Economic progress is slowly ebbing along, more sideways than upwards. The stock market rally has given us a sense of hope that things are turning around, yet economic growth has been relatively flat for some time and employment remains below the levels prior to the Great Recession. It’s amazing how little things have changed in recent years. The article below was written in the fall of 2011. You’ll recognize the parallels to our situation today. The remedies outlined at the end of the article are still highly relevant in today’s economic environment.
Muddling through – Mixed signals in the economy make decision making difficult for manufacturers.
It’s clear as mud.
Our recent newsletters dealt with tips on managing through uncertainty, how to improve your business through better management reporting and the state of our local bank market.
We are still driving under the yellow caution flag. There is so much uncertainty in the global economy few businesses are prepared to jump in; for some sticking a toe in the water is as deep as they will go. In early August we averted a debt crisis but upon reflection it appears we simply deferred the problem through the 2012 election season. News out of Europe indicates without broad Euro market support Greece will fail and start a domino effect that won’t stop at the Atlantic. Brazil and China have become so worried about a European meltdown they have gone out of their way to pledge their support for investing in Euro bonds. The analogy to the Lehman Brothers failure is highlighted in the press daily. Inter-bank lending rates are going up. Confidence that a euro crisis can be averted is going down. At Jackson Hole the Fed said it was out of weapons to stimulate the economy but started a desperate attempt to lower the tail end of the yield curve. Rates can’t get much lower. A major rating agency knocks US credit worthiness down a notch while the Fed is trying to lower rates and the dollar appreciates 6% against major currencies since the downgrade. How do you make sense out of that? We can only print so much money before our currency becomes worthless. Our government can only issue so much debt before the American taxpayer is crushed under its burden.
How does this all play out for our businesses in the Northwest?
Sales: Manufacturers, by and large, have plenty of production capacity available. Unfortunately, excess capacity frequently drives down margins. On the positive side, they have an untapped resource quickly available at very little cost to bring into production. A key opportunity for many manufacturers is to find ways to utilize that capacity.
The least expensive first step is to tap into your current customer and product base. Once the potential in these relationships has been captured new products, new customers and new markets are possible solutions to fill your capacity.
If you think of yourself as a job shop taking somebody else’s orders, pray you have chosen growth companies in wide margin industries. Most companies are better off doing more of what they do well. The challenge is they frequently don’t know what they really do well. Understanding your core capabilities along with the value you deliver to your customers will allow you to expand and leverage them with other partners – vendors and even competitors in addition to customers – will help you grow your business in this tough environment.
For example, a company I work with had excess capacity in their production facility. They became aware of a company outside the area looking to build a plant in their market, which is running well under capacity today. This would have a negative margin impact on the local industry. Instead of allowing that to happen they approached the company and worked out an arrangement to build, warehouse and distribute their parts, saving the foreign company the capital investment while preventing capacity expansion in an already overbuilt market.
Costs: Normally in a recession, we expect prices to deflate and cost pressure to subside. On the raw material side, and particularly for commodity-based materials, we continue to see high relative prices. Over the past decade, the average annual Producer Price Index has averaged annual increases of just over 3% while commodities as measured by price changes in oil, steel and corn have increased over 12% annually. To stay profitable within that gap manufacturers have become much more efficient. Lean manufacturing programs, automation and preferred supplier relationships have helped to offset some of the price increases in raw material prices. Unless you make the bet, commodity prices are going to retreat and these areas will have to remain in your bull’s eye to compete. Forcing customers to pay higher prices without additional benefits is a no win situation.
Over 70% of local manufacturing CFOs surveyed during the past weeks are not confident about keeping raw material costs in check over the next 12 months. With raw materials making up 28% or more of 85% of the surveyed companies this is a big deal.
What else can you do on the raw materials side? Explore purchasing consortiums to increase your buying advantage and create efficiencies for suppliers. Improve your raw materials forecast to give you the confidence of ordering larger price break quantities, guarantee minimums or help your supplier serve you more efficiently. Be sure to have a program in place to help you identify where you have raw material price risks on orders or quotes outstanding. The CFO Top Concerns survey results will identify where your peers are going to spend their time to reduce costs and waste in their businesses.