adoption is similar to where the mining industry today and your developed construction equipment markets based on the product path.

Well, again, I think in construction, there's a lot more variability both in the task that the construction customer is performing and also in what happens at the site. So I think it will be more a situation of -- as opposed to a complete construction type that's autonomous. Certainly, I think that's a long way away. But having autonomy built into certain products for certain repeatable tasks, whether it's putting in a pad for a wind turbine, let's say, where it's pretty repeatable, things like that, I believe that's shorter term. But a complete autonomous site, I think, is farther away in construction just because of the variability of the different projects.

And if we could shift gears to talk about within Construction Industries, the end market outlook in terms of regions where you're most positive, hearing some interesting things about accelerating investment in Middle East. And I'm wondering if you could just comment on, as you look at the global heat map, what does that look like for you.

You bet. Well, starting with North America, again, we're -- we feel good about nonresidential in North America. We think that the business has been improving and will continue to improve. A lot of that's driven by infrastructure projects, and we expect later this year to start seeing the positive impact. The legislation that's been passed based on that. Residential is moderating a bit but still at healthy levels. And again, as I mentioned earlier, 75% of our Construction Industries business globally is nonresidential versus 25% residential. In the Middle East, there is a lot of activity. Of course, oil prices are relatively elevated. There's a lot of economic activity. That's driving a lot of construction activity, a lot of infrastructure in the Middle East that's quite strong. Latin America, flat maybe to slightly down this year. It's still early to tell. China, as I mentioned earlier, we do expect it to be slower this year, a couple of very strong years in '20, 2021. Down in '22, we expect it to be down below 2019 levels in 2023 in China. But outside of China, in Asia, good activity, good construction activity that's actually expected to be quite healthy in -- I think that's also the major areas, I think.

Super. And then your competitors are enviable of how much you folks have been able to ramp up supply and actually rebuild some dealer inventories in '22 using the global manufacturing base. I'm wondering, as you think about dealer inventories over the course of this year in the guidance that you laid out, are you factoring in any production adjustments to make sure we don't build dealer inventories, again, now that we're at a healthy level? Or are there pockets where demand is actually incrementally accelerating now supply has improved?

Right. So our dealers are independent businesses and they make their own decisions about their inventory. Having said that, we do work very closely with our dealers and we all try to predict what's happening with demand. There are still certain products where our dealers wish they had more inventory. So we still have certain demand -- supply-constrained products, where we wish and they wish they had higher inventory. So I expect some of that. In some other areas, they feel that they're at a relatively healthy level. So again, it's always -- it's a dynamic situation but one that we really focus on. I think -- and again, right now, as we sit here, business looks good. As I mentioned, the macro level drivers are positive, and we expect a better higher top line and bottom line this year than last.

Super. Jim, Ryan, the Caterpillar team, thank you very much for the time and insights.

Thank you, Jerry. Appreciate your time. Thank you.

Thank you.