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SLOW: CURVES AHEAD

Dec 1, 1998 12:00 AM


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In 1999, the commercial printing industry will see growth slow with the economy, the pressure to diversify continue to drive consolidation deep into the industry, and the gap between profit leaders and everyone else widen.

Printers already sense this economic reality. Just 33.1 percent of the National Assn. of Printers & Lithographers (NAPL) Business Panel (a diverse group of 500 companies surveyed monthly by the Printing Economic Research Center) expect business to improve during the six months ahead. That's down significantly from 44.2 percent in March. These numbers reflect a coast-to-coast moderation of expectations.

The global economy is in trouble and it is starting to hit home. Although the trouble started in Asia, the network of multi-trillion dollar trade, currency and capital markets that define today's international economy quickly transmits events--positive or negative--across the globe.

Before the trouble started, exports were the American economy's unsung hero, growing an average of 8.1 percent per year between 1990 and 1997--that's better than three times the 2.3 percent average annual growth of GDP. Last year, exports totaled $970.2 billion, more than double the $402 billion figure of 10 years earlier, after adjusting for inflation, and rose to a record 13.3 percent of GDP. However, Asia accounts for nearly 30 percent of America's sales abroad. With Asian markets in disarray, exports will grow just 1.3 percent this year, according to Blue Chip Economic Indicators. This is the worst performance since 1983.

Fortunately, strength at home has been offsetting weakness abroad. The U.S. economy continued to grow handsomely through mid-1998 on the strength of business spending for capital equipment and consumer spending for practically everything.

For several years, U.S. business has been investing heavily in capital equipment to stay competitive both internationally and domestically. The investment boom continued during the first half of 1998, with real (inflation-adjusted) capital spending increasing a remarkable 18.3 percent.

The consumer spending boom continued too. Since consumer spending accounts for about 67 percent of GDP (versus about 10 percent for business spending), the economy doesn't go anywhere fast unless the consumer is on board. So far, the consumer has been on board big time, spending more robustly during the year ending June 30, 1998 than during any 12-month period since 1986.

What happens next depends on the answers to three critical questions. How much will businesses reduce capital spending and employment in response to thinning margins? Corporate profits fell 0.3 percent during the first half of 1998, the first decline since the 1990-1991 recession. Of course, some of the pressure on bottom lines is coming from abroad, but some is coming from home as the wage-productivity gap narrows. Hourly wages increased 4.2 percent while productivity increased just 0.2 percent during the second quarter of 1998.

When costs of doing business race ahead of productivity, the difference is either passed along as higher prices or comes right off of the bottom line. A slowing economy that is wrestling with increased competition from troubled trade partners makes the second outcome much more likely. As profits fall, businesses are forced to cut back or delay capital spending. If the profit squeeze isn't arrested, the layoffs start, transforming a slowdown into a recession.

Can the consumer keep it up? All that spending has come at the expense of savings, now down to a record-low 0.9 percent of disposable income (from 5.7 percent when the current expansion started seven years ago). Also, the confidence that converts income into spending will fade quickly if the profit squeeze is serious enough to bring layoffs or a bear stock market.

The job market is already weakening--nonfarm employment grew just 66,000 in September, limiting job growth to 499,000 last quarter. That's down from 1.2 million during the same period a year earlier. Additionally, the Conference Board Index of Consumer Confidence fell for the fourth consecutive month in October and is now 15.1 percent off the 29-year high hit in June.

Can we find the right policy mix to arrest the international economic crisis? Inappropriate economic policy--such as Japan's decision to burden a feeble economy with an increase in the value-added tax, is a leading cause of recession. Can interest rate cuts alone correct the crisis? Do we need massive fiscal stimulus? Or is the process too far along?

World leaders must move aggressively to reverse deflation and collapsing demand and to slow an accelerating international credit crunch. Many have an important role in healing the global economy, but not one--not the Federal Reserve, not the U.S. Treasury, not the International Monetary Fund--can do it alone. Today's global economy requires an unprecedented degree of international economic and political cooperation.

Some of the choices ahead will require profound changes in national habits. Others will be politically unpopular. None will be easy. Japan must let insolvent banks fail, supervise the survivors better and cut taxes to stimulate domestic demand. That's not easy for a nation accustomed to exporting, saving and keeping a cozy relationship among government, banks and big business.

Americans must accept bigger trade deficits with export-dependent developing nations. That will give protectionists plenty to yell about. The Fed has to provide the dollars the world demands, even if that increases the risk of inflation down the road.

Simply put, consequences of deflation today far exceed the risk of inflation tomorrow. Regardless of its long-run promise, how many members of Congress relish campaigning for a Marshall Plan for Russia?

The betting right now is that global economic crisis will slow the American economy considerably--GDP will grow just 2.2 percent in 1999, sharply down from 3.4 percent in 1998 and 3.8 percent in 1997, according to Blue Chip Economic Indicators--but will not drag it into recession. If that happens, print sales growth will slow to 3.5 percent to 4.5 percent next year from about 6.5 percent this year. The slowdown will be felt across our industry, as Figure 2 shows. But if there is a recession--and no one can rule that out--the numbers will be a lot worse.

Either way, printers must be aware of two things. First, business will not be nearly as favorable over the next 12 months as it has been over the past 12 months. In an industry as competitive as print, it doesn't take a recession to squeeze profits--even a slowdown can do it.

Second, whether selling around the world or around the corner, every printer is part of the global economy. The great lesson of the past two years is that there is no more them versus us. What happens in Tokyo or Moscow or Mexico City affects more than ever what happens in Washington--and Peoria. Regardless of how much the economy slows, the pressure for printers and prepress trade shops alike to diversify--in effect, to keep getting into each other's business--will continue to build. What are they diversifying into? Everything from database management and facilities management to CD-ROM production and Web page design (See Figure 3).

Why are these companies diversifying? Because customers request it (90.5 percent), to better serve existing customers (90.3 percent), to keep pace with the market (79.9 percent), because the competition is (72 percent) and to reach new customers (67.5 percent), according to companies surveyed by NAPL and the International Prepress Assn. (IPA).

How do printers and trade shops plan to diversify? The majority plan to bring everything in house. Their goal, simply stated, is to offer one-stop shopping. But significant minorities plan to diversify by partnering or through merger and acquisition, reasoning that emerging services the market demands carry steep learning curves that can drain profits. Therefore, hooking up with someone who has already climbed the learning curve might be the quickest path to profitable diversification.

The desire to diversify by partnering, merging or acquiring is bringing a new kind of consolidation to our industry--one that is based on profound structural changes in the way people communicate. As a result, it extends to companies of all types and sizes and will continue regardless of where the economy and Wall Street go.

The deep divide between the printing industry's best companies and all the others will also continue, widening even further as the economy weakens. Our industry is split between a small minority of companies that are enduringly successful and a large majority that struggles, often overwhelmed by the changes that redefine their businesses.

The minority consistently turns in growth and profitability rates several times the industry averages, letting the id ea that print is a mature industry be their competitors' problem. Interestingly, the leaders NAPL studies turned in some of their most impressive results during the 1990-1991 recession, growing a remarkable 17.8 percent on average, while the industry overall was contracting 0.5 percent. That's not an accident. The best always capitalize on the availability of quality labor, favorable deals on equipment and materials (vendors are vulnerable to economic downturns, too) and other unique opportunities a harsh economy brings.

What makes a long-run leader? It's a complex answer, but clearly leaders develop a degree of immunity to general downturns through careful client selection. Because immunity is never complete--the economy is always changing--they also develop a highly effective advance warning system. Exceptionally intimate client contact alerts leaders to downturns--a great advantage. After all, you can prepare for anything if you know it is coming.