By JAMES R. HAGERTY

Caterpillar Inc. has slipped in a crucial part of the Chinese construction market.

The company, which has made sales of construction machinery in China a top priority, has lost market share to local rivals there over the past five years in one of the most important product categories, hydraulic excavators.

Strong demand from China and other emerging markets has buoyed U.S.-based Caterpillar and rivals such as Komatsu Ltd. of Japan over the past few years amid weak sales in North America, Europe and Japan.

But they and most other foreign manufacturers haven't increased production capacity in China fast enough to keep up with demand for excavators, the fastest-growing part of the construction market there.

That has allowed Sany Heavy Industry Co. and a host of smaller Chinese rivals to increase their market shares, according to previously unpublished data from Off-Highway Research, a London-based research and consulting firm. Sany and some of those other Chinese companies now are seeking toeholds in the U.S. and European markets.

A Caterpillar spokesman said the company, due to report second-quarter earnings Friday, doesn't comment on market shares but said it sells a wide variety of construction and mining equipment in China, not just excavators.

Chinese companies are gaining market share at home partly because stock offerings have given them plenty of cash to invest in new plants. They also get tax breaks and other incentives from local Chinese governments and can afford to take a long-term view of the market rather than focusing on short-term profits, said David Phillips, managing director of Off-Highway, which sells its research to manufacturers and other interested parties.

Caterpillar, which has 12 manufacturing plants and 8,500 employees in China, is rushing to expand its excavator production capacity there. Last year Caterpillar relocated Richard Lavin, president of the company's global construction-equipment business, from the headquarters in Peoria, Ill., to Hong Kong, so he can keep a closer eye on the Chinese market.

"We have got to win in China," Mr. Lavin said at an industry trade show in Las Vegas in March. The market is so huge that, over the long term, "if we don't lead in China we're not going to be the global industry leader," he said, adding that excavators were becoming increasingly important in China.

China's market for construction equipment has cooled in recent months as higher interest rates, imposed by the Chinese authorities to fight inflation, slow construction.

Even so, China remains the world's largest market for excavators—digging machines with articulated hydraulic arms that are used in the construction of buildings and infrastructure such as ports and highways.

Standard hydraulic excavators, weighing 6.6 short tons or more and propelled by tracks rather than wheels, accounted for nearly $20 billion of sales industrywide in China last year, Mr. Phillips said. The data exclude so-called mini excavatorstypically used on small sites. Of the 220,000 standard excavators sold world-wide last year, he said, about 65% went to buyers in China.

Caterpillar's sales of standard excavators in China quadrupled to 9,920 units in 2010 from 2,470 units in 2005, according to Off-Highway. Because the overall market grew much faster, though, Caterpillar's market share fell to 7% last year from 11% in 2005. Caterpillar doesn't break out sales of individual products.

It is unclear how Caterpillar has done in that product category so far this year. Preliminary data from Off-Highway for the first half show the company's market share in large excavators was little changed from 2010.

But analysts at Morgan Stanley said in a report last week that Caterpillar's excavator sales in China rose 52% in the first half from a year earlier, falling short of Sany's 97% rise but exceeding overall market growth of 29%.

Morgan Stanley's data aren't directly comparable with those of Off-Highway. Morgan Stanley doesn't include imports or all manufacturers, and the data cover all types of excavators, large and small.

Komatsu remained the biggest seller of standard excavators in China last year but its share of units sold there slipped to 15% from 18% in 2006 through 2008, according to Off-Highway Research. A spokeswoman for Komatsu said the Off-Highway data for its sales of such excavators in 2010 were correct.

Sany's share of the standard-excavator market soared to 9% last year from 2% in 2005. A Sany spokesman declined to comment. Nine other Chinese makers have picked up 1% to 3% of the market apiece.

As part of an ambitious international expansion, Sany plans to open a $60 million assembly plant and office building in Peachtree City, Ga., next month. The initial products to be assembled at that plant will be trucks mounted with concrete-pumping equipment.

Caterpillar is "behind where they ought to be, but I think they're getting themselves on the right track," said Robert McCarthy, an analyst at Robert W. Baird & Co. in Chicago. He expects the company to do well in such areas as mining and rail equipment in China.

During an interview last month, Caterpillar's chief executive, Doug Oberhelman, acknowledged the long-term threat from Chinese competitors: "There are all these companies [in China], and there's consolidation happening, and you just know that one or two will emerge as a serious rival."

—Jie Yang 
contributed to this article.

I m just happy that Sany is not able to build our Excavators, they are just to big

Casse, didnt CAT take over Bucyrus?

Yes they did, but it has no real impact on our facility. Only thing that changed is where to report safety issues