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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q


x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934



For the quarterly period ended June 30, 2004

Commission File No. 0-13295




CATERPILLAR FINANCIAL SERVICES CORPORATION
(Exact name of Registrant as specified in its charter)

Delaware
37-1105865
(State of incorporation)
(IRS Employer I.D. No.)



2120 West End Ave.
Nashville, Tennessee
 
37203-0001
(Address of principal executive offices)
(Zip Code)



Registrant's telephone number, including area code: (615) 341-1000


The Registrant is a wholly-owned subsidiary of Caterpillar Inc. and meets the conditions set forth in General Instruction (H)(1)(a) and (b) of Form 10-Q, and is therefore filing this form with the reduced disclosure format.


Indicate by a check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes x No o

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).

Yes o No x

At June 30, 2004, one share of common stock of the Registrant was outstanding, which is owned by Caterpillar Inc.





Caterpillar Financial Services Corporation


Form 10-Q for the Quarter Ended June 30, 2004





PART I FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements (Unaudited)
Consolidated Statement of Financial Position
Consolidated Statement of Profit
Consolidated Statement of Changes in Stockholder’s Equity
Consolidated Statement of Cash Flows
Notes to Consolidated Financial Statements
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview: Second Quarter 2004 vs. Second Quarter 2003
Critical Accounting Policies
Three Months Ended June 30, 2004 Vs. Three Months Ended June 30, 2003
Six Months Ended June 30, 2004 Vs. Six Months Ended June 30, 2003
Capital Resources and Liquidity
Item 4. Controls and Procedures
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
Signatures




Part I. FINANCIAL INFORMATION
 
Item 1. Consolidated Financial Statements (Unaudited)

In addition to our accompanying unaudited consolidated financial statements, we suggest that you read our Annual Report on Form 10-K. Although not incorporated by reference in this document, additional information about us is available in our 2003 Annual Report and at http://www.catfinancial.com. The documents mentioned above are available by writing to: Legal Dept., Caterpillar Financial Services Corp.; 2120 West End Ave.; Nashville, TN 37203-0001.






Caterpillar Financial Services Corporation

Consolidated Statement of Financial Position
(Unaudited)
(Dollars in Millions, except share data)

 
  
June 30,
December 31,
June 30,
 

 
2004
2003
2003
   
 
 
 
Assets:
    
 
    
 
    
 
  
Cash and cash equivalents
  
$
87
 
$
69
 
$
120
 
Finance receivables
    
 
    
 
    
 
  
Retail notes receivable
    
4,315
    
4,372
    
4,169
  
Wholesale notes receivable
    
4,037
    
3,224
    
2,928
  
Notes receivable from Caterpillar
   
412
    
378
    
332
  
Finance leases and installment sale contracts - Retail
    
9,920
    
9,510
    
8,337
  
Finance leases and installment sale contracts - Wholesale
    
     189
    
     159
    
     124
  
   
 
 
 
 
    
18,873
    
17,643
    
15,890
  
Less: Unearned income
    
1,075
    
1,046
    
957
  
Allowance for credit losses
   
     255
    
     241
    
     221
  
   
 
 
 
Total net finance receivables
    
17,543
    
16,356
    
14,712
  
 
    
 
    
 
    
 
  
Equipment on operating leases,
   
 
    
 
    
 
  
less accumulated depreciation
   
2,277
    
2,319
    
2,155
  
Deferred income taxes
    
18
    
19
    
14
  
Other assets
    
     988
    
     996
    
     988
  
   
 
 
 
Total assets
  
$
20,913
 
$
19,759
 
$
17,989
 
   
 
 
 
 
    
 
    
 
    
 
  
 
    
 
    
 
    
 
  
Liabilities and stockholder's equity:
    
 
    
 
    
 
  
Payable to dealers and others
  
$
182
 
$
177
 
$
208
 
Payable to Caterpillar - other
   
24
    
16
    
16
  
Accrued expenses
    
155
    
175
    
151
  
Income taxes payable
    
92
    
54
    
43
  
Payable to Caterpillar - borrowings
    
265
    
475
    
767
  
Short-term borrowings
   
4,314
    
4,510
    
3,629
  
Current maturities of long-term debt
   
3,728
    
2,943
    
3,678
  
Long-term debt
   
9,459
    
8,852
    
7,261
  
Deferred income taxes and other liabilities
    
     283
    
     259
    
     201
  
   
 
 
 
Total liabilities
    
18,502
    
17,461
    
15,954
  
   
 
 
 
 
    
 
    
 
    
 
  
Common stock - $1 par value
    
 
    
 
    
 
  
Authorized: 2,000 shares; Issued and
    
 
    
 
    
 
  
outstanding: one share (at paid in amount)
    
745
    
745
    
745
  
Retained earnings
    
1,538
    
1,403
    
1,269
  
Accumulated other comprehensive income
   
     128
    
     150
    
     21
  
   
 
 
 
Total stockholder's equity
    
  2,411
    
  2,298
    
  2,035
  
   
 
 
 
 
    
 
    
 
    
 
  
Total liabilities and stockholder's equity
  
$
20,913
 
$
19,759
 
$
17,989
 
   
 
 
 



See Notes to Consolidated Financial Statements (unaudited).



Caterpillar Financial Services Corporation

Consolidated Statement of Profit
(Unaudited)
(Dollars in Millions)



 

 
  
  Three Months Ended  
   Six Months Ended   
   
 
    
June 30,

 

 
June 30,

 

 
June 30,

 

 
June 30,

 

 

 

 
   2004

 

 
2003

 

 
2004

 

 
2003
  
   
 
 
 
 
Revenues:
    
 
    
 
    
 
    
 
  
Wholesale finance
 
$
49
 
$
41
 
$
91
 
$
78
 
Retail finance
   
203
    
199
    
410
    
396
  
Operating lease
   
176
    
160
    
354
    
315
  
Other
   
   39
    
   45
    
   69
    
   59
  
   
 
 
 
 
Total revenues
   
 467
    
 445
    
 924
    
 848
  
   
 
 
 
 
 
    
 
    
 
    
 
    
 
  
Expenses:
    
 
    
 
    
 
    
 
  
Interest
   
121
    
123
    
242
    
248
  
Depreciation on assets leased to others
    
140
    
127
    
282
    
248
  
General, operating, and administrative
    
74
    
58
    
139
    
112
  
Provision for credit losses
    
32
    
27
    
52
    
50
  
Repo and repair
    
     3
    
     2
    
     5
    
     4
  
   
 
 
 
 
Total expenses
    
 370
    
 337
    
 720
    
 662
  
   
 
 
 
 
 
    
 
    
 
    
 
    
 
  
Profit before income taxes
    
97
    
108
    
204
    
186
  
 
    
 
    
 
    
 
    
 
  
Provision for income taxes
   
   34
    
   37
    
   69
    
   64
  
   
 
 
 
 
Profit
  
$
63
 
$
71
 
$
135
 
$
122
 
   
 
 
 
 
 
    
 
    
 
    
 
    
 
  



See Notes to Consolidated Financial Statements (unaudited).




Caterpillar Financial Services Corporation

Consolidated Statement of Changes in Stockholder's Equity
(Unaudited)
(Dollars in Millions)

 
  
Six months Ended
   
 
  
June 30, 
June 30,
 

 
      2004    
     2003    
   
 
    
 
    
 
    
 
    
 
  
Common stock at paid-in amount:
    
 
    
 
    
 
    
 
  
Balance at beginning of year
  
$
745
   
 
  
$
745
   
 
  
   
       
       
Balance at end of period
    
  745
    
 
    
  745
    
 
  
   
       
       
 
    
 
    
 
    
 
    
 
  
Retained earnings:
    
 
    
 
    
 
    
 
  
Balance at beginning of year
    
1,403
    
 
    
1,147
    
 
  
Profit
    
   135
  
$
135
   
   122
  
$
122
 
   
       
       
Balance at end of period
    
1,538
    
 
    
1,269
    
 
  
   
       
       
 
    
 
    
 
    
 
    
 
  
Accumulated other comprehensive income/(loss):
    
 
    
 
    
 
    
 
  
Foreign currency translation adjustment (net of tax)
    
 
    
 
    
 
    
 
  
Balance at beginning of year
    
163
    
 
    
(38
)
  
 
  
Aggregate adjustment for the period
    
(37
)
  
(37
)
  
   96
    
96
  
   
       
       
Balance at end of period
    
  126
    
 
    
   58
    
 
  
   
       
       
Interest rate derivative instruments (net of tax)
    
 
    
 
    
 
    
 
  
Balance at beginning of year
    
(18
)
  
 
    
(40
)
  
 
  
Losses deferred during the period
    
(16
)
  
(16
)
  
(19
)
  
(19
)
Losses reclassed to earnings during the period
    
   32
    
32
    
   20
    
20
  
   
       
       
Balance at end of period
    
(2
)
  
 
    
(39
)
  
 
  
   
       
       
Other instruments (net of tax)
    
 
    
 
    
 
    
 
  
Balance at beginning of year
    
5
    
 
    
1
    
 
  
Aggregate adjustment for the period
    
(1
)
  
(1
)
  
    1
    
    1
  
   
 
 
 
 
Balance at end of period
    
     4
    
 
    
    2
    
 
  
   
       
       
Total accumulated other comprehensive income
    
  128
    
 
    
   21
    
 
  
   
       
       
 
    
 
    
 
    
 
    
 
  
Comprehensive income
   
 
  
$
113
   
 
  
$
220
 
         
       
 
 
    
 
    
 
    
 
    
 
  
 
    
 
    
 
    
 
    
 
  
Total stockholder’s equity
  
$
2,411
   
 
  
$
2,035
   
 
  
   
       
       



See Notes to Consolidated Financial Statements (unaudited).




Caterpillar Financial Services Corporation

Consolidated Statement of Cash Flows
(Unaudited)
(Dollars in Millions)

 
  
       Six Months Ended    
   
 
    
June 30,

 

 
June 30,

 

 

 

 
   2004

 

 
2003
  
   
 
 
Cash flows from operating activities:
    
 
    
 
  
Profit
  
$
135
 
$
122
 
Adjustments for non-cash items:
    
 
    
 
  
Depreciation of equipment on operating leases and non-leased equipment
    
293
    
258
  
Amortization of purchased discount
    
(62
)
  
(51
)
Provision for credit losses
    
52
    
50
  
Gain on sale of receivables
    
(13
)
  
(22
)
Other
   
(21
)
  
(28
)
Change in assets and liabilities:
    
 
    
 
  
Receivables from customers and others
    
(32
)
  
(96
)
Other receivables/payables with Caterpillar
    
18
    
4
  
Payable to dealers and others
    
7
    
50
  
Accrued expenses
    
(1
)
  
(63
)
Income taxes payable
    
38
    
27
  
Other assets and liabilities, net
    
         -
    
(6
)
   
 
 
Net cash provided by operating activities
    
    414
    
    245
  
   
 
 
 
    
 
    
 
  
Cash flows from investing activities:
   
 
    
 
  
Expenditures for equipment on operating leases and for non-leased equipment
    
(542
)
  
(559
)
Proceeds from disposals of equipment
    
368
    
314
  
Additions to finance receivables
    
(12,747
)
  
(9,255
)
Collections of finance receivables
    
10,143
    
7,904
  
Proceeds from sales of receivables
    
1,181
    
1,200
  
Notes receivable from Caterpillar
   
(43
)
  
11
  
Other, net
    
      20
    
     17
  
   
 
 
Net cash used for investing activities
    
(1,620
)
  
(368
)
   
 
 
 
    
 
    
 
  
Cash flows from financing activities:
    
 
    
 
  
Payable to Caterpillar – borrowings
    
(201
)
  
(42
)
Proceeds from long-term debt
    
3,047
    
2,407
  
Payments on long-term debt
    
(1,540
)
  
(1,621
)
Short-term borrowings, net
    
(88
)
  
(616
)
   
 
 
Net cash provided by financing activities
    
 1,218
    
     128
  
   
 
 
 
    
 
    
 
  
Effect of exchange rate changes on cash
    
        6
    
      15
  
   
 
 
 
    
 
    
 
  
Net change in cash and cash equivalents
    
18
    
20
 
    
 
    
 
  
Cash and cash equivalents at beginning of year
    
      69
    
     100
  
   
 
 
 
    
 
    
 
  
Cash and cash equivalents at end of period
  
$
87
 
$
120
 
   
 
 
 
    
 
    
 
  

 
See Notes to Consolidated Financial Statements (unaudited).




Notes to Consolidated Financial Statements
(Unaudited; Dollars in Millions)

A.   Use of estimates in the preparation of financial statements

We believe this information reflects all adjustments, consisting of normal recurring adjustments, necessary for a fair statement of the consolidated statements of financial position, profit, changes in equity, and cash flows for the periods presented. The preparation of financial statements, in conformity with accounting principles generally accepted in the United States of America, requires management to make estimates and assumptions that affect the reported amounts. The most significant estimates are the allowance for credit losses and residual values for leased assets. Other significant estimates are the assumptions used to determine the fair value of derivatives and retained interests in securitizations. Actual results may differ from these estimates and the results for interim periods do not necessarily indicate the results we expect for the year.

Certain amounts for prior periods have been reclassified to conform to the current period presentation.


B.   Supplemental segment data

Our segment data is based on disclosure requirements of Statement of Financial Accounting Standards No. 131, which requires that financial information be reported on the basis that is used internally for measuring segment performance. Internally, we report information for operating segments based on management responsibility. The five segments offer primarily the same types of services.

On January 1, 2004, Cat Power Finance was reclassified from North America and Diversified Services into a separate segment. Prior year data has been reclassified to conform to the new structure. We segregate information as follows:

·
North America: We have offices in the United States and Canada that serve local dealers and customers.
·
Europe: We have offices in Europe to serve European dealers and customers. This segment also includes our office in Russia, which serves dealers and customers in the Commonwealth of Independent States.
·
Austral-Asia: We have offices in Australia and Asia that serve local dealers and customers.
·
Diversified Services: Included is our Global Accounts Division, which primarily provides cross-border financing to customers in countries in which we have no local presence; Marine Services, which primarily finances marine vessels with Caterpillar engines for all countries; and our offices in Latin America that serve local dealers and customers.
·
Cat Power Finance: This division primarily finances Cat electrical power generation, gas compression and co-generation systems, as well as non-Cat equipment powered by Cat engines for all countries.


Debt and other expenses for the Global accounts, Marine Services and Cat Power Finance divisions are allocated to their respective segments from the North America and/or Austral-Asia segments based on their respective portfolios. The related interest expense is calculated based on the amount of allocated debt at current market rates. Inter-segment revenues are also based on current market rates.


Supplemental segment data for the three months ended June 30,

2004
  
North  America
Europe
Austral-
   Asia
Diversified  Services
Cat Power Finance
  Total
   
 
 
 
 
 
 
External revenue
  
$
280
    
83
    
32
    
55
    
17
  
$
467
  
Inter-segment revenue
  
$
5
    
   -
    
  -
    
  -
    
  -
  
$
5
  
Profit
  
$
36
    
 12
    
  3
    
  7
    
  5
  
$
63
  
Assets at June 30, 2004
  
$
11,880
    
4,108
    
1,287
    
4,615
    
1,256
  
$
23,146
  
 
    
 
    
 
    
 
    
 
    
 
    
 
  
2003
    
North  America
    
Europe
    
Austral-
   Asia
    
Diversified  Services
    
Cat Power Finance
    
  Total
  
   
 
 
 
 
 
 
External revenue
  
$
268
    
79
    
22
    
63
    
13
  
$
445
  
Inter-segment revenue
  
$
5
    
   -
    
   -
    
   -
    
   -
  
$
5
  
Profit
  
$
40
    
 11
    
  2
    
 14
    
  4
  
$
71
  
Assets at June 30, 2003
  
$
10,624
    
3,496
    
938
    
4,286
    
982
  
$
20,326
  



Reconciliation of assets:
  
June 30,
2004
June 30, 2003
   
 
 
Assets from segments
  
$
23,146
 
$
20,326
 
Investment in subsidiaries
    
(902
)
  
(872
)
Inter-segment balances
    
(1,331
)
  
(1,465
)
   
 
 
Total assets
  
$
20,913
 
$
17,989
 
   
 
 



Supplemental segment data for the six months ended June 30,

2004
  
North  America
Europe
Austral-
   Asia
Diversified  Services
Cat Power Finance
  Total
   
 
 
 
 
 
 
External revenue
  
$
544
    
170
    
63
    
116
    
31
  
$
924
  
Inter-segment revenue
  
$
9
    
    -
    
   -
    
    -
    
  -
  
$
9
  
Profit
  
$
72
    
  26
    
  7
    
  21
    
  9
  
$
135
  
 
    
 
    
 
    
 
    
 
    
 
    
 
  
2003
    
North  America
    
Europe
    
Austral-
   Asia
    
Diversified  Services
    
Cat Power Finance
    
  Total
  
   
 
 
 
 
 
 
External revenue
  
$
509
    
153
    
41
    
119
    
26
  
$
848
  
Inter-segment revenue
  
$
11
    
    -
    
    -
    
    -
    
    -
  
$
11
  
Profit
  
$
70
    
  19
    
  4
    
  22
    
  7
  
$
122
  



C.   Derivative Instruments and Hedging Activities

Our earnings and cash flow are subject to fluctuations due to changes in foreign currency exchange rates and interest rates. Our “Risk Management Policy” (Policy) allows for the use of derivative financial instruments to prudently manage foreign currency exchange rate and interest rate exposure. Our Policy specifies that derivatives are not to be used for speculative purposes. Derivatives that we use are primarily foreign currency forward and option contracts and interest rate swaps. Our derivative activities are subject to the management, direction, and control of our financial officers. Risk management practices, including the use of financial derivative instruments, are presented to the Audit Committee of the Caterpillar Board of Directors at least annually.

Foreign Currency Exchange Rate Risk
In managing foreign currency risk, our objective is to minimize earnings volatility resulting from conversion and the remeasurement of net foreign currency balance sheet positions. Our Policy allows the use of foreign currency forward contracts to offset the risk of currency mismatch between our receivables and debt. None of these foreign currency forward contracts are designated as a hedge. Other revenue included gains of $1 and losses of $23 on the undesignated contracts for the three months ended (gains of $17 and losses of $53 for the six months ended) June 30, 2004 and 2003, respectively, substantially offset by balance sheet remeasurement and conversion losses and gains.

Due to the long-term nature of our net investments in foreign subsidiaries, we generally do not hedge the related currency exposure.
 
Interest Rate Risk
Interest rate movements create a degree of risk to our operations by affecting the amount of our interest payments and the value of our fixed rate debt. Our policy is to use interest rate swap agreements to manage our exposure to interest rate changes and lower the cost of borrowed funds.

We have a match funding policy, whereby the interest rate profile (fixed rate or floating rate) of our debt portfolio largely matches the interest rate profile of our receivables within established guidelines. In connection with that policy, we use interest rate derivative instruments to modify the debt structure to match the receivables. This match funding reduces the volatility of margins between interest-bearing assets and interest-bearing liabilities, regardless of which direction interest rates move. We also use these instruments to gain an economic and/or competitive advantage through a lower cost of borrowed funds. This is accomplished by changing the characteristics of existing debt instruments or entering into new agreements in combination with the issuance of new debt.

       We use floating-to-fixed, fixed-to-floating, and floating-to-floating interest rate swaps to meet our match funding policy. To support hedge accounting, we designate fixed-to-floating interest rate swaps as fair value hedges of the fair value of our fixed rate debt at the inception of the contract. Our hedge accounting is further supported by designating virtually all floating-to-fixed interest rate swaps as cash flow hedges of the variability of future cash flows.

As our fixed-to-floating interest rate swaps are 100% effective, losses during the quarter ended June 30, 2004 on designated interest rate derivatives of $73 were offset completely by gains on hedged debt of $73 in Other revenue. Gains of $8 during the second quarter of 2003 were completely offset by losses of $8. Total year-to-date losses of $39 on designated fixed-to-floating interest rate swaps were offset completely by gains on hedged debt of $39 in Other revenue. Gains of $8 during the first half of 2003 were completely offset by losses of $8. During 2002, we liquidated four fixed-to-floating interest rate swaps. As a result, the fair value adjustment of the original debt is amortized to earnings ratably over the remaining life of the hedged debt. Gains of less than $1 were amortized to Interest expense for the three months ended ($1 for the six months ended) June 30, 2004 and 2003. There were no circumstances where hedge treatment was discontinued during the three or six months ended June 30, 2004 or 2003.

For the quarter-to-date and year-to-date of 2004 and 2003, a gain of less than $1 was included in Other revenue for both the ineffectiveness of our floating-to-fixed interest rate swaps designated as cash flow hedges and our mark-to-market of floating-to-fixed and floating-to-floating interest rate swaps that are not designated as a hedge.

Based on current market conditions, $8 of deferred net losses included in Accumulated other comprehensive income at June 30, 2004 ($24 at June 30, 2003) is expected to be reclassified to Interest expense over the next twelve months as interest expense is accrued on our floating-to-fixed interest rate swaps. No floating-to-fixed interest rate swaps were liquidated during the three or six months ended June 30, 2004 or 2003.


D.   Guarantees

We are contingently liable under loan guarantees in which we have agreed to repurchase loans of certain Caterpillar dealers in the event of default. These guarantees have terms generally ranging from one to four years and are secured primarily by dealer assets, including Caterpillar equipment. Most of our guarantees arose due to our relationship with our dealers. No loss has been experienced nor is any anticipated under these guarantees. Required liabilities associated with obligations under guarantees totaled $10. The maximum potential amount of future payments (undiscounted and without reduction for any amounts that may possibly be recovered under recourse or collateralized provisions) we could be required to make under the guarantees are as follows:

 
  
June 30,
2004
December 31, 2003
   
 
 
Guarantees with Caterpillar dealers
  
$
384
  
$
380
  
Guarantees - other
    
     14
    
     37
  
   
 
 
Total guarantees
  
$
398
  
$
417
  
   
 
 



E.   Securitized Assets

During the quarter, we securitized retail installment sale contracts and finance leases into a public asset-backed securitization facility. These finance receivables, which are being held in a securitization trust, are secured by new and used equipment. We retained servicing responsibilities and subordinated interests related to this securitization. Subordinated interests include subordinated certificates with an initial fair value of $8, an interest in future cash flows (excess) with an initial fair value of $2, and a reserve account with an initial fair value of $10. Our retained interests are generally subordinate to the investors' interests. Net proceeds received were $659, which includes both cash proceeds and retained interests. A net gain of $13 was recognized on this transaction. Significant assumptions used to estimate the fair value of the retained interes ts and subordinate certificates include a 10.7% discount rate, a weighted-average prepayment rate of 14.0%, and expected credit losses of 1.0%. We receive annual servicing fees of 1.0% of unpaid note value.

In the second quarter of 2003, a public securitization also occurred. Subordinated interests included subordinated certificates with an initial fair value of $9, an interest in future cash flows (excess) with an initial fair value of $14, and a reserve account with an initial fair value of $10. Net proceeds received were $693, which includes both cash proceeds and retained interests. A net gain of $22 was recognized on this transaction. Significant assumptions used to estimate the fair value of the retained interests and subordinate certificates in this transaction include an 11.0% discount rate, a weighted-average prepayment rate of 14.0%, and expected credit losses of 1.0%. We receive annual servicing fees of 1.0% of unpaid note value.

We determine the fair value based on discounted cash flow models that incorporate assumptions including credit losses, prepayment rates, and discount rates. These assumptions are based on our historical experience, market trends, and anticipated performance relative to the particular assets securitized.



Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
(Dollars in millions)

Overview: Second Quarter 2004 vs. Second Quarter 2003
We had a good quarter with record revenues and new business volume. We are experiencing a continued reduction in past dues and bad debts. As a result of our process improvements and customer-focused technology, we have maintained excellent service levels to dealers and customers during a period of unprecedented increases in new business.

·
Revenues were a record $467, an increase of $22 or 5% compared with the same period last year.
·
Profit after tax was $63, down $8 or 11% from a year ago.
·
New retail financing was a record $2,587, an increase of $691 or 36% from the second quarter last year.
·
Past dues over 30 days were 2.6% of total receivables compared with 2.9% at June 30, 2003.
·
Write-offs of bad debts exceeded recoveries by $16 during the second quarter of 2004 compared to $20 during the same period last year.


Critical Accounting Policies

The preparation of financial statements, in conformity with accounting principles generally accepted in the United States of America, requires management to make estimates and assumptions that affect reported amounts. The most significant estimates include those related to our residual values for leased assets and for our allowance for credit losses. Actual results may differ from these estimates.

The residual value, which is the estimated future wholesale market value of leased equipment at the time of the expiration of the lease term, represents a careful analysis of historical wholesale market sales prices, projected forward on a level trend line without consideration for inflation or possible future pricing action. At the inception of the lease, the residual value is derived from consideration of the following critical factors: market size and demand, any known significant market/product trends, total expected hours of usage, machine configuration, application, location, model changes, quantities, and past re-marketing experience. Many impact factors are gathered in an application survey that is completed prior to quotation. The lease agreement also clearly defines applicable return conditions and remedies for non-compliance, thus ensuring the leased equi pment will be in good operating condition upon return. Model changes and updates, as well as market strength and product acceptance, are continually monitored, and residual adjustments are made in accordance with the significance of any such changes. Remarketing sales staff works closely with customers and dealers to manage the sale of lease returns and the recovery of residual exposure. During the term of the leases, residual amounts are monitored. If estimated market values significantly decline due to economic factors, obsolescence, or other adverse circumstances, the residuals are adjusted to the lower estimated values by a charge to earnings. For equipment on operating leases, the charge is recognized through depreciation expense. For finance leases, it is recognized through a reduction of finance revenue.

The allowance for credit losses is evaluated on a regular basis and adjusted based upon management's best estimate of probable losses inherent in our finance receivables. In estimating probable losses, we review accounts that are past due, non-performing, or in bankruptcy. We also review accounts that may be at risk using information available about the customer, such as financial statements, news reports, and published credit ratings. We also use general information regarding industry trends and the general economic environment. Using an estimate of current fair market value of collateral and factoring in credit enhancements, such as additional collateral and third party guarantees, we arrive at an estimated loss for specific accounts and estimate an additional amount for the remainder of the finance receivables based upon historical trends. Adverse economic condit ions or other factors that might cause deterioration of the financial health of our customers could change the timing and level of payments received and thus necessitate a change in our estimated losses.


Three Months Ended June 30, 2004 Vs. Three Months Ended June 30, 2003

 

Revenues

Wholesale and retail finance revenue for the second quarter of 2004 was $252, an increase of $12 from the same period last year. The increase was principally due to an 18% increase in the average receivable balance outstanding, partially offset by a 76 basis point decrease in the average interest rate. The annualized average interest rate on finance receivables was 5.74% for the second quarter of 2004 compared with 6.50% for the second quarter of 2003, including the annualized average interest rate on Notes receivable from Caterpillar. The tax benefits of governmental (non-federal) lease purchase contracts and tax-oriented leases are not included in these computed interest rates.
 
Operating lease revenue for the second quarter of 2004 was $176, or $16 higher than the same period last year due to the increase in equipment on operating leases that resulted from higher customer demand.

Other revenue for the second quarter of 2004 was $39, a decrease of $6 from the same period last year. The decrease was primarily due to an $11 million decrease in gain on securitized receivables, partially offset by a $3 favorable change in Gain (loss) on sale of equipment returned from lease. Other revenue items for the three months ended June 30, included:

 
  
2004
2003
   
 
 
Gain on sale of receivables
  
$
14
  
$
25
  
Fees
    
7
    
8
  
Late charge income
    
7
    
6
  
Dividend income
    
4
    
5
  
Service fee income on securitized receivables
    
3
    
3
  
Income related to retained interests in securitized receivables
    
3
    
2
  
Partnership income
    
1
    
1
  
Forward points on FX contracts
    
-
    
(2
)
Gain (loss) on sale of equipment returned from lease
    
   -
    
(3
)
   
 
 
Total other revenue
  
$
39
 
$
45
 
   
 
 



Expenses

Interest expense for the second quarter of 2004 was $121, a decrease of $2 from the same period last year. This decrease was primarily due to the reduction in the average cost of funds of 48 basis points, to 2.81% for the second quarter of 2004 from 3.29% for the second quarter of 2003, mostly offset by the impact of a 16% increase in average debt levels that was due to an increase in new finance receivables and operating leases.
 
Depreciation expense on equipment leased to others was $140, up $13 over the second quarter of 2003 due to the increase in equipment on operating leases discussed in the Revenues section above.

General, operating, and administrative expenses were $74 during the second quarter of 2004 compared to $58 the same period last year. The increase primarily resulted from increased labor costs and investment in new technology to gain global operational efficiencies, an increase in franchise tax accrual, and the absence of a litigation/insurance accrual reversal. There were 1,334 employees at June 30, 2004, an increase of 76 from June 30, 2003. General, operating, and administrative expenses (and capital expenditures) are expected to be higher throughout 2004 versus 2003, as a result of increased employment and planned investments in technology relating to the first phase of the purchase and implementation of a globally integrated operating system. The expenses related to investments in technology for the remaining quarters of 2004 are expected to be comparable to th is quarter’s expenses.

The provision for credit losses increased from $27 for the second quarter of 2003 to $32 for the second quarter of 2004. The allowance for credit losses was 1.47% of finance receivables, net of unearned income, at June 30, 2004, compared to 1.51% at June 30, 2003. The Notes receivable from Caterpillar are not included in this calculation.

The effective tax rate increased from the second quarter 2003 rate of 34.3% to 35.1% for second quarter 2004. The increase from 2003 is primarily attributable to a change in the geographic mix of profits, partially offset by our foreign subsidiaries that are subject to tax rates other than the statutory U.S. rate, as well as an increase in the state income tax accrual.


Profit

Profit for the second quarter of 2004 was $63, down $8 from the second quarter of 2003.

On a pre-tax basis, profit was down $11, principally due to higher general, operating, and administrative expenses of $16 and an $11 decrease in gain on securitized receivables, partially offset by $23 from growth in earning assets.


Assets

Total assets were $20,913 at June 30, 2004, an increase of $2,924 over June 30, 2003, primarily due to an increase in finance receivables (retail and wholesale).

During the second quarter of 2004, we financed record new retail business of $2,587, compared to $1,896 during the second quarter of 2003. The increase of $691 was primarily related to increased financing in our North America segment.


Securitized and Syndicated Assets

We also manage and service receivables that have been sold through securitization or syndication. These receivables are not on our balance sheet and are not available to pay our creditors.

Securitized receivables at June 30, were as follows:

 
  
2004
2003
   
 
 
Wholesale receivables
  
$
240
 
$
240
 
Installment sale contracts
    
1,055
    
1,051
  
Finance Leases
    
     69
    
     99
  
   
 
 
Total securitized receivables
 
$
1,364
  
$
1,390
  
   
 
 


Syndicated receivables at June 30, were as follows:

 
  
2004
2003
   
 
 
Installment sale contracts
  
$
2
 
$
-
 
Finance Leases
    
    4
    
    -
  
   
 
 
Total syndicated receivables
 
$
6
 
$
-
 
   
 
 



Allowance for Credit Losses

The following table shows activity related to the Allowance for credit losses for the three months ended June 30:

 
  
2004
2003
   
 
 
Balance at beginning of quarter
  
$
248
 
$
212
 
Provision for credit losses
    
  32
    
  27
  
Receivables written off
    
(20
)
  
(25
)
Recoveries on receivables previously written off
    
   4
    
   5
  
Adjustment related to sale of finance receivables
    
(6
)
  
(4
)
Foreign currency translation adjustment
    
(3
)
  
    6
  
   
 
 
Balance at end of the period
  
$
255
 
$
221
 
   
 
 


Bad debt write-offs, net of recoveries, were $16 during the second quarter of 2004 compared with $20 for the second quarter of 2003. We will continue to monitor the allowance for credit losses to provide for an amount we believe is adequate, after considering the value of any collateral, to cover uncollectible receivables.


Past Due Receivables

Finance receivables plus rents receivable for operating leases (included in Other assets) that were past due over 30 days were 2.6% of these receivables at June 30, 2004, compared to 2.9% at June 30, 2003. There was a decrease due to the growth in finance receivables and rents receivable of $3,485, primarily in the Europe and North America segments, as well as a $58 decrease in past due receivables in the North America segment. This was partially offset by a $125 increase in past due receivables in the Marine Services division of our Diversified Services segment.



Six Months Ended June 30, 2004 Vs. Six Months Ended June 30, 2003


Revenues

Wholesale and retail finance revenue for the first six months of 2004 was $501, an increase of $27 from the same period last year. The increase was principally due to a 17% increase in the average receivable balance outstanding, partially offset by a 63 basis point decrease in the average interest rate. The annualized average interest rate on finance receivables was 5.85% for the first six months of 2004 compared with 6.48% for the first six months of 2003, including the annualized average interest rate on Notes receivable from Caterpillar. The tax benefits of governmental (non-federal) lease purchase contracts and tax-oriented leases are not included in these computed interest rates.

Operating lease revenue for the first six months of 2004 was $354, or $39 higher than the same period last year due to the increase in equipment on operating leases that resulted from higher customer demand.

Other revenue for the first six months of 2004 was $69, an increase of $10 from the same period last year. The increase was primarily due to a $12 favorable change in Gain (loss) on sale of equipment returned from lease (mostly due to an improving market for used equipment and enhanced distribution channels), a $3 favorable change in Forward points on FX contracts, and a $3 increase in Late charge income. The increases were partially offset by a $10 decrease in Gain on sale of receivables. Other revenue items for the six months ended June 30, included:

 
  
2004
2003
   
 
 
Gain on sale of receivables
  
$
16
 
$
26
 
Fees
    
13
    
15
  
Late charge income
    
13
    
10
  
Dividend income
    
 8
    
 9
  
Gain (loss) on sale of equipment returned from lease
    
 6
    
(6
)
Service fee income on securitized receivables
    
 5
    
 5
  
Income related to retained interests in securitized receivables
    
 5
    
 2
  
Partnership income
   
 1
    
 2
  
Forward points on FX contracts
    
(1
)
  
(4
)
Exchange loss
    
 -
    
(1
)
Miscellaneous other revenue, net
    
   3
    
   1
  
   
 
 
Total other revenue
  
$
69
 
$
59
 
   
 
 



Expenses

Interest expense for the first six months of 2004 was $242, a decrease of $6 from the same period last year. This decrease was primarily due to the reduction in the average cost of funds of 51 basis points, to 2.84% for the first six months of 2004 from 3.35% for the first six months of 2003, mostly offset by the impact of a 15% increase in average debt levels that was due to an increase in new finance receivables and operating leases.

Depreciation expense on equipment leased to others was $282, up $34 over the first six months of 2003 due to the increase in operating leases discussed in the Revenues section above.

General, operating, and administrative expenses increased to $139 during the first six months of 2004 compared to $112 the same period last year. This increase primarily resulted from increased labor costs and investment in new technology to gain global operational efficiencies, an increase in franchise tax accrual, and the absence of a litigation/insurance accrual reversal.

The provision for credit losses increased from $50 for the first six months of 2003 to $52 for the first six months of 2004.

The effective tax rate decreased from the first six months 2003 rate of 34.4% to 33.8% for first six months 2004. The decrease from 2003 is primarily attributable to a change in the geographic mix of profits, partially offset by our foreign subsidiaries that are subject to tax rates other than the statutory U.S. rate.


Profit

Profit for the first six months of 2004 was $135, up $13 from the first six months of 2003.

On a pre-tax basis, profit was up $18, principally due to $43 from growth in earning assets and $12 from the favorable change in Gain (loss) on sale of equipment returned from lease, partially offset by higher general, operating, and administrative expenses of $27 and a $10 decrease in Gain on sale of receivables.


Assets

During the first six months of 2004, we financed record new retail business of $4,557, compared to $3,670 during the first six months of 2003. The increase of $887 was primarily related to increased financing in our North America segment.


Allowance For Credit Losses

The following table shows activity related to the Allowance for credit losses for the six months ended June 30:

 
  
    2004    
    2003    
   
 
 
Balance at beginning of year
  
$
241
 
$
207
 
Provision for credit losses
    
52
    
50
  
Receivables written off
    
(35
)
  
(52
)
Recoveries on receivables previously written off
    
8
    
10
  
Adjustment related to sale of finance receivables
    
(6
)
  
(4
)
Foreign currency translation adjustment
    
(5
)
  
   10
  
   
 
 
Balance at end of the period
  
$
255
 
$
221
 
   
 
 



Capital Resources And Liquidity

Operations for the first six months of 2004 were funded with a combination of borrowings, proceeds from sales of receivables, and retained earnings. We do not generate material funding through structured finance transactions.

Through the first six months of 2004, we generated $536 of capital resources from the securitization of trade receivables and $659 from the securitization of finance receivables. The capital resources derived from the securitization of the finance receivables include both the cash proceeds and the retained interests. During the second quarter of 2004, we began selling retail finance leases and installment sale contracts through syndications where the investors have no recourse to us. We recognized $6 of proceeds from the sale of such contracts.

Total outstanding borrowings Total borrowings outstanding at June 30, 2004 were $17,766, an increase of $986 over December 31, 2003 due to financing a higher amount of assets. Outstanding borrowings at June 30, 2004 consisted of:


Revolving credit lines We participate in two global credit facilities with a syndicate of banks totaling $4,675 available in the aggregate to both Caterpillar and Cat Financial to support commercial paper programs. Based on management's allocation decision, which can be revised at any time, the portion of the facility available to Cat Financial at June 30, 2004 was $4,075. The five-year facility of $2,125 expires in September 2006. The 364-day facility of $2,550 expires in September 2004. The facility expiring in September 2004 has a provision that allows Caterpillar or Cat Financial to obtain a one-year loan in September 2004 that would mature in September 2005.

In addition to the syndicated global credit facilities, we also have an A$50 (USD equivalent = $34) credit facility with one bank to support our Australian subsidiary's commercial paper program.

At June 30, 2004, there were no borrowings under these lines, and we were in compliance with all debt covenants.

Short-term credit lines from banks These credit lines total $869 and will be eligible for renewal at various future dates or have no specified expiration date. They are used for local bank borrowings of subsidiaries. At June 30, 2004, we had $238 outstanding against these credit lines compared to $183 at December 31, 2003.

Variable amount lending agreements with Caterpillar Under these agreements, we may borrow up to $1,619 from Caterpillar, and Caterpillar may borrow up to $1,175 from us. The agreements are in effect for indefinite periods of time and may be changed or terminated by either party with 30 days notice. We had notes payable of $265 and notes receivable of $412 outstanding at June 30, 2004, compared to notes payable of $475 and notes receivable of $378 at December 31, 2003.

Off-balance sheet arrangements Please refer to Note D of Notes to Consolidated Financial Statements for information on our guarantee contingent liabilities. Also, we lease all our facilities rather than acquire them, where the acquisition would require us to recognize a liability for the financing.

Cash flows Net cash provided by operating activities was $414, an increase of $169 from the first six months of 2003, primarily due to a decrease in cash used for various receivables from customers and others of $64 and for accrued expenses of $62. Net cash used for investing activities increased from $368 in first half of 2003 to $1,620 in first half of 2004 primarily due to greater additions, net of collections, related to finance receivables of $1,253. Net cash provided by financing activities was $1,218, an increase of $1,090 from first six months of 2003, primarily due to an increase in short-term borrowings of $528 and an increase in proceeds from long-term debt of $640.< /DIV>




Item 4. Controls and Procedures

An evaluation was performed under the supervision and with the participation of the Company's management, including the Principal Executive Officer (PEO) and Principal Financial Officer (PFO), of the effectiveness of the design and operation of the Company's disclosure controls and procedures as of the end of the period covered by this quarterly report. Based on that evaluation, the Company's management, including the PEO and PFO, concluded that the Company's disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized, and reported within the time periods specified in Securities and Exchange Commission rules and forms. During the last fiscal quarter, there has been no significant change in the Compan y's internal controls over financial reporting that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. Although the design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote, management's evaluation provided reasonable assurance that these controls will be effective.






PART II. OTHER INFORMATION


 

Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits

Exhibit No.
Description
 
 
Certifications of James S. Beard, President, Director, and Principal Executive Officer of Caterpillar Financial Services Corporation, and Edward J. Scott, Executive Vice President and Principal Financial Officer of Caterpillar Financial Services Corporation, as required pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of James S. Beard, President, Director, and Principal Executive Officer of Caterpillar Financial Services Corporation, and Edward J. Scott, Executive Vice President and Principal Financial Officer of Caterpillar Financial Services Corporation, as required pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.


(b) Reports on Form 8-K

During the quarter ended June 30, 2004, a report on Form 8-K was furnished pursuant to Item 12 on April 22, 2004. Reports were filed pursuant to Items 5 and 7 on June 14, 2004 and pursuant to Item 7 on June 21, 2004. Following the quarter, a report on Form 8-K was furnished on July 22, 2004 pursuant to Item 12. Financial statements were filed as part of the June 14, 2004 report only.








Signatures

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.



Caterpillar Financial Services Corporation
(Registrant)



Date: August 9, 2004
By: /s/ Steven R. Elsesser
 
Steven R. Elsesser, Controller and
Principal Accounting Officer



Date: August 9, 2004
By: /s/ James S. Beard
 
James S. Beard, President, Director, and Principal Executive Officer