Phillip M. Perry (Nov 08)
The frightening news never seems to end: Home foreclosures. Frozen credit. Crippled banks. Sinking stocks. What do these things mean to your operations? Let's see what the experts say.
Economy Enters Recession
First, the big picture: "As we enter 2009, the erosion of the housing market is the number-one problem facing the economy," says Sophia Koropeckyj, managing director of industry economics at Moody's Economy.com, a research firm based in West Chester, Pennsylvania. "As the economy continues to slow, the risk of more foreclosures is rising." A bottoming out of housing prices is not expected to occur until the end of 2009. Total decline from the pricing peak that was experienced in 2007 is expected to be 30 percent.
The housing market erosion, in turn, has caused the current severe problems in the financial sector. "We are now looking at an economy that is going into a recession," says Koropeckyj. "We anticipate very weak growth through 2009 before the economy gets back on track in 2010."
The numbers tell the tale. The most important figure is gross domestic product (GDP), the yearly total of all goods and services produced in the United States. GDP growth for 2009 is expected to be only 1.0 percent, according to Moody's Economy.com. That's a considerable softening from the 1.6 percent increase anticipated for 2008 when final numbers are tallied. To put these numbers in context, the GDP for an economy in average growth mode is 2.5 percent.
No wonder business people are bracing for the worst. "For many companies, the financial meltdown feels like the business equivalent of 9/11," says Walter Simson, principal of Ventor LLC, a New York-based management consultancy. "People are expecting big shocks and bad news." The bottom line will be under siege at most businesses. Corporate profits are expected to decline some 2.7 percent in 2009, according to Moody's Economy.com. That comes on the heels of a 6.3 percent drop expected when 2008 numbers are tallied. No rebound in profits is expected until 2010.
To position yourself for a successful ride through these troubled waters, start by understanding the three big trends that you will need to grapple with over the next 12 months - a decline in consumer spending, a freezing of business credit, and a rise in the cost of goods sold.
Consumers Pull Back
Shed a tear for the consumer borrowing and spending that has driven the economy in recent times. "Five years ago, consumer spending represented 65 percent of our economy," says Simson. "Today that figure is 70 percent. The reason for the increase has been the availability of excess credit. Now we are seeing that availability being reduced. As a result, we will see a pullback of consumer spending on discretionary purchases."
Rising unemployment will only add to consumer angst. "We are looking at continuing job losses into the summer of 2009," says Scott Hoyt, senior director of consumer economics at Moody's Economy.com. "Job gains in the second half of 2009, given a growing labor force, will be insufficient to keep the unemployment rate from rising." The unemployment rate is expected to grow to 7.07 percent by the end of 2009 from the current level of 6.5 percent (October 2008 figures).
Job losses, of course, are clearly a negative when it comes to household income. Moody's Economy.com predicts that total wages in the country will rise by 2.86 percent in 2009. That moderation from the 3.59 percent increase of 2008 should put further downward pressure on sales - especially at retailers. "Consumers who don't have jobs or who are concerned about losing them will be cautious shoppers," says Hoyt. At the same time, the rise in unemployment is not expected to be great enough to cause a decline in labor costs for employers.
When incomes are under pressure, consumers tend to find alternative sources for pocket cash. Unfortunately, these sources are also drying up. "Obviously there are no capital gains around anymore," says Hoyt. "And there is no more appreciation in home equity, which people have borrowed against in the past." Indeed, borrowing any kind of money is more difficult now, even for consumers who have always paid their bills on time. Even credit card companies are tightening up. "Given current trends in the economy, it's hard to see where consumers will get money to spend," says Hoyt.
All of these factors are coming together to dampen enthusiasm. "Consumer confidence is clearly very weak right now," says Hoyt. "We had been hoping for some improvement because of lower energy prices, but with the recent events in the financial markets, we are no longer convinced that confidence will improve until well into 2009."
Shoppers are expected to cut back in particular on high-ticket goods. "There is going to be a slowdown in luxury items, as well as in expensive things that people will opt to repair rather than to replace," says Marilyn J. Holt, a Seattle-based management consultant. Holt points to her local hardware store which recently removed a line of expensive toilets from an end-cap display. The substitute? Toilet repair kits that cost $19.95.
Businesses Scale Down
Your own business will probably be confronted with the same credit squeeze your customers experience. "Practically everything we sell uses financed money," says Don Schackne, president of Personnel Management and Administration Associates, a consulting firm in Delaware, Ohio. "Our whole economy revolves around borrow, pay back, borrow, pay back. But now the banks are saying, `We don't have the money or if we do we are going to be real careful.'"
As we enter 2009, it's clear that the main focus of the nation is on addressing and alleviating this credit squeeze. "The lack of credit availability and its exorbitant cost when available trumps every other business problem," says Ken Goldstein, an economist at The Conference Board. Frozen credit can have serious impact on any company's operations. "We're feeling the credit crunch," says Michael Smeltzer, director of the Manufacturers Association of South Central Pennsylvania, a trade group whose members employ some 250,000 workers. "One of our members producing components for capital goods laid off 25 percent of its workers last week." The reason was directly attributable to the credit freeze that is prevalent around the country.
Given the tight credit environment, you will most likely take a second look at expansion plans. Capital investment is expected to decline by some 0.13 percent in 2009. That's a dramatic pullback from the 3.78 percent expected increase of 2008. The credit freeze may even affect your ongoing operations if you become a target of your bank's belt tightening. "I would expect more banks will be calling clients and saying, `We want to make some changes to our relationship,'" says Simson. "That will cause some pain."
Are you in the practice of using one or more credit cards to fund your inventory and other needs? Be prepared: Your providers may either lower your credit limit or start beefing up their bills. "Many of the financial companies suffering huge losses are big backers of credit cards," says Holt. "So they will be looking closely at making more money by upping the costs of their cards to both merchants and users." What to do? "Keep an eye on your cost of accepting cards," he advises. "Start to look around for better deals."
Businesses of all sizes will be hit by an
increase in the cost of goods sold, driven by higher energy prices.
Pricier fuel translates into higher costs for production and for
transportation to end users, putting pressure on manufacturers, service
businesses, and retailers alike. And on the buy side, consumers are
shelling out cash for energy that they would otherwise spend on goods
and services. "Home heating costs will be significantly higher this
winter than they were last year," says Hoyt.
While the cost of
oil has been trending down in recent months, the decline is not steep
enough to make up for the sharp increases of 2008. "Even if prices go
down further they are not expected to get to where they were earlier in
the decade," says Koropeckyj. The reason is growth in demand from China
and India. "There is more demand in general and less ability to drill
for more oil easily at a low cost," she says. The price for a barrel of
oil is expected to be $111 by the end of 2008 and $93 by the end of
High energy costs can affect profits. "The energy issue is
becoming a bigger and bigger issue in our profit and loss statements
and I don't know where the end is," says Smeltzer. "I think what will
happen is, manufacturers and others will begin to migrate more
frequently in search of lower energy costs just as they have done in
the past for lower labor costs."
Weathering the Storm
can you stay afloat in rough seas? Keep looking for ideas in technology
and system improvements to get more done with fewer labor hours. This
has been a winning tactic in recent times. Productivity increased by
some 3.03 percent in 2008, according to Moody's Economy.com. That's an
improvement over the 1.41 percent of 2007. And there's more good news
ahead: Productivity growth is expected to increase by some 2.54 percent
Want another profit strategy? Look to foreign markets.
Moody's Economy.com expects exports to increase by some 6.9 percent in
2009. While that represents a moderation over the 8.78 percent increase
clocked in 2008, there is still room here for new players. "There is
great opportunity in export-related capital goods," says Simson. "If
you make a widget that Europeans can buy, I would get distribution in
Europe as quickly as possible. This is a wonderful time for exports. It
will be the only game in town for the next three years."
good news for exporters is that the dollar, despite some recent
strengthening, is expected to remain weak against the Euro in 2009. By
the end of that year, Moody's Economy.com predicts, it will take $1.39
to buy what a single euro can. That represents only a minor
strengthening over the $1.52 clocked in 2008.
As you enter the
new year, avoid panic and remember that you can't cut your way to
profitability - you also have to create new initiatives that boost
sales by offering customers real value. But plan those moves carefully,
keeping one eye on the risky environment. "Be sure of your projects
before you invest in them," says Simson. "Take a second look at
everything. If you don't keep the shower curtain inside the tub, you
may end up with water all over the floor."