Industry Crib Sheet: Industrial Production Bounces Back in May

June 16, 2014

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U.S. industrial production rebounded in May with a 0.6 percent expansion, the latest encouraging signal that manufacturing and the American economy are moving toward a stronger second quarter after the nation's GDP shrunk 0.1 percent for the first three months of the year. Manufacturing and mining output drove the growth, which was offset by a drop in utilities output.

According to the latest report by the Federal Reserve released this morning, the nation's industrial output decline in April was also milder than initially reported, falling 0.3 percent rather than the earlier 0.6 percent estimate. May's output also beat economists' expectations of 0.3 to 0.5 percent growth.

The manufacturing sector, after shrinking 0.1 percent in April, roared back last month with 0.6 percent growth, led by output of business equipment and construction materials. The sector has seesawed through the first five months of the year, according to Fed data, but economists are expecting manufacturing to solidify based on stronger demand for consumer goods (especially automobiles), healthy business spending, and a stable job market.

"With the harsh winter behind us, many recent indicators suggest that a rebound in spending and production is already under way, putting the overall economy on track for solid growth in the current quarter," Fed Chairwoman Janet Yellen said last month. Economists are forecasting an annualized 3 percent growth in GDP for the second quarter.

In May, consumer goods production grew slightly by 0.1 percent, with growth in durable goods output offset by nondurables nearly across the board except for plastics and rubber and petroleum and coal. Production of cars and vehicle parts surged 1.5 percent after a 0.1 percent contraction the previous month. Other consumer goods such as appliances, furniture, and home electronics saw gains but slower ones than in April.

Output in many business goods categories bounced back last month. Machinery production roared back with a 1.1 percent expansion following a 0.5 percent drop in April. Computer and electronic products rose 0.7 percent after contracting 0.2 percent the prior month, as did aerospace and transportation equipment, rebounding from -0.4 percent to 0.6 percent. The pace of fabricated metal products accelerated from 0.2 to 0.7 percent growth.

The slack across U.S. factories is also tightening, as manufacturing capacity utilization rose by 0.3 points to 77 percent, the highest level since March 2008. Manufacturing production is up 3.6 percent year-over-year, and capacity utilization is up 2.2 percent over the same period. Total industrial production is up 4.3 percent year-over-year.

Metalworking Machinery Demand Falls Back  

U.S. demand for metalworking machinery retreated in April after a blockbuster March, as orders for machine tools fell by 20.4 percent to about $392 million for the month. Meanwhile, metal-cutting tool consumption stayed buoyant, increasing 2.1 percent in April to $175 million.

Machinery investments according to April's United States Manufacturing Technology Orders (USMTO) report produced by the Association For Manufacturing Technology (AMT) were off the previous month's pace by more than $100 million, although March's orders total was the best month since September 2012. Nevertheless, April orders were up 9.8 percent year-over-year, and the year-to-date total for metalworking machinery purchases, at approximately $1.6 billion, is 3 percent ahead of 2013's pace.

"The manufacturing technology market is up... thanks to March and April orders picking up the slack from the January and February weather-induced slowdown," said AMT President Doug Woods. "Indicators such as the Purchasing Managers' Index (by the Institute for Supply Management), which surged forward in May and the optimism expressed by Oxford Economics in their spring update on [the metalworking machinery] market suggest we are on track for a strong 2014."

Other indicators also suggest that metalworking manufacturers will be active in the machinery market, in order to raise efficiency and production capacity to meet growing parts demand. Automobile demand is accelerating, as several car makers reported their best monthly sales in a long time, if not ever, and orders for factory goods have continued to make steady gains. The average age of capital equipment is over 20 years, and the AMT-produced International Manufacturing Technology Show (IMTS 2014) will be held in September.

April cutting tool purchases were $4 million more than the previous month, according to the Cutting Tool Market Report compiled by AMT and the United States Cutting Tool Institute (USCTI). Because cutting tools are replaced relatively frequently and have much shorter lead times than machine tools and other capital equipment, their consumption is a more direct indicator of current manufacturing activity and output.

"This is the second consecutive month-over-month increase, with three months of the last four netting positive results over the fourth quarter of 2013," said Tom Haag, president of USCTI. He expects growth to continue to be slow but positive in the second half of 2014.

Small Businesses Remain Highly Positive of Outlook

Optimism among small business owners reached another post-recession high in May, but positive sentiments haven't come from moving the needle on hard business indicators like sales and price increases.

The latest Small Business Optimism Index rose 1.4 points to 96.6, the highest reading since September 2007, and May's increase represented the third straight month of improvement in small business sentiment.

The National Federation of Independent Business' (NFIB) chief economist, Bill Dunkelberg, however, was quick to note that four index components most closely related to GDP and employment growth -- job openings, job creation plans, inventory, and capital spending plans -- collectively fell 1 point and that the entire gain in optimism was driven by "soft components" such as expectations about sales and business conditions.

Indeed, in May, small businesses continued to fight inventory levels. More businesses than not did not see their current inventory stocks as being "too low," and despite a "solid reading" for expected sales, which rose 5 points to a net 15 percent of owners, the number of owners planning to add inventory stocks was only net 1 percent.

Job creation plans fared better, rising 2 points to a net 10 percent of business owners, which is near "normal" levels for a growing economy, according to NFIB. Small businesses have increased payrolls for eight straight months -- the best streak since 2006 -- and the 0.11 average workers per firm that they added in May was much higher than April's 0.07 average. The number of small businesses with job vacancies went unchanged at a net 24 percent.

The number of business owners planning to make capital outlays in the next three to six months fell 1 point to 24 percent in May, offsetting April's 1-point uptick. Slightly more than half of businesses (55 percent) made capital investments in May, down 2 points and typical of readings in recent months, which prompted NFIB to remark that "owners can't seem to boost spending out of 'maintenance mode.'"

In May, the number of small businesses that reported higher nominal sales in the past three months inched forward by 1 point to a net -1 percent. Sales levels are still historically weak for small businesses, but the 12 percent of NFIB respondents that cited weak sales as their top business problem was the best reading since December 2007. Businesses felt that, overall, taxes and government regulations and red tape are bigger problems.

"The index continued to improve, to the highest level since September 2007. That’s the good news," Dunkelberg said. "Not so good is that virtually all of the gain came in expectations for sales and for business conditions, the real spending/hiring components collectively lost 1 point. Still, expectations lead actual decisions, and the gains were large. Sales and profit trends are the best seen in years, and that is an important motivator for hiring, which strengthened, and capital spending, which unfortunately remained uninspired by the expectations gains.

"Owners, although feeling better about sales prospects and business conditions, are still not willing to borrow and spend," he concluded.

Tech Mergers and Deals Explode in First Quarter

Mergers and acquisitions (M&A) activity in the technology industry could hit pre-recession levels this year following a "torrid" first-quarter pace of deals, according to law firm Morrison & Foerster and research partner 451 Research. In their latest M&A Leaders Survey of more than 150 C-suite officers in Silicon Valley, M&A spending was triple the average recorded over the past five years, and three out of four respondents said they will be ratcheting up their M&A activity through the end of the year.

Tech industry M&As have somewhat lagging but far-reaching effects over other industries, affecting the supply market for cybersecurity solutions and CAD software, for example, and thus organizations' software integration. Last year saw Autodesk acquire U.K.-based Delcam, a longtime niche supplier of computer-aided machining and manufacturing software, in a deal that Morrison & Foerster advised on.

"Just six months ago, only 40 percent of industry insiders saw M&A spending reaching pre-recession levels by 2018," said Robert Townsend, co-chair of Morrison & Foerster's Global M&A Practice Group. "Clearly, there's been a sea change in sentiment."

Townsend said while the sentiment change was not surprising, the speed with which it occurred was. In 2006-07, tech M&A transactions totaled $450 billion, and nearly three-quarters of respondents noted 2014 could hit that level. The law firm said there were $50 billion in tech deals in April alone.

451 Research noted that five months into 2014, tech M&A spending has nearly topped full-year spending levels for any year since the recession ended, and the current deal pace tracks to almost a half-trillion dollars by year end.

Morrison & Foerster and 451 Research conduct their survey twice a year.

 

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