JUST ENOUGH ECONOMIC GROWTH WILL GRADUALLY DRIVE TRUCKING FORWARD
It's easy to get lost in the black forest of economic news when nothing more compelling than a sluggish recovery is following a deeply scarring recession.
That may sum up the take many Americans now have on the economy. But that grim view doesn't add up for trucking. For-hire and even private motor carriage is not impacted by the economy the same way industries that comprise specific segments of the world's largest economy are. Large corporations and small businesses that dwell in that realm want to see nothing less than a broad-based and robust recovery in place before they can summon enough intestinal fortitude to fork over the level of capital spending that many experts say is needed to kick this recovery into high gear.
Trucking doesn't have to — and isn't — waiting for the titans of the goods and services industries to pull back into the fast lane. Nope, despite negativity about the economy generated by the general media, the truth is trucking is already escaping the deep woods of malaise on the many roads it takes to serve its vast array of customers. That's why fleet owners are in a unique position to see the trees for the forest. And by doing so now, they can't help but move forward with a solid measure of confidence in this slow but steadily growing recovery.
Despite what headlines and talking heads still blare about high unemployment, the busted housing market and too-tight credit, there is much positive insight fleet owners can relish in dished up by everyone from a senior economist with the Federal Reserve to economic experts specifically versed in the vagaries of trucking. There's no devil in the details of their reports, either — only good news for trucking.
For starters, William Strauss, senior economist and economic adviser to the Federal Reserve Bank of Chicago, told attendees of a conference held in the fall by trucking forecasting firm FTR Associates that the “U.S. economy is solid and growing slowly, which is great but not exciting.” Perhaps after what trucking went through in 2008-09 no one really wants “exciting” times, but who doesn't like to hear the outlook at least calls for solid if slow growth?
“The current economic downturn resulted in a 4% drop in the U.S. economy,” Strauss pointed out. “That's a far deeper drop than what occurred in the recessions of the 1970s and '80s [3%] but not as bad as the Great Depression [which amounted to a 26% cliff dive].
“We have not seen the normal ‘bounce-back’ yet from the so-called Great Recession of 2008-09,” he continued. “In the 1980s, the bounce-back resulted in 6% economic growth. Instead, we're seeing smaller growth numbers. We started in Q1 around 3% …that is trending out to 2.4% GDP in 2010 and 2.9% GDP in 2011.”
Strauss stressed — and this is central to understanding how trucking will fare this year — that “the key to this recovery is manufacturing. In fact, this is the first-ever recovery led by growth in manufacturing, not in consumer spending.”
He said U.S. industrial output dropped 17.6% during the recession (which officially ended in June '09) but has grown 9.3% over the last 13 months — and in so doing recovered 48% of its decline. Industrial production would slow to 5.6% by the end of 2010 and then to 4.1% by 2011, Strauss added. “Some 60% of economic growth in 2010 came almost solely from a change in inventories as companies replenished very low stock. That inventory growth is now tapering off.”
SITTING ON CASH
Strauss said he expects improvement in perhaps the biggest newsmaker holding back confidence in the recovery — unemployment. He said it should wind up at 8.5% for 2010 and fall to 7 to 7.5% by the end of 2012.
Touching on some of the other topics that make for grim headlines, Strauss said banks have a “very high cash reserve right now, but are still not lending and that's a problem. And the consumer savings rate has increased from 1 to 6%. That's good in the long term, but bad in the short term as it reduces immediate spending that can grow the economy more quickly. Remember, two-thirds of economic growth relies on consumer spending.”
However, it's not just the banks and the great American economic engine of consumerism that are being tight-fisted and so contributing visibly to reining in the recovery. The top management of U.S. business concerns themselves should put some of the blame for the economy's slow return to normalcy squarely on their own shoulders.
According to a recent news story in The Wall Street Journal, the Fed reported in early December that nonfinancial companies in the U.S. held $1.93 trillion in cash and other liquid assets at the end of September. That's up from the measly $1.8 trillion they had squirreled away by the end of June. And cash accounted for a whopping 7.4% of all company assets. That figure is the highest proportion since — and this is hard to grasp! — 1959.
“American companies are sitting on more cash than ever before, as they hold back from hiring and spending despite an improving economy and surging profits,” The Wall Street Journal reporter noted, adding somewhat drily that “the cash piling up in corporate coffers” could help the U.S. economy grow “more vigorously” and also bring down unemployment.
Transportation economist Noel Perry, FTR Associates senior consultant and principal of Transport Fundamentals, points out another conundrum holding back this recovery. “Economic cycles are much shorter than in the past. That makes business decisions much more challenging. We're looking [nowadays] at short, deep cycles, so the window for recovery is shortening from five years in the past to more like two years.”
There should be opportunities aplenty for trucking this year, given the rosy outlook afforded by the nonprofit Institute for Supply Management (ISM), the largest association of purchasing and supply management executives in the world. ISM's latest “Semiannual Economic Forecast,” issued just before press time, forecasts that both the manufacturing and nonmanufacturing segments of the economy will keep the recovery going by continuing to grow this year.
Especially cheering for motor carriers should be ISM's finding that “the manufacturing sector continues to outpace the nonmanufacturing sector and has greater expectations for growth in terms of revenue.”
ISM says its overall forecast “projects optimism” about the economy. “The manufacturing sector, overall, is positive about prospects in 2011 with revenues expected to increase in 16 of 18 industries, while the nonmanufacturing sector appears slightly less positive about the year ahead, with 12 of 18 industries expecting higher revenues.”
A key metric for trucking to note is that ISM reports that “business investment, a major driver in the U.S. economy, will increase substantially in the manufacturing sector, while investment in the nonmanufacturing sector will increase at a lower level.”
Indeed, per the study, capital expenditures by the manufacturing segment are expected to rise by 14.5%. On the services side, capital expenditures are pegged at “growing moderately” by 3.7%.
“Manufacturing purchasing and supply executives have expectations for continued growth and are optimistic about their organizations' prospects as they consider the first half of 2011, and they are even more positive about the second half,” reports Norbert J. Ore, chair of the ISM Manufacturing Business Survey Committee.
While 2010 was a “year of recovery” in manufacturing, “our forecast sees improvements in both investment and employment in 2011,” says Ore. “Respondents expect cost pressures in 2011 to be somewhat greater than in 2010,” adding that manufacturing growth is now in its 16th consecutive month as measured by ISM.
“Nonmanufacturing supply managers… are optimistic about continued growth in the first half of 2011 compared to the second half of 2010,” advises Anthony S. Nieves, chair of the ISM Non-Manufacturing Business Survey Committee. “And they have a higher level of optimism about the next 12 months” than they had in December 2009 for 2010. “They forecast that their capacity to produce products and provide services will rise by 2% during 2011, and capital expenditures will increase by 3.7% from the 2010 level,” he adds. “Nonmanufacturers also predict that their employment will increase by 0.3% during 2011.”
Ore notes that manufacturing purchasing and supply executives are “more optimistic about the second half of 2011 compared to the first half of the year.” (See chart, this page.) And Nieves says respondents on the nonmanufacturing side “feel more optimistic than they do for the first half of the year compared to the last half of 2010.”
Freight trends appear consistent with ISM's optimistic outlook on the year ahead. For example, the most recent Freight Flow report by Jon Langenfeld, senior transportation analyst with investment firm Robert W. Baird & Co., shows Baird's domestic freight index topped 5.9% year-over-year in October. That compares very favorably to 4.3% for September and the 4.8% registered for the third quarter of 2010 vs. Q3 '09. “Looking into 2011, we expect more modest overall demand trends consistent with expectations for low-single-digit GDP growth, but expect industrial-related end markets to outperform retail,” according to Langenfeld.
Already, FTR's Perry points out, the “strength of the goods side of the economy has made this a strong freight recovery.” He says analysis by FTR shows that while the average quarterly GDP growth in the recovery through 2010's Q3 was just below 3%, truck tonnage in that period hit 7%.
As the recovery continues, Perry expects GDP growth to be aligned with earlier recoveries (specifically 1983-84 and 2002-03) in that it will come back slowly. “It is perfectly normal to have a slow quarter [GDP below 3%] or two during the first two years of a recovery,” he contends.
According to Transport Capital Partners LLC (TCP), which handles transportation M&A as well as capital sourcing and offers advisory services, its latest “Business Expectation Survey” found that 66% of the surveyed carriers expect volumes to increase over the next year.
“[In December '09], about the same share of carriers expected volumes to increase, but a peak of almost 90% was hit in the second quarter of 2010,” says Richard Mikes, TCP partner. He notes further that “the hopefulness which characterized the spring [of 2010] has waned in recent quarters as economic growth has slowed.”
Nevertheless, with over three-fourths of the surveyed carriers expecting rate increases in the next year, optimism remains high. “TCP's surveys from the last two years indicate that carriers have become more confident that volumes and rates will increase during the next year, despite the modest drop in the last two quarters [of 2010],” points out Lana Batts, managing partner for TCP.
“Larger carriers are more upbeat in this environment,” adds Mikes. “More of the carriers over $25 million in revenue saw rates go up in the last three months [of 2010] than did the smaller carriers.” This was reflected in future rate expectations as well, per the survey. On the other hand, Batts points out, “smaller carriers are facing increasing fuel, equipment, and financing constraints and must recover more costs soon.”
Yet the hard cold reality for shippers is they “will be hard-pressed not to accommodate cost pressures coupled with the restricted supply of trucks and drivers that is likely to continue,” adds Mikes.
Jason Siedl, an economist with investment bank Dahlman Rose & Co., reports shipping is recovering, but only truckload carriers are benefiting from the capacity shortage, pointing out “LTL carriers are not quite there yet.”
WHAT AND WHERE
How individual carriers will fare in 2011 will “come down to what products they haul and where they fit into the supply chain,” contends Chris Brady, president of Commercial Motor Vehicle Consulting (CMVC). “Fleets hauling for retailers can expect sluggish to moderate growth due to consumer spending that's still 20% below peak.
“The strongest freight growth will be export-related,” he continues. “Capital expenditures on factory equipment, etc., by manufacturers will grow faster [than consumer spending] because businesses' balance sheets are in far better shape than those of American households.”
Brady stresses that without consumers fully in the game, “this will not be a broad-based recovery. The economy, though, will grow in 2011, but at a sluggish to moderate pace, and truck freight will mirror that performance except in certain more lucrative segments [such as related to export goods].”
Dahlman Rose's Siedl expects truckload rates will continue to rise, but cautions that “everyone — carriers and shippers — are worried about the impact of [FMCSA's] CSA. Expectations are these new safety rules will reduce the available driver labor pool by 5%.”
FTR's Perry says the biggest issue facing fleets going into 2011 and beyond is the “constricted pipeline for driver supply.” He explains the downturn led many fleets to disassemble their internal driver-recruitment infrastructure and so they must now scramble to get people in place, both to process applicant paperwork and to train drivers.
“The forecast is for a shortage of 150,000 drivers within two years,” says Perry. But he says to “expect a bigger driver shortage when hours-of-service [HOS] rules change [this year].”
On the other hand, lack of drivers will force up freight rates. Perry figures that rate hikes on average of 10% or even 12% — before fuel surcharges — will be “possible as fleets deal with challenges [including] a driver shortage, the cost of regulatory compliance, and the hefty price tag for new equipment.”
Those high regularity compliance and equipment costs will also impact individual owner-operators and small fleets. As a result, their historic swing capacity cannot be counted on being there when larger fleets need it as the recovery's pace quickens.
“The freight cycle is now very volatile — 80% more volatile than in the past — and that poses difficulties for publicly owned fleets,” observes Perry. “Investors want consistent margins and profits, but still expect companies to take advantage of upswings in the market. The thing is, carriers really can't do both.”
Perry sees “government intervention clouding the economic picture significantly” for all fleets. “Companies are not spending capital on fixed investments as it typically takes 10 years to recoup, which is too long [a period for them to accept given current market conditions].”
The intervention he speaks of is, of course, regulations — and they too will be on the rise as the recovery proceeds. Indeed, the expected new HOS rules will be of obvious concern. According to Annette Sandberg, CEO of TransSafe Consulting and the administrator of FMCSA from 2002-06, the proposed HOS reform will cut drive time from the current 11 hours to 10; will mandate a significant “rest break” during the driver's workday; and push the 34-hour “restart provision” out to 48 hours — or beyond.
Changes to HOS will have a huge impact on driver productivity and vehicle utilization. But Sandberg warns that HOS along with CSA amount to just the tip of the iceberg when it comes to new rules for trucking.
She says to expect nearly 40 new regulations to be put in place within the next few years. These rules include the new pre-employment screening procedures (PSP), which began this past May; EOBR (electronic onboard recorders) mandates; and new entry-level driver training requirements due out this month. “You have to look at the regulatory ripple effect from this broad context; if all of these rules come out on schedule in the next few years, they'll have a significant impact on trucking,” Sandberg advises.
While the cost of fuel will keep tearing at every fleet budget, it seems that fleets will not suffer from price volatility this year. “Oil prices will rise over the long term, back near $100/barrel by the end of 2011,” predicts Dahlman Roe's Siedl. “That being said, oil prices — and thus diesel fuel costs — should be moderate and stable for the year. Fuel prices are thus the only orderly element [in this year's] freight forecast.”
“Winter is typically the ‘high price season’ for diesel, and we've seen diesel prices inching up as expected,” says Denton Cinquegrana, editor-West Coast spots for the Oil Price Information Service. “Demand for diesel is still way off from pre-recession levels, but it's getting better slowly — mirroring the slow recovery of the U.S. economy overall.
“Oil pricing is also much more in line with the equity markets now and far less subject to traditional supply-and-demand pressures,” he adds. “Oil reacts more and more to other economic trends, such as a run-up in the stock market, or a positive jobs report, or any other financial information that causes the equity markets to move higher.”
Despite a driver shortage promising to be massive and the costs and uncertainty that result from new government regulations, the picture of a slow but steadily growing recovery most experts paint will mean many fleets will at some point have to add equipment capacity.
But when fleet owners are ready to buy trucks — new or used — they will find the marketplace has changed dramatically thanks to the great recession.
“There's a used-truck shortage coming and we think supply is going to be tight for three or four years,” advises Steve Clough, president of Arrow Truck Sales. He says this is because production of new trucks dropped to record low levels during the recession, and fleets that typically bought new trucks went into the used market to buy large groups of low-mileage, late-model trucks — often in large lots of 100 power units or more.
Supply and demand is the big issue in the used-truck market,” he said. “Right now, there's almost no supply of 200,000- to 300,000-mi. trucks in large numbers. There's not even an oversupply of 400,000-mi. trucks — and those are what fleet retail buyers are looking for. Basically, this means the ‘used-truck option’ for fleets trying to put off buying new equipment may not be there much longer — if it's still there at all,” he adds.
Dahlman Rose's Siedl also sees used-truck prices climbing, driven by the “high cost of new equipment, up to $120,000 for a new tractor. One fleet noted its Class 8 tractor costs increased $25,000 per unit between 2002 and 2010 due to emissions technology. Credit remains tight and fleets must seek more financing to pay for higher equipment costs. LTL carriers suffered badly in the recession as load prices were very low, and there remains a ton of capacity in that market. As a result, LTL carriers are not making enough profit to afford new equipment.”
FTR's Perry sees “trucking management as having big scars” from what they have been through in this downturn, and so he expects many fleet owners will continue to take a “conservative” approach to adding equipment into 2011.
Eric Starks, president of FTR, is cautious about fleets buying new trucks. His firm's preliminary data released in December shows November Class 8 truck net orders totaled 26,005 units, a 38% increase over October. More significantly, that's the highest monthly order level since May 2006.
“That truckers are willing to start ordering equipment is certainly a good sign,” says Starks. “It is clear we are in a recovery period for the new-truck market; however, we still harbor concerns regarding the durability of the current surge. We do know that leasing companies and large fleets were instrumental in pushing the orders higher.
“What we are not seeing are the smaller and medium-size fleets participating at the levels we would normally expect during a recovery,” he continues. “Until we see this group jumping back into the market, we will continue to be optimistic, but with a degree of caution.”
Although prepared from a wide range of sources, the outlook presented here singularly positions 2011 as a year for slow yet steady growth overall for motor carriers. It will especially be a good, if not killer year, for larger, well-heeled fleets and those smaller ones that rode out the recession thanks to extremely savvy management.
ISM Business Outlook: 2nd Half 2011 vs.1st Half 2011
|Manufacturing Predicted in Dec. 2010||Nonmanufacturing Predicted in Dec. 2010|
ISM notes that “a diffusion index above 50% would generally indicate an expectation of the second half of the coming year being better than the first half.”
Chart: Institute for Supply Management (ISM)