We will experience at least a modest recession in the first two to three quarters of 2023. As in 1981, the recession will not impact all industries or sub-sectors equally. Sectors like job shops, construction equipment, and power generation, among others, will continue to see growth, though modest in comparison with 2021 and 2022. Sectors such as automotive powertrains, household appliances, and recreational vehicles are likely to see lower volumes in 2023 relative to the past two years.
This is the second of two reports evaluating the current economic outlook for manufacturing, in comparison with similar conditions 40 years ago. Read Part 1 here.
Manufacturers should have addressed the significant backlogs in orders more appropriately in 1981. Irritated customers demanded adjustments or the return of deposits, creating a futures market in capital equipment orders and deliveries. Today, many manufacturers I have talked to have come up with creative methods to hold firm on deposits and progress payments.
Treating the customer well is essential, but companies should be compensated for work already completed if an order is canceled. Crediting interest on the deposits toward final price, extending warranties, or expanding tooling allowances are just a few of the ideas I have seen AMT members implement to soothe frustrations and keep the customer engaged.
Cancellations are less likely if the cost to do so is a substantial loss, but other factors increase or decrease their investment in the order. For example, orders placed in 2022 but delivered in 2023 will cost the customer 4% more in the short term. The Tax Cuts and Jobs Act of 2017 permitted purchasers of capital equipment to expense 100% of the cost of the equipment in the first year.
Starting in 2023, the amount that can be expensed is reduced by 20% per year until it phases out entirely in 2027. A manufacturer that purchased and placed a $100,000 machine in service in 2022 can expense the entire amount. At the current corporate tax rate of 20%, the company's taxes would decrease by $20,000.
However, the owner would be able to expense only $80,000 and save $16,000 on tax payments if that equipment is placed in service 2023. The company can still deduct the remaining $20,000 over the next 7-10 years.
Bring those calculations to the bottom line: the customer has just seen the price of the product go up 4% through no action of his own or by the provider of the equipment. That is 4% he can avoid if he cancels. This is something manufacturers need to factor into their risk factor with respect to their backlog, and the risk of future cancellations.
An excellent communication network is key to a great intelligence network. You want both working at top efficiency when the market is expected to get rough or to take off. I am biased, but a call to your industry's trade association is the best place to start. The trade associations often are the nexus of their industries' members, customers, and suppliers. Many have staff well-versed in the industry dynamics and can provide key market metrics and other information that will positively impact the members' businesses.
PMMI, MSCI, NFPA, and, of course, AMT produce annual conferences and other events to provide information about the future of the market, and sessions on specific customer sectors. They encourage participation by non-members in their sector as well as customer and supplier companies. Most also provide regional or virtual updates on this data. Every business is engaged with its customers and suppliers, but these events provide the opportunity to benchmark with competitors on the specific metrics in which you are interested.
I encourage you to contact your association's membership manager about the products and services available to members.
Committee and board service is another avenue for developing relationships upon which you can rely, to seek different perspectives on the market. Besides trade associations, I have found that the regional Federal Reserve Banks provide, at no charge, economic data and outlooks specific to the region or regions that interest you. There are excellent volunteer opportunities at the regional level of the Fed, which will introduce you to a broad range of business executives in your geographic area.
Running a business has many routine functions such as managing your working capital, invoices, backlogs and deliveries. Each of these functions involves important relationships with bankers, investors, customers, suppliers, and industry peers. These relationships are best built without the stresses presented by a recession. However, keen businesses coach their employees to increase the frequency of touching those contacts and strengthening those relationships in the period before and during a recession.
While some form of 1981 is always possible, I agree with analysts at Oxford Economics and IHS Markit who have painted this impending recession – starting in early 2023 – as mild concerning manufacturing.
Still, all the suggestions noted above are valid. It is much less stressful to begin building during a mild recession, so that you, and the relationships you build, are more mature when the next big crunch or expansion visits your industry. Everyone can find new customers and orders during accelerated growth but it is the thoughtful, persistent businesses that create opportunities during recessions.
Patrick McGibbon is an economist and Chief Knowledge Officer for AMT – the Association for Manufacturing Technology, and a member of AMT’s Strategic Alignment team.