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Trendsetter barometer® Business outlook 2Q 2015 What’s inside: At a glance Economic sentiment Corporate performance Opportunities and barriers Hiring International expansion Contents At a glance 1 Economic sentiment 2 Corporate performance 4 Opportunities and barriers 6 Hiring 9 Outlook remains strong for US economy – private companies maintain optimism streak Healthy profits, strong margins, and not much spare capacity Borrowing while rates are still low, but not spending madly Technology help wanted – and some unskilled workers too – yet little wage movement International expansion The Chinese market slows down, investors stay disciplined Trendsetter barometer – Business outlook 11 “Don’t just sit there. Keep buying things!” If the global economy could talk, that’s probably what it would say to American businesses and consumers. China and other emerging markets are slowing. Japan is still struggling with long-term issues. Europe is preoccupied. The US government has been holding the line on spending. Fortunately, US businesses and their employees have continued to do their part, albeit in a measured fashion. Trendsetter companies are spending steadily, not frenziedly. But it’s not because their businesses are performing just so-so. On the contrary, over the past three months, private companies have painted a positive revenue picture for us, and indeed they’ve been doing that for quite some time now. The wind appears to be in their sails: Executives at Trendsetter companies forecast rapid revenue growth throughout the next 12 months. The CFO of a footwear manufacturer spoke for many peers by saying, “We are optimistic and have markets we can grow in.” Each quarter, we talk with private-company leaders to hear what they think about the future. We ask about the outlook for their business, their industry, the economy as a whole, and the factors that shape their opinions. These days, Trendsetter executives are nearly as upbeat as they were at the start of the year, despite the occasional hint of uneasiness. On balance, they like the business conditions they see and don’t anticipate much getting in the way. Our report presents these and other insights obtained through our conversations with 225 executives in the second quarter of 2015. We are grateful for their input, as always, and pleased to share it with you. Trendsetter barometer – Business outlook Rich Stovsky Ken Esch Margaret Young US Leader Private Company Services Trendsetter Partner Sponsor Private Company Services Partner Private Company Services At a glance Private-company sentiment has gone up (é), down (ê) or stayed the same (=) across a variety of areas Optimism about the US economy is felt by 70% of private companies, up from 59% a year ago. Economy é ê Optimism about the world economy is felt by 38% of international marketers, down from 42% a year ago. é Improved gross margins are reported by 34%, the highest number in over a decade. ê Two-thirds (66%) plan to increase operational spending, down from 73% the prior quarter. Performance Expected revenue growth is 9.8%, up from 8.1% a year ago. Over one-third (36%) plan major new investments, up from 29% in the first quarter. Nearly two-thirds (64%) plan to increase headcount — the highest since 2007. Just over half (52%) of private companies worry about lack of demand, down from 59% a year ago. International sales contributed 18% to overall revenue, essentially the same as the prior two quarters’ 17%. Trendsetter barometer – Business outlook é Spending é Hiring Actual planned headcount increases, however, are flat at 2.6%, though up from 1.8% a year ago. é Headwinds é ê Expansion 44% are concerned about legislative/ regulatory pressures, up from 36% last quarter. Just under one-quarter (24%) reported increases in international sales, nearly the same as last quarter’s 26%. 1 Economic sentiment “We are confident. We believe the economy will keep growing for a while.” —CFO, Retail residential services company Outlook remains strong for US economy, private companies sustain optimism streak At a summer barbecue, we asked some friends about the economy. One person said, “The economy’s doing really well! Stock prices and corporate profits are up, unemployment’s down, and government deficits are still shrinking.” Another retorted, “GDP growth practically ground to a halt earlier this year, household incomes are dropping, and so is the percentage of people who are working!” Optimism snapshot – Today and a year ago US economy Today 70% 59% A year ago The long view – Economic optimism over time Percentage of respondents 80% Well, they’re both right. We asked Trendsetter executives much the same thing over the course of the second quarter. Like the responses at the barbecue, their answers varied as to particulars (hiring, corporate headwinds, etc.). But, big-picture, private companies were resoundingly positive. The economy has been turning in a good, solid performance. And while there are still issues around employment and stagnating wages, 78% of our respondents described the US economy as growing. This is the Trendsetter barometer – Business outlook 60% 40% 20% 0% 2Q’06 2Q’07 US economy 2Q’08 2Q’09 2Q’10 2Q’11 2Q’12 2Q’13 2Q’14 2Q’15 World economy* * World optimism reflects responses only from private companies selling internationally. 2 Economic sentiment second highest share we’ve seen in eight years (peaking at 82% in the first quarter of this year). Meanwhile 70% voiced optimism about where the economy is heading, just one point below the prior quarter’s post-recession high. We’ve seen high post-recession optimism levels among these companies before. Only in the past year, however, have those levels been sustainable. Before that, Trendsetter confidence in the US economy often rose and fell, rollercoaster-style, from quarter to quarter. In contrast, over two-thirds of companies now voice optimism, and have done so for several quarters straight. This bodes well for the broader economy, since Trendsetter sentiments about the direction it’s going have been a good leading indicator of where actual US GDP growth is heading. Where the world economy is concerned, however, ambivalence predominates. This has been a near-constant story over the past Trendsetter barometer – Business outlook several years, with roughly half of Trendsetter companies saying they’re uncertain, quarter after quarter, about the global economic outlook. Again, it’s a matter of perspective. When asked about the current state of the global economy (as opposed to the 12-month outlook), 43% of private-company executives say it’s growing. This is up from 31% at the end of last year. Still, nearly half of Trendsetter companies feel the opposite way. As the CEO of an executive search firm put it, “Things look up one day, down the next. Inconsistency is the biggest challenge nowadays.” Economic barometer – 12-month outlook US economy World economy* 70% 5% 25% 38% 12% 50% Optimism Pessimism Uncertainty * Optimism about the world economy reflects responses only from companies selling internationally. “While we still see plenty of uncertainty out there, the economic fundamentals look strong for most of the private companies we talk with,” says PwC’s Rich Stovsky. “They may continue to feel challenged, but that’s not preventing them from pursuing opportunities. Navigating uncertainty is something they’ve learned to do well these past half-dozen years.” 3 Corporate performance “We’ve experienced rapid growth recently. We’re looking at this year as an assessment year.” —CFO, Software company Healthy profits, strong margins, and not much spare capacity Ask most people about the economy, and they tend to generalize based on their own experience: If things are going well at home, things are probably going well for others, too. Trendsetter companies are no exception. About five out of six (87%) expect their revenue to grow in the next 12 months, and likewise almost as many (84%) think their industry will show revenue growth this year. But there’s more to it. The projected rate of 12-month revenue growth has been steadily climbing for over a year. Right now it’s at 9.8% — the highest in several years. As for the share of companies expecting dramatic revenue growth (growth of 20% or more) for the calendar year, that has doubled since the second quarter of 2014. However, the aggregate growth numbers are flat. So, clearly, some businesses are more upbeat than others. “We’re in a terrific place,” the president of a high-tech construction company tells us. “We are in a holding pattern Trendsetter barometer – Business outlook Private companies forecast higher revenue growth than a year ago 12-month revenue growth rate* 9.8% Forecast in 2Q15 8.1% Forecast in 2Q14 * Projected Growth expectations Most private companies project revenue growth for the next 12 months. Over one-third expect double-digit growth. 2% 4% 7% 37% Positive growth 10%+ Positive growth less than 10% Zero growth Negative growth Not reported 50% 4 Corporate performance with these up-and-down oil prices,” says the CEO of an oil and gas exploration/production company. Margins up – but for how long? We are also struck by the rise in margins. The number of companies reporting increases is now 34% — we haven’t seen a higher rate in the past decade. Our panelists have seen their costs inch up, but they’ve got even more pricing power: 31% say they were able to raise prices this past quarter, compared with only 5% that had to lower them. As we’ve said before, this trend will eventually reverse, particularly as energy prices rise. But this might take a while, with WTI crude oil price forecasts in the mid-$60 range through 2016. And for now, at least, inflation doesn’t seem to be a concern. Trendsetter barometer – Business outlook Finally, if it seems that everyone is busier than usual, it’s because they are. Thinking about levels of permanent staffing and operations, the majority of Trendsetter executives say they’re operating at near full capacity (92% say they’ve reached at least three-quarters operating capacity). The president of a construction company told us business is “as good as it has been in the last eight to 10 years.” But PwC’s Ken Esch adds, “Capacity planning is a bit of a balancing act. When companies operate near maximum utilization, that means they’re working harder and adding overtime shifts rather than rushing to add new capacity. If growth forecasts hold true, we’ll probably see a new round of capital spending in the future. But for now, the commitment’s not there.” Profitability stays at high-water mark The number of private companies reporting increased gross margins is higher than it’s been in a decade. Gross margins Prices 34% 28% 31% 10% 9% 5% 19% net 26% net 24% net Up Costs Down Percentages denote the number of companies reporting increases in margins, costs, and prices. 5 Opportunities and barriers “Capital spending will be minimal. Last year was aggressive. Now we’re integrating products and players.” —CFO, Manufacturer and distributor of meat products Borrowing while rates are still low, but not spending madly One of the biggest guessing games around, from Springfield to Stuttgart, is when the US Federal Reserve will raise interest rates. The signals have shifted several times this year already, and there’s still no consensus on what might happen. This matters, because everything from consumer spending to industrial expansion may ride on the result. For now, rates are still bouncing near their long-term lows, and companies are taking advantage of the liquidity while it’s available. Over the past quarter, 21% of the executives we asked said their companies had initiated new financing during the quarter — the second highest share we’ve seen since 2004. And 6% took on new supplier financing, which though a small number is nonetheless the most such activity we’ve seen in a decade. Bank loan interest rates for Trendsetter companies averaged 3.57% in the second quarter Trendsetter barometer – Business outlook Seeking new financing while interest rates remain historically low Although most private companies aren't initiating new financing, we did see an uptick in the second quarter as speculation grew about whether the Fed would raise rates this year. % of private companies initiating new financing in past 3 months 21% 15% Today Interest rates private companies are paying for bank financing 3.57% 3.39% A year ago — not high, but almost 20 basis points above the low in 2013. It seems that many companies have decided they should take on debt while it’s still highly affordable. For their part, lenders are willing to go along. This quarter, 18% of Trendsetter companies saw their credit lines increase — the highest percentage we’ve reported 6 Opportunities and barriers since before the recession. We may soon see a similar uptick in commercial and industrial loans generally (not just those made to private companies particularly): Credit availability to Trendsetter companies has been a good leading indicator in this regard. But is the uptick itself a good thing? For now, probably yes. “We’ve all seen cases in the past where banks have been too loose with their lending strategy,” notes PwC’s Margaret Young. “But that doesn’t appear to be what’s happening here. For the most part, Trendsetter companies are making prudent business decisions about their capital plans. They’re investing, but carefully, and so lending to them should be a safe bet for banks.” Concern over interest rates and a stronger dollar In the second quarter of this year, more Trendsetter companies said they’d spend on new capital projects in the coming year. Also, investment as a share of total sales was on the rise. Still, we’re not reading too much into the uptick. In both cases, these figures are returning to Trendsetter barometer – Business outlook long-term averages after a period of lower spending in the past few years. In fact, we see some wariness in plans for operating expenses. Each quarter, we ask companies if they’ll increase current spending levels in various categories over the next year. This past quarter, the overall number of companies planning increased expenditures dropped. We’re also starting to see some growing concern about higher interest rates (18% of companies, up from 8% a year ago) and about a stronger dollar (19%, up from 8% a year ago); as one would expect, markedly more exporters are concerned than their domestic-only peers about the strengthening dollar (48% vs 33%). “Our business has taken off in the Asian and Russian markets,” says the CFO of a restaurant chain and franchise. “However, the strength of the dollar is very important and could impact us there.” Top areas where private companies plan to increase their spending over the next 12 months 31% Information technology 27% Marketing & sales promotion Advertising 22% 15% 20% 11% New product/ service introductions Geographic expansion 19% 30% 18% 23% Today (2Q 2015) A year ago (2Q 2014) Percentages denote the number of companies who plan increases. Concern about legislative and regulatory pressures rose somewhat as well (44% of companies, up from 36%), against a backdrop of two decisions that were still pending for most of the second quarter — the Supreme 7 Opportunities and barriers Court’s ruling on ObamaCare and Congressional approval of the fast-track trade promotion authority. With fast-track approval now granted, there remains the up-or-down votes that the White House will send to Congress. “We are optimistic,” a vice president at a building materials producer told us partway through the second quarter, “but we don’t yet know precisely how the TransPacific Partnership deal will affect imports and exports in the housing industry.” He’s not alone: “We’re anxious to learn more about the TransPacific Partnership trade agreement and how it will affect our business,” says the CFO of an auto parts remanufacturing company. We’ll continue to assess Trendsetter responses to the TPP in upcoming quarters. Going it alone and keeping expansion within current markets Despite a few high-profile mergers in the headlines lately, private companies seem to be pulling back from tie-ups of various kinds. Only 11% plan to buy another company in the next year: as low as we’ve Trendsetter barometer – Business outlook ever seen, and well off the longterm average of 16%. New joint ventures? Only 9%, another new low, and less than half the share reported in early 2014. And despite the strong dollar, only 8% think they’ll expand into new markets outside the US (which isn’t to say they won’t keep expanding in their current markets abroad); that’s as low as we’ve seen it. Perhaps this last figure isn’t so unusual, given circumstances in the global economy, but the average between 1995 and 2013 was more than twice as high. “Part of why we’re seeing less expansion into new markets abroad is that a number of private companies feel they’ve already established enough of a presence in key places for now, especially in fast-growth countries like China,” says Ken Esch. “But China and other emerging markets have been slowing down. So it makes sense that the pace of Trendsetter expansion in those countries is slowing down too. But that doesn’t mean companies are pulling back or out. Far from it. For them, international expansion is part of a long-term strategy.” Growth barriers in the next 12 months 52% Lack of demand 59% 44% 42% Legislative/regulatory pressures 37% Lack of qualified workers 32% 28% 26% Profitability/decreasing margins 26% 22% Increased taxation 25% Pressure for increased wages 20% 22% 22% Oil/energy prices Strength of the dollar Higher interest rates 19% 8% Today (2Q 2015) 18% 8% A year ago (2Q 2014) Percentages denote the number of companies that perceive these factors as growth barriers for their businesses. 8 Hiring “Companies are cautious about permanent hiring, what with the cost of benefits and a possible increase in the minimum wage.” —COO, Staffing and recruiting firm Technology help wanted – and some unskilled workers, too – while wage increases remain modest The US jobs picture has continued to brighten, for the most part, if the lens you’ve been looking through is the Bureau of Labor Statistics’ monthly jobs report. And one could posit that the future looks bright too: Private (nongovernment) payrolls overall are apt to increase, according to Trendsetter hiring intentions, which are a leading indicator of quarterly payroll changes across the broader economy. At 64%, the number of Trendsetter companies planning to employ fulltime workers in the next 12 months is now higher than it has been at any time since the recession. But these same companies told us that, on average, they plan to add just 2.6% to their staff in the next year. The average over the past decade has been closer to 4 percent1 (since the recession, however, the average has cleared the 3% mark only twice2). Employers continue to target their hiring carefully. Nearly two-thirds of private companies plan to hire in the next 12 months 4% Hire new workers Keep workforce the same Reduce headcount 32% 64% Looking for the right stuff For the most part, the new jobs will be created in the categories we typically see at Trendsetter companies. For example, 28% of the executives we spoke with expect to add technology or engineering professionals to their headcount— if they can find them. The president of an energy-use consulting firm said, “We need new employees with specific skills in engineering 1 The average Trendsetter headcount increase over the past decade reached a high of 11.2% in the third quarter of 2005 and a low of 1.1% in the first quarter of 2009. 2 The average Trendsetter headcount increase was reported as 3.4% in the first quarter of 2013 and 3.2% in the second quarter of that same year. Trendsetter barometer – Business outlook 9 Hiring and technology, and we can’t find them here in the States.” They’re not the only ones: For the past three quarters, 37% said that a lack of qualified workers would be a barrier to growth. PwC’s Margaret Young notes, “This is one of the highest rates since 2008. There are longer-term solutions to be had in education or immigration reform, but that won’t help companies that are struggling with this issue right now.” In one curious development, though, 18% of companies overall said they plan to add semi-skilled or unskilled blue-collar workers. This isn’t a big number — but it’s much bigger than the 13% that companies have typically forecast. It also comes on the heels of measures in Seattle, Portland, Los Angeles and elsewhere that will raise minimum hourly wages considerably. It’s too soon to know, of course, if our second-quarter findings are an Trendsetter barometer – Business outlook exception. For now, at least, concerns that the $15/hour movement will cause more unemployment appear to be unfounded. Finally, Trendsetter companies are budgeting for average hourly wages that will rise 2.97% over the next 12 months. This number has edged up steadily (if slowly and somewhat falteringly) over the past six years. For there to be greater traction, more companies will need to feel actual wage pressure. A full quarter of Trendsetter companies say they feel precisely that, but until more of them feel it, wage increases may continue to hover under 3 percent. Nonetheless, the current projected increase is better than none and signals likely wage hikes across the broader economy. Trendsetter wage intentions have been a good leading indicator of annual growth in the US employment cost index for the two decades we’ve been conducting this survey. More help wanted, but wage increases remain relatively flat Which workers are most in demand? 64% of private companies plan to hire in the next year 21% of companies seek marketing & sales professionals 38% of service companies seek technology workers Planned workforce increase Today Prior quarter 2.6% 2.6% Planned wage increase Today Prior quarter 2.97% 2.62% 40% of product companies seek blue collar workers 10 International expansion “We’re poised to go international shortly; the dollar is strong and we feel the euro market is ready.” —CFO, Beverage producer The Chinese market slows down, investors stay disciplined We believe strongly in the power of survey data to illustrate big themes. But we never forget that behind the numbers, there are individuals making decisions every day. As PwC’s Ken Esch observes, “In good markets and bad, there are companies that have better products, production controls, and marketing plans than their peers. And, of course, there’s always an element of luck, based on forces beyond a company’s control.” Nearly half of Trendsetter private companies sell internationally 56% International markets United States only 12% Emerging markets* 44% Private-company revenue from international sales Flat figures mask optimism The ratio of companies reporting that their foreign sales have risen (24%), fallen (14%), or stayed the same (62%) didn’t change much this period. International sales as a percentage of revenue stayed essentially flat, too, at 18 percent. But the big picture is made up of many pixels. The CFO of a frozen yogurt company, for example, tells us that “the time is ripe for franchise expansion in the Far Trendsetter barometer – Business outlook Market presence International markets generally Emerging markets* specifically Percentage of total revenues derived from international sales 18% 33% * Here, the term emerging markets refers to Brazil, China, and India only. 11 International expansion East and Europe.” But the president of a high-tech-equipment cleaning company is worried that “the economy could crash due to various global issues, such as the situation in Greece and disposable income declining in other key markets, which would cause electronic purchases to drop.” Meanwhile, an auto dealership CFO sees “high potential for used autos and parts as business opens with Cuba.” Whether evaluating an acquisition, expansion, or hiring, leaders look beyond what peers are doing. While the aggregate numbers didn’t move much, we saw an interesting inversion in the emerging markets: Companies selling in fast-growing countries like Brazil, India, or China are generally more optimistic than other Trendsetter companies that sell internationally, and global sales tend to make up more of their total revenues. The opposite was the case this past quarter. But these economies are inherently more volatile, and so we do see the occasional hiccough in an otherwise consistently upbeat story where Trendsetter barometer – Business outlook Trendsetter companies in emerging markets are concerned. Sticking with China, despite the dip This past quarter, the Chinese economy continued to cool off. And, after a dizzying climb since mid-2014, the local stock markets there have given back much of their gains. This could depress growth for companies that count on Chinese demand. In the second quarter, nearly two-fifths of Trendsetter companies with international sales said they felt optimistic about the world economy – but for those selling in China, that ratio dropped to about one out of five. But they’re still projecting much higher revenue growth than their Trendsetter peers (13%, compared with 9.5% for those selling in the US only). And those with Chinese sales are actually much more likely to plan major capital expenditures (planned by 55%) and expand to new markets (planned by 35%). They’ve made a strategic bet on the Chinese market, and they’re sticking with it. International companies plan to be more growth-focused than their peers over the next 12 months Plan major capital investments Plan increased spending on new product/service innovation Plan increased spending on R&D 42% 26% 18% 31% 14% 6% International Domestic only Percentages denote the number of companies planning these expenditures. 12 About this report Since 1995, PwC’s Trendsetter Barometer Business Outlook has tracked the views of top executive officers at privately held US businesses and the trends these reveal. This quarter, we spoke with 225 chief executive officers (CEOs/CFOs), including 127 from companies in the product sector and 98 in the service sector. How the Trendsetter companies break down • Products 56% –– Manufacturing 26% –– Trade/Distribution 16% –– All other 14% • Services 44% All (225) Product (127) Service (98) Average number of employees 1,270 1,583 864 Average enterprise revenues $427 million $522 million $304 million Five-year growth rate 73% 67% 80% Survey interviews were conducted by the independent research firm BSI Global Research, Inc. by phone between April 3, 2015 and July 7, 2015. The same companies are interviewed and tracked from quarter to quarter, with occasional changes to the survey population due to turnover. Trendsetter barometer – Business outlook 13 To find out more about private-company trends and to discuss the survey findings, please contact: Rich Stovsky Ken Esch Private Company Services Leader [email protected] Trendsetter Partner Sponsor [email protected] Margaret Young Partner, Private Company Services [email protected] To see more charts and graphs, including those showing trends over a span of years, and to download the complete survey findings, go to our website: http://www.pwc.com/us/en/ private-company-services/ publications/pcs-trendsetterbarometer.jhtml About PwC’s Private Company Services Practice Located in all major US markets, PwC’s Private Company Services (PCS) is a national practice comprised of more than 170 partners who provide customized tax, audit and advisory services to private companies, their owners and high-net-worth individuals. The majority of America’s largest private companies are PCS clients.* They span a broad scope of sectors and industries ranging from manufacturing to retail to industrial to professional services. A hallmark of PCS is a robust thought leadership program that provides clients with timely, thought-provoking information to help manage and grow their businesses and wealth. Visit us online at pwc.com/us/pcs * Forbes America’s Largest Private Companies 2015 © 2015 PricewaterhouseCoopers LLP. All rights reserved. In this document, “PwC” refers to PricewaterhouseCoopers LLP, which is a member firm of PricewaterhouseCoopers International Limited, each member firm of which is a separate legal entity. 29127-2017 14