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The Bottom Line on the Top Line: When Will Revenue Growth Resume?

Companies across the U.S. are adjusting to the “new normal”, a term widely used to describe the changed business landscape that has emerged as companies respond to persistently weak demand for their products and services.

imageThe good news about the “new normal” is that corporate cutbacks have regenerated earnings growth from recession lows despite still weak top line numbers – witness the better-than-expected fourth-quarter earnings reported by many U.S. retailers despite mostly uninspired sales results for the 2009 holiday season.

The bad news is that, in many instances, the severity of these corporate cutbacks reflects the expectation among senior executives that demand is destined to remain below pre-recession levels for the foreseeable future.

The “new normal” looks different across industry sectors, so we asked several FTI industry experts what this term means to them.


Bob Duffy

What Will It Take for Top Line Growth to Return?

According to the FTI Consulting 2009 Retail Report, persistent monthly sales declines last year were the worst on record for the U.S. retail sector since the Census Bureau began tracking this data more than 40 years ago. Nominal monthly sales in better-performing retail categories are just now surpassing comparable sales figures of late 2008, while sales in several discretionary categories continue to register monthly declines compared with dismal prior year levels. Overall for 2009, high-level retail sales aggregates declined within a range of 5-7% compared with 2008 – with low double-digit rates of contraction in some discretionary categories. For the U.S. retail sector, sales declines of this magnitude for an entire year are without modern precedent.

The financial shock that hit the U.S. economy in autumn 2008 contributed directly to the demise of two large specialty chains, Circuit City and Linens N Things, and further weakened sales momentum across the nation at a time when the retail sector was already struggling with other challenges. Widespread evidence of the housing bust that emerged by mid-2007 signaled the end of that growth cycle for retail, but the credit crisis of late 2008 was the accelerant few were anticipating.

The U.S. consumer, whose spending accounts for more than two-thirds of GDP, continues to contend with the highest unemployment rate in nearly three decades, stagnant real wages and a housing market downturn soon to hit the four-year mark. Since peaking in mid-2007, household wealth has fallen by 20%. For households relying on home equity for most of their personal wealth, the declines are likely even larger. None of these developments can be reversed quickly. Furthermore, access to consumer credit has either been reduced or become more expensive for tens of millions of cardholders.

By now, we all realize it will take job growth to begin to reverse these unfavorable trends; not millions of jobs, just a clear indication of steady net job creation that will give Americans the financial confidence to splurge a bit.

What Will Be the Early Signs That Growth Is Returning?

A healthy pace of new store openings has usually been a reliable indicator that growth is returning to the sector. Over the past two years, the recession convinced retailers to scale back significantly on new store openings and reduce capital expenditure programs in order to conserve cash amid the credit crunch and flagging sales.

Large retail chains with a regional or national footprint have the best read on consumers’ shopping mindsets, and would be expected to begin opening new stores more aggressively in advance of or coincident with any concrete signs of invigorated consumer spending.

Another flashing green light will be improving operating metrics at retail real estate investment trusts, such as vacancy rates, absorption rates and rent increases. Similarly, improving delinquency rates across retail-oriented commercial mortgage-backed securities would reflect improving tenant performance in the retail real estate market.

When Do We Expect This to Happen?

In our view, robust top line growth for the U.S. retail sector is at least a couple of years off. The economic hurdles in front of the consumer are daunting.

Most troubling is the prospect of a jobless recovery. The Economist Intelligence Unit and Standard & Poor’s expect the unemployment rate to hover around 8.5% well into 2012. High unemployment and job insecurity translate into weak consumer spending.

Job insecurity, economic uncertainty and tight consumer credit are also encouraging consumers to boost savings, which have shot up from 1.7% in late 2007 to nearly 5%. For each percentage point increase in the personal savings rate, consumers forgo consumption of about $100 billion, or nearly 2% of retail sales.

Consumers are shifting their behavior away from excessive consumption.

Unfortunately, the 2009 federal stimulus programs aimed at consumers may have squeezed much of the juice out of 2010. Thus, the mortgage modification program and Cash for Clunkers program may have arguably accomplished little more than a shift in demand from later to earlier periods.

What Will Be the New Normal?

The shake-up in the retail sector has jolted the complacency of every brand name and major chain and compelled them to reconsider growth strategies, rein in spending, prune store locations, renegotiate leases, implement layoffs, and refocus on customers.

Retailers may not see a meaningful upswing in sales any time soon. We expect that nominal retail sales growth rate will be in the range of 2% to 3% going forward – well below the 5% average annual growth rate experienced over the past 20 years. It doesn’t sound like a huge difference, but it is.

Underlying lower retail spending is a fundamental shift in consumer behavior away from excessive consumption and towards greater financial responsibility.  Adjustments that retailers have used to get through this downturn, such as deep discounting, may have created a permanently “deal-conscious” customer to contend with in the future. Those expecting American consumers to return to their spendthrift ways in 2010 or any time soon thereafter may be in for an unpleasant surprise. The party that began for U.S. consumers about a decade ago is definitely over – and the hangover is here.


Carlyn Taylor

What Will It Take for Top Line Growth to Return?

The U.S. media industry was hit particularly hard by the recession, resulting in large double-digit declines in advertising and a secular trend away from print media to the Internet.

The recession’s impact produced the most significant decline in U.S. advertising market revenue in the post-war era. FTI’s latest forecast estimates that the U.S. advertising market dropped nearly 15% in 2009 (see chart below), with the most severe declines in the first three quarters and some recovery in the fourth. Newspapers suffered 25-30% year-on-year declines in advertising revenues in the first three quarters of 2009, radio showed 15-25% declines, with yellow pages sales declines at 20-25%, and magazines and other print publications falling 15-25%.

What Will Be the Early Signs That Growth Is Returning?

Early signs of growth returning to the industry will be tied to economic drivers that impact ad revenue.

According to FTI Consulting, an uptick in consumer spending, employment and business investment spending are all positively correlated with ad revenue. In the fourth quarter of 2009, improvements in consumer spending and business investment started to emerge, although unemployment remains at a severely distressing rate of 9.7%.

That said, the move to the Internet delivery model is expected to continue to mute the effect of a broader recovery in the U.S. advertising market. FTI research shows that expenditures on Internet advertising are cannibalizing traditional media – for every $1 of new spending on Internet advertising, traditional media loses approximately $3.

When Do We Expect This to Happen?

Fundamental financial and technological changes mean that the recovery process is expected to be more prolonged than in other sectors. FTI’s proprietary statistical forecasting model of the U.S. advertising market projects that continuing high unemployment, depressed real business investment levels, and the negative effects of digital substitution will give rise to a slow recovery in overall advertising spending. This, and secular declines caused by the Internet and dilution from ever-increasing media outlets and new distribution methods such as mobile, will push recovery to pre-recession levels to at least 2013 in non-inflation adjusted (nominal) dollars.

What Will Be the New Normal?

As the media industry returns to financial health and sustained growth, it is likely to look very different. The deep crisis has a silver lining: management and owners have the opportunity to go beyond incremental change to transform the business to be more efficient, better serve consumers and devise more successful methods to monetize the expanding opportunity of putting content on the Internet.

Media companies will have to adapt to lower-cost delivery models, such as the Internet, whose share of advertising revenue FTI forecasts will rise from the current 9% of total advertising spending to 15% in 2015. More challenging will be how the industry creatively expands top line advertising revenue growth. One thing is certain: traditional “normal” assumptions will be overturned as firms explore new sales channels and approaches, share content with competitors in new ways, build direct audience relationships, share infrastructure, and leverage new technologies.



Ron Greenspan

What Will It Take for Top Line Growth to Return?

The U.S. residential and commercial markets have experienced one of the greatest boom-bust cycles of the post-war era. As indicated in the chart below, residential and non-residential construction spending have both fallen dramatically from their peaks. Although the bottom of the industry downturn may have been reached, the path and timing to recovery remain uncertain. More favorable macroeconomic conditions are essential for recovery in top line industry growth. This means an improving employment picture and the ability of individuals to deleverage.

What Will Be the Early Signs That Growth Is Returning?

In the residential market we have seen some early signs that growth is returning: prices appear to have bottomed out, there is an uptick in transactions, inventory levels are low, and many markets are stabilizing. In the commercial market, the key prerequisite to spur transactions in office, retail, and hotel properties – jobs – seems far off. Moody’s reports that overall commercial property prices have fallen by 40% from their peaks of late 2007.

Removing uncertainty about the extent of overhang will be a prerequisite for growth. Although it should be a buyer’s paradise, there is little product, as lenders, especially banks, are reluctant to part with properties that will force the recognition of losses. Thus, marking down loans must precede property turnover.

When Do You Think This Will Happen?

The timing is muddied by a few key worrying trends and uncertainty around the economy’s recovery.

In the residential market, it is unclear whether inventory levels are down for fundamental market reasons or because sellers are choosing to withhold properties given the unattractiveness of values. Similarly, the slowdown in foreclosures may indicate that banks are merely holding off the inevitable and will eventually dump a large number of properties on the market.

Finally, by helping to bring transactions to the market earlier that would otherwise have taken place in the near future, the federal home buyer tax credit may have only served to give a false sense of recovery. 

What Will Be the New Normal?

The tremendous fallout in the U.S. real estate market suggests that defining the new normal requires a recalibration of market fundamentals.

The level of transactions and prices of the recent past were an aberration. Put to rest is the belief that residential properties could only appreciate in value. 

Describing a new normal is especially challenging given the magnitude of uncertainty around the key market drivers.



Keith Cooper

What Will It Take for Top Line Growth to Return?

Industrial production was hammered by the financial crisis, particularly durable goods manufacturing (see chart below). According to the Fed, factories in January were operating at 69.2% of capacity, which was up 0.8 of a percentage point from December, but well below the 79.2% average of the past 40 years.
There are hints of economic recovery. The Institute for Supply Management (ISM) composite manufacturing index rose to 58.4% in January, the highest level since August 2004 and the sixth consecutive month of readings pointing to manufacturing growth.

What Will Be the Early Signs That Growth Is Returning?

The clearest sign and spur to broader economic recovery will be when manufacturers reinvest in new capacity. A key question concerning the sustainability of growth is how much of it is inventory replenishment and how much is increased market demand. Much of the better-than-expected 5.7% annualized rate of GDP growth in the fourth quarter came from a pickup in production to balance inventory liquidation.

When Do We Expect This to Happen?

The exact timing of a robust and sustainable recovery is hard to predict. In part, this is because the picture among manufacturers is uneven as some firms are beginning to rehire, but others fear a muted recovery and thus are awaiting clear signs, such as job creation, that could lead to a strong revival in consumer spending.

Data is clouded by inventory movement, the impact of government stimulus, and ongoing efficiency improvements, which have often been the source of recent earning surprises, not the heralded return of demand.

Manufacturers are taking comfort that sales in emerging economies, especially in Asia, appear to be rebounding faster than in developed countries.

What Will Be the New Normal?

Widespread rationalization and restructuring mean that the industry will return leaner and more efficient. And some capacity will not return at all, but shift to lower-cost regions. 

The rise of exporting powerhouses such as China, which is now the largest exporter in the world, will continue to define the new normal. Over the past decade, Chinese exports rose at a compound annual rate of 20% compared with America’s 4%.

The rise of new consumer markets and production capacity guarantee that manufacturing will continue to be a dynamic part of the world’s economy, especially for developing nations.



Mike Selwood

What Will It Take for Top Line Growth to Return?

The global recession hit the metals market in developed countries much harder than in China, which maintained higher economic growth throughout the downturn. Thus, while metals consumption in 2009 was down 25% for the U.S. and Europe, overall world consumption was down only 6% thanks to China and India’s continuing appetite for metals.

Growth is driven by demand for final products that use metals, such as automotive, construction and appliances. Therefore, recovery for the metals industry is dependent on recovery in these consumer and industrial markets.

A key consideration in judging the recovery is the tendency for over-correction in inventory rebuilding. If overbuilding occurs, this would present a misleading picture of the industry’s recovery and would eventually dissipate as excess inventory is worked off.

What Will Be the Early Signs That Growth Is Returning?

Three signs that growth is returning are: 1) bottlenecks in strained value chains, as thinly staffed and capacity-reduced suppliers respond to new orders; 2) rebounding prices for metals and spot prices for its raw materials such as iron ore; and 3) an increase in new manufacturing capacity, as well as the restart of idled capacity.

How these variables play out will depend on macroeconomic conditions. For example, the U.S. dollar strengthening from deflation worries could lead to a rise in imports from China and Canada, crowding out expansion in U.S. capacity. In addition, prices may jump before output increases if metal manufacturing companies are able to wield any market power.

When Do We Expect This to Happen?

New inventory should begin rebuilding and top line growth should return in the second half of 2010.

For some parts of the industry, recovery may be faster given the extent to which inventory and capacity have contracted. For example, in the second quarter of 2009 capacity utilization in the steel industry reached an all-time low near 40%, a level at which growth would likely require restarting idled capacity.
Forecasting recovery is also made difficult by the challenge of differentiating inventory replenishment from final consumption. Ultimately, consistent ordering by consumers throughout the value chain will be proof that a real recovery is under way.

What Will Be the New Normal?

The new normal in the global metals market is likely to see continued global consolidation, which will reduce the volatility of earnings and cash flows.

As a result of consolidation, firms will increasingly have global operations that minimize their exposure to any one geographic market, and these global players will be better capitalized and their size will give them more pricing power.

Finally, a more consolidated industry will enable firms to adjust capacity more adeptly to changes in demand, which prevents significant downward pressure on selling prices, thereby reducing earnings volatility and financial distress.



David Woodward

What Will It Take for Top Line Growth to Return?

The global automotive industry is experiencing an unprecedented transformation. In the U.S., two of the three top original equipment manufacturers (OEMs) reorganized under Chapter 11 bankruptcy protection with financial assistance from the U.S. Treasury. Improving and sustainable macroeconomic conditions are critical for top line growth. Prerequisites include a return to sustainable economic growth, availability of credit and leasing financing, lower unemployment, less household debt, and increasing consumer confidence. Sustainable top-level growth will require efficient and well-designed cars that consumers want to buy.

What Will Be the Early Signs That Growth Is Returning?

Credible signs that growth is returning include an increase in OEM production schedules and inventory levels and improvement in macroeconomic indicators. A sustained increase in global car production with efficient levels of inventory will define recovery. 

Mature automotive markets should be slower to rebound than the faster-growing BRIC economies – Brazil, Russia, India, and China. The U.S. market, for example, is not expected to reach 2007 levels until 2014-15 (see chart below) and a long-term rebound will depend on whether automakers are able to bring new cars to market that excite consumers enough to make these substantial purchases.

When Do We Expect This to Happen?

Global sales volumes should begin to recover in 2010, potentially achieving 2007 levels in 2011. The timing of the U.S. vehicle sales recovery will be influenced by the unemployment rate and the restoration of financial health for millions of U.S. households. In 2010, U.S. vehicle sales are expected to increase from approximately 10 million to 11 million units, with a more pronounced recovery expected in 2013.

Future growth in global production will increasingly be driven by demand in BRIC nations.

What Will Be the New Normal?

Top line growth in the next cycle will likely be slower than in the past as the industry adjusts to shifting market forces and macroeconomic factors.

The long-term impacts will likely include financial deleveraging, rationalization of the dealer network, shift of operating costs from fixed to variable, greater flexibility in labor costs, and a shift from regional to global manufacturing platforms. As a result, the industry should become more focused on developing and delivering products. The shift in demand toward BRIC markets will also have a profound impact on global car manufacturers and parts suppliers.


Published April 2010

© Copyright 2010. The views expressed herein are those of the author and do not necessarily represent the views of FTI Consulting, Inc. or its other professionals.

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