Is Jim Chanos Right to Short Caterpillar Inc. (CAT)?

When a world-famous investor known for successfully short-selling stocks takes aim at a Dow Jones Industrial Average component, the market takes notice. That’s exactly what happened when Jim Chanos, founder of Kynikos Associates, announced he was short heavy machinery maker Caterpillar Inc. (NYSE:CAT).

Chanos must be smiling in the wake of Caterpillar Inc. (NYSE:CAT)’s results, which were overwhelmingly disappointing. As a result, should investors follow the noted short-seller and rush for the exits? Or does the blue-chip stock represent a compelling value?

In the wrong business at the wrong time?

That’s what Chanos had to say about Caterpillar Inc. (NYSE:CAT) when he first announced his short position. In his estimation, Caterpillar is too heavily focused on the mining industry and booming construction in China, which he believes are both exhibiting demand far above historical norms.

Investors need to give credit where credit is due, and at least for one quarter, Chanos was right on the money. In all, Caterpillar reported second-quarter profit of $1.45 per share, down from $2.54 the year prior. That represents a whopping 43% decline in profits. Not surprisingly, Caterpillar’s EPS badly missed analyst estimates.

Revenues weren’t anything to brag about, either: Caterpillar Inc. (NYSE:CAT)’s sales dropped 16% year over year, which also missed expectations.

Broad industry problems

Caterpillar Inc. (NYSE:CAT) isn’t the only heavy machinery stock facing hard times. Industry peer Deere & Company (NYSE:DE) has seen its stock drop from $95 per share earlier this year to its current level of $82 per share, despite a record-setting second quarter.

Worldwide net sales increased 9% during both the second quarter and over the first six months of the year, as opposed to 2012.

Net income clocked in at $2.76 per share, representing 5.7% quarterly growth year over year. Earnings per share over the first half of the year were $4.41, growing 13% from the same period the year prior.

Going forward, Deere & Company (NYSE:DE)’s outlook is as cloudy as Caterpillar Inc. (NYSE:CAT)’s, which may explain its poor share price performance. Deere & Company (NYSE:DE) advised investors that the slow global economic recovery, combined with inclement weather, will take a toll on the company’s full year results. Deere said it expected worldwide sales of construction equipment to fall 5% this fiscal year.

Smaller competitor Joy Global Inc. (NYSE:JOY) has had its fair share of troubles. The $5 billion company by market capitalization reported its first-half sales and diluted earnings per share dropped 6% and nearly 10%, respectively, year over year.

Joy Global Inc. (NYSE:JOY) is seeing the same weakness in mining activity as its competitors, which is having a pronounced effect on its outlook. Management isn’t painting a bright picture for itself this year. The company recently stated that its capital expenditure analysis for mining equipment customers is down 40% to 50%. In addition, the prospect list of major projects that Joy Global Inc. (NYSE:JOY) tracks has declined by about 30% from 2012 levels.