Joy Global (JOYG)

Wisconsin-based Joy Global, Inc. (JOYG) manufactures surface and underground mining machinery and equipment for extraction of ores and minerals such as coal, copper, iron and oil sands. The company also has "aftermarket" or after original equipment sales services for both its surface and underground customers, which provide it revenue through optimizing and extending the machinery's usable life. The company s strategy incorporates Life Cycle Management into its customer sales which essentially make it a one stop shop for equipment, replacement parts and services on a long-term basis. JOYG has a worldwide presence having equipment construction or service/sales facilities in more than 20 countries including the U.S., Canada, Brazil, Chile, South Africa, England, Poland, Russia, India and China. With its early 2008 acquisition on Continental Global, JOY s operations went from two to three business segments: Joy Mining Machinery, P&H Mining Equipment and Continental Crushing and Conveying. Joy records revenue based on when the product is shipped or on a percentage of completion basis 85% of sales are recorded when shipped. At fiscal year end 2007, Joy Global had roughly 9,200 employees of which 47% were employed in the U.S.

Joy Mining Machinery: This is the underground division of JOYG and accounted for 56% of the company's total revenues in fiscal 2007. This division is further broken down into original equipment orders and aftermarket orders. In 2007, original equipment sales accounted for 37% of divisional revenue, while parts and services accounted for 63%. The products offered in this segment include longwall shearers, continuous miners, and roof supports. In the underground mining space, Joy is a global leader having the largest worldwide installed equipment fleet as well the most experienced servicing network.

P&H Mining Equipment (P&H): This is the surface mining division of JOY and accounted for 44% of Joy Global's total 2007 revenues. Similar to the underground division, P&H is divided into original equipment and aftermarket orders. Original equipment orders accounted for 36% of P&H 2007 revenues while 64% was attributed to aftermarket sales. P&H Mining Equipment (P&H) is a world leader in surface mining equipment for the extraction of ores and minerals. Coal, copper, iron ore and oil sands mining together account for approximately 90% of the division s revenues. Through P&H MinePro Services, the company offers extensive aftermarket parts and service support on a worldwide basis for P&H and other quality branded products.

Continental Crushing and Conveying (CCC): After acquiring Continental Global in Q1 '08, JOYG combined Continental with its previously acquired Stamler assets to form the crushing and conveying business segment, which started recording its revenues separate from the above two segments, in Q2 08. CCC brings a premium brand name and high quality management to JOY s already top class surface and underground units. This segment is synergistic to Joy Mining and P&H bringing product and service support while helping drive the Life Cycle Management strategies that JOYG is focused around. As this segment continues to be implemented into the company, it will likely be the business with the most EBIT margin growth.

INVESTMENT THESIS

Our positive investment sentiment toward Joy Global, Inc. is positive due to:

The benefits gained from its Life Cycle Management platform

The growth outlook for the markets in which its customers operate

The long term effects of its cost management initiatives

Its strong balance sheet and free cash flow generating abilities

Joy Global's Life Cycle Management philosophy is a tremendous value-added service that will ensure customer satisfaction and efficiency, with the goal of providing each customer with the lowest operating cost metrics possible. With this strategy JOYG will be able to maintain and grow its market share in all of its business segments while providing a source of steady cash flows that help mitigate its cyclicality to commodity markets. LCM is a service that helps Joy customers better manage their machinery fleet, gain operating efficiencies and extend the useful life of its mining equipment. The ability of JOYG to provide its customers with reliability, high operating performance and industry leading technological innovations yields several benefits. First, from the customer's point of view having strong after sales support and service will ensure lower operating costs and higher productivity throughout the life of the machine. Joy offers several leading services that will help customers improve working efficiencies, increase productivity and increase mine safety. This is integral to its customers continued success as mining has become more and more difficult due to increased overburden and strip ratios. As such reliability, safety and low costs are some of the most important factors that a customer considers when making a purchase decision.

From the company's perspective, the ability to service customers with top of line after sales parts and technologies will not only guarantee a long term customer, but it will most likely lead to more sales and OE purchases from that customer in the future. Also with the acquisition of Continental, the company can now be a more of full service supplier for customers with underground and surface mining operations. This gives the company a competitive edge as it has the ability to couple extraction equipment with conveying and crushing equipment. This also creates more synergies with the Life Cycle Management platform as both extracting and conveying services can be offered together. Lastly, the after market services provided in the Life Cycle Management strategy is a higher margin business due to the relatively shorter sales cycle, the ability to increase prices and lower capital requirements. In summation, Life Cycle Management is a significant benefit to Joy Global. The need for reliable equipment that addresses the needs of customers and improves their operating results will lead to more sales, both for aftermarket and original equipment orders, and will increase the company's market share.

Although recently there have been fears of a global slowdown, the supply and demand fundamentals of the key commodities that Joy's customers mine look strong, in particular coal. On a global scale coal prices have soared more than 2x 2007 levels as demand has outpaced supply for several reasons. In the Pacific Rim emerging economies like China and India are demanding more electricity and steel for home heating and infrastructure build-outs. Several countries that were historically net exporters have greatly curbed its exports, leaving more coal at home and becoming net importers. This global supply deficit has been exacerbated by infrastructure and port constraints around the world. As countries are struggling to find alternative sources of reliable supply the U.S., which accounts for more than one third of annual revenues, looks to be the main beneficiary. As a swing supplier it has the capacity to and has been exporting to Europe and Asian markets. This has had the effect of boosting U.S. prices as well as an increasing amount of supply is getting sold into seaborne markets. Even at these elevated levels buyers in these emerging markets are locking long term coal contracts to hedge the risk of price increases and gain surety of supply. In particular metallurgical coal, which is a higher quality coal used in the steel making process, will remain strong as emerging economies require this coal to build automobiles and buildings. As such long term seaborne metallurgical coal contracts have been signed at prices well above $200 per ton. In the U.S. high quality Central Appalachian (CAPP) thermal coal contracts headed for seaborne markets have been priced under long term contract well above $100 per ton. This suggests that coal prices look to remain strong for several years and may represent price floors for seaborne coal as companies are willing to lock in long term contracts at these prices (shown on the graph below). Reinforcing strong prices are the supply deficit levels which could reach 30 MM tons in 2008 and will likely continue through 2010.

As producers have begun to invest in Brownfield and Greenfield expansion projects to bring on the additional capacity to meet demand JOYG has seen its original equipment sales and bookings increase significantly on a global level. This is because JOYG is heavily weighted toward the coal industry, representing nearly 70% of annual revenues. The fact that companies are willing to book orders for large pieces of expensive mining equipment is a positive signal. Coal producing companies spend a great deal of time and due diligence determining its market outlook, capacity levels and CapEx budget. As the average time lag for new equipment delivery is 18 months the growth of new equipment orders is an indicator that producers have a long term positive outlook on supply/demand fundamentals and the future price of coal. In response to the heighted equipment demand Joy Global has taken steps to increase capacity in both its underground and surface businesses. It is building two facilities in Tianjin, China and outsourcing the fabrication of non-value-add components for its P&H operations. In the underground business Joy recently acquired a mid-level Chinese longwall shearer manufacturer and has been upgrading its facilities with new equipment and stream lining its production process. The strong demand growth and investment in capacity expansion activities should guarantee JOYG double digit OE sales and bookings growth for the next several years.

Joy is currently in the process of implementing several cost minimizing strategies that will allow it to further increase its industry leading operating margins and improve its overall profitability. As commodity prices have been on the rise, input costs such as steel and fuel have increased. This has had the effect of impeding margin growth in its P&H division as contracts for OE are usually fixed price in nature and in between the order and delivery point, inflation can boost costs. JOYG is reducing its input cost inflation exposure by putting in cost pass through clauses in its contracts. These can range from surcharges to prices escalations based on a specific index. This will start to have a positive effect on OE margins in 2010. In the short term, P&H will offset flat OE margins with increased pricing on its aftermarket services. In the underground division, Joy Mining has hired outside talent to design high quality training and work processing streams to maximize efficiency. Joy has begun adopting a lean system strategy which basically reduces cycle times in order to allow its workforce and production to shift quickly in response to changing market dynamics. Additionally the underground division has spent the last two years updating and upgrading equipment and facilities in order to achieve improved capacity and production levels. Lastly, Joy has been increasing capacity in low cost operating regions like China. This will help them increase capacity at market highs but will also allow it to decrease production from higher cost areas during softer markets. All of these initiatives look to increase underground margins by roughly 3% when complete. The acquisition of Continental also has cost synergies. Some of the existing U.S. Continental facilities are being moved to lower cost regions and are being combined with existing Joy Mining or P&H facilities. Also as the company combines the crushing and conveying abilities with its Joy or P&H services, JOYG enjoys purchasing power economies when ordering materials and supplies. The implementation of these initiatives should help control the company's operating costs on a long term basis. With long term EBIT margins targeted in the low 20% range, Joy Global will maintain its industry leading operating performance which will allow it to trade at a premium to its peers.

In the current volatile market environment, investors should seek companies with strong balance sheets and cash flow generating capabilities. With credit almost impossible to obtain, or extremely expensive companies who can meet their obligations with internally generated cash will fair much better through this turbulent time. JOYG has plenty of liquidity with current assets almost 2x greater than current liabilities. Additionally the company has a debt-to-total capitalization ratio of .38, which is below industry average and a sizeable interest coverage ratio of more than 15x. Most important however is the company's cash flow generating abilities. Even with its relatively aggressive growth capital expenditure program Joy looks to be free cash flow positive (cash flow from operations less capital expenditures) for the long term. This will be a great benefit to the company and its investors as not only will it be able to maintain its growth profile without taking on additional debt financing in a high cost environment, but will continue to buy back common stock as well. With these fundamental strengths, Joy Global will most likely outperform the market.

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