Wednesday, January 27, 2010

The Caterpillar multiplier effect

CAT reports before the bell, but you had this story on growth in CAT and its effect on suppliers in the WSJ. Even slow growth has a multiplier effect.

PEORIA, Ill.—Caterpillar Inc. recently told its steel suppliers that it will more than double its purchases of the metal this year—even if the company's own sales don't rise one iota.

In fact, the heavy-equipment maker has been boosting orders to suppliers for everything from big tires and hydraulic tubes to shatterproof glass.

How is that possible? Chalk it up to the "bullwhip effect," which is reverberating across the U.S. economy.

This phenomenon occurs when companies significantly cut or add inventories. Economists call it a bullwhip because even small increases in demand can cause a big snap in the need for parts and materials further down the supply chain.

The bullwhip has broad implications now as companies rush to fill orders while also restocking warehouse shelves. It touches everyone from retailers to the industrial companies that supply the grease, bolts and coal needed to churn out more products. The manner in which companies, large and small, respond to market shifts determines which ones emerge first from the slump and start growing again...

Caterpillar says that even if demand for its equipment is flat this year—an unlikely projection it calls its "Great Recession scenario"—it would still need to boost production in its factories by 10% to 15%, just to restock dealer inventories and meet ongoing customer demand.

Meanwhile, output at Caterpillar's suppliers would have to rise 30% to 40% in this scenario, because Caterpillar would also be refilling its shelves.

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