U.S. manufacturers face another tough year in 2010 after spending much of 2009 shrinking their businesses to cope with their worst slump in decades.

But most of these companies seem optimistic about their prospects this year, despite signs that the fragile economic recovery may be faltering.

They believe their collective cost-cutting efforts over the past year, when Caterpillar Inc alone eliminated nearly 25,000 jobs worldwide, have dramatically raised the industry's potential profitability if underlying demand rebounds even modestly.

When Harley-Davidson Inc reported a bigger-than-expected quarterly loss last week and warned of tough times in 2010, its executives said the motorcycle maker had focused its efforts on cutting back operations.

We're taking all the right actions now to make sure we're sized for lower volumes, Chief Financial Officer John Olin told Reuters. We can be very profitable at lower volumes because we have reduced our break-even point quite significantly.

Indeed, producers as diverse as Caterpillar, Deere & Co , Winnebago Industries Inc and Brunswick Corp believe a sharp drop in retail inventories over the past year could translate into a pickup in orders and profits in 2010 -- even without an immediate rebound in end-customer demand -- if the independent dealers they rely on to sell their products begin to restock their showrooms.


First, of course, U.S. manufacturers need to close the books on 2009 -- a process that has been filled with surprises.

Despite Harley's surprisingly steep loss, other companies' results have been more encouraging. General Electric Co , by far the largest U.S. conglomerate, as well as Eaton Corp and Parker-Hannifin Corp

, beat Wall Street expectations and provided cautiously upbeat outlooks.

Early signs of a recovery are coming from multiple regions and a range of markets, Parker-Hannifin CEO Don Washkewicz told investors. He forecast a steady pace of recovery for the United States and Latin America, while characterizing Asia as extremely strong.


This week brings a slew of results from sector heavyweights, including Caterpillar, United Technologies Corp , Illinois Tool Works Inc and Rockwell Automation Inc on Wednesday; 3M Co , Textron Inc , Brunswick, Danaher Corp , Kennametal Inc Oshkosh Corp and Tyco International on Thursday; and Honeywell International Inc and Paccar Inc

on Friday.

There's potential for a lot of noise in the numbers, Cedar Hill Associates analyst John Kearney said, as the companies continue to account for one-time costs associated with layoffs, plant closures and other restructuring actions.

Even so, there are signs that several industrial names may surprise Wall Street with higher-than-expected earnings.

Some of the more accurate analysts, as measured by Thomson Reuters StarMine, look for Tyco to beat the average earnings forecast by 14.1 percent and Caterpillar to top it by 8.1 percent. They also look for Textron to beat estimates by 6.6 percent, ITW by 6.3 percent, Oshkosh by 4.6 percent and Danaher by 3.8 percent.

Positive surprises could lift the shares, as they did with GE and Eaton, although a cautious forecast could extinguish any exuberance over a quarterly beat.


The big uncertainty hanging over the sector is what future growth will look like if credit markets remain constrained and if over-leveraged consumers focus on paying down the debt they ran up rather than resuming their profligate ways.

Europe remains a point of worry, especially Spain, Italy and the emerging markets in the former Soviet Union.

Investors are also keeping a sharp eye on the commercial real-estate market, which seems to be undergoing a slow-motion implosion, for its possible impact on makers of construction equipment, like Caterpillar, Terex Corp and CNH Global NV , as well as on building controls companies.

Given all the uncertainties, some analysts believe that expectations for the sector are too high.

We see risks from continued weakness in key end markets, given a customer base that continues to feel the impact of the credit crunch, said UBS analyst Henry Kirn. We believe the pace of recovery will be less robust than what is currently built into consensus.

Sector stock prices have run up over the last six months, with the Standard & Poor's capital goods industry index <.GSPIC> racking up a gain of almost 24 percent, double the rise of the broader S&P 500 <.SPX>. That could make the shares vulnerable to a sharp correction if fundamentals go south or if any outlooks fall short of hopes.

(Reporting by James B. Kelleher in Chicago and Scott Malone in Boston; Editing by Lisa Von Ahn)