October 11, Don Johnson Chief Economist Caterpillar Inc. Caterpillar’s Trough Planning

October 11, 2010 Caterpillar Inc. 2 Agenda: Trough Planning Background on Caterpillar’s Trough Planning Advance Preparation for the Last Downturn Reacting to the Downturn Looking Ahead Must be an ongoing process

October 11, 2010 Caterpillar Inc. 3 Yielded a Two-Phase Approach Develop plans in advance Determine likely challenges Prepare specific plans to cope with those challenges Determine when plans might be needed Identify warning indicators Keep everyone informed Started when the last recovery was a little over 2 years old

October 11, 2010 Caterpillar Inc. 4 Business Unit Actions Reports Developed and Maintained in Preparation for a Downturn Company-wide participation Pricing Plan Employment Policy Supplier Actions Capital Planning Not Accepted Why should we worry about a downturn when business is strong? The next downturn won’t be that bad. Conditions are different today; a recession is unlikely.

October 11, 2010 Caterpillar Inc. 5 U.S. Leading Indicators Lead times can vary significantly Months Lead before a Recession Begins (Post WWII)

October 11, 2010 Caterpillar Inc. 6 Agenda: Trough Planning Background on Caterpillar’s Trough Planning Advance Preparation for the Last Downturn Reacting to the Downturn Looking Ahead May need to discount current thinking

October 11, 2010 Caterpillar Inc. 7 Fed Actions Unfavorable 1. “… the economy seems likely to expand at a moderate pace over coming quarters.” 2. “Core inflation remains somewhat elevated.” 3. “Although inflation pressures seem likely to moderate over time, the high level of resource utilization has the potential to sustain those pressures.” 4. “… the Committee's predominant policy concern remains the risk that inflation will fail to moderate as expected.” FOMC statement, May 9, 2007 Inflation is the risk … … so tightening continues We felt Fed policy could damage the economy

October 11, 2010 Caterpillar Inc. 8 Conclusion: U.S. Recession in 2008 Economic GDP Growth1.5% Fed Funds rate (EOY)2.5% Housing starts1.51 mil. Nonres. Construction0.4% Coal prices0% Political Democratic sweep in 2008 Tax hikes in 2009 More protectionism More regulations Increased Possibility of a Recession

October 11, 2010 Caterpillar Inc. 9 Public Announcement Third Quarter 2007 Release (October 2007) Unpopular view at the time “We expect 2008 to be the sixth consecutive year of sales and revenues growth, despite a U.S. economy near to, or even in, recession. Expectations for 2008 reflect the easing of two significant negative factors that impacted ….” Selectively implemented trough actions

October 11, 2010 Caterpillar Inc. 10 Credit Crisis Planning Intense planning in early 2008 TED Spread (3-mo. LIBOR vs. 3-mo. Treasury Bond Spread (Moody’s Baa vs. 10-year Treasury Focusing on the problem

October 11, 2010 Caterpillar Inc. 11 Key Concern Asset prices fall Banks take write-offs Banks reduce lending Spending declines Asset prices fall Banks take write-offs Banks reduce lending Spending declines Asset prices fall Banks take write-offs Banks reduce lending Spending declines * * * * Must stop price declines Significant fears of a downward spiral

October 11, 2010 Caterpillar Inc. 12 Agenda: Trough Planning Background on Caterpillar’s Trough Planning Advance Preparation for the Last Downturn Reacting to the Downturn Looking Ahead Worse than anyone expected

October 11, 2010 Caterpillar Inc. 13 Formed Stay Strong Strong focus on cash flow Be Profitable with Strong Cash Flow Hold Our Credit Rating Maintain Our Dividend 1H 20092H

October 11, 2010 Caterpillar Inc. 14 Other Actions Planned for sales decline Allowed dealers to cancel orders Downsized the workforce and cut labor costs -Reduced full-time employment by 19,074 workers - Reduced flexible workforce by about 18,000 -Eliminated short-term incentive payments for Took temporary layoffs in many divisions Slashed company inventories by $2.4 billion Continuously, and carefully, monitored ongoing sales to determine if actions were sufficient All-out effort

October 11, 2010 Caterpillar Inc. 15 Results CAT Net Sales and Revenues (% Change from Prior Year) CAT Profits after Tax (Million Dollars) Preserved profitability Worst sales decline Stayed profitable

October 11, 2010 Caterpillar Inc. 16 Agenda: Trough Planning Background on Caterpillar’s Trough Planning Advance Preparation for the Last Downturn Reacting to the Downturn Looking Ahead 2000s were not good years for the U.S. economy

October 11, 2010 Caterpillar Inc. 17 The Race to the Bottom Average Yearly Percent Growth in Economic Output Developing Economies becoming more important

October 11, 2010 Caterpillar Inc. 18 Developed Country - Real Construction Spending Real Construction Spending (1990 = 100) U.S. Euro-zone Japan Average Annual Decline 2000-present U.S.-0.3% Euro-zone-0.2% Japan-2.6% Difficult to deal with long periods of weak/no growth

October 11, 2010 Caterpillar Inc. 19 Summary Thoughts Prepare in advance and stay agile Recessions will always be with us Cannot consistently, accurately predict recessions Definite delays in knowing where we are Need to have up-to-date recession plans in hand Constantly watch economies and question developments Developed economies need to improve their growth game – risk is irrelevance