July 18, 2013
The most recent report on cash flow trends from the Georgia Tech Financial Analysis Lab indicated a decline in company revenue growth and free cash. Taken together, the data could be the earliest signals of an economic slowdown in the U.S.
The lab, led by NACM Graduate School of Credit and Financial Management (GSCFM) Instructor and Georgia Tech Accounting Professor Charles Mulford, examines cash flow trends and the underlying drivers causing changes in those trends. The resulting quarterly report, drawn from a total sample of 2,904 companies with a market capitalization of at least $50 million, is focused on free cash flow, what the report calls "the cash flow equivalent of the income statement 'bottom line.'" This is a company's discretionary cash flow, which can be used for stock buybacks and dividends without affecting the firm's ability to grow and generate more.
Dividing free cash flow by revenue generates the report's free cash margin index, which is where the trouble starts in the lab's most recent report, for the first quarter of 2013. In the 12 months ending March 2013, the free cash margin index declined to 4.52% from 4.76% for the 12 months ending the quarter prior. For comparison's sake, the index hit a low of 3.96% in December 2008, during the throes of the recession. Its recent high water mark was 7.18% in March 2010.
Perhaps more alarming than the drop in the free cash margin are declines in revenue growth, the first in seven quarters, and the declining profitability that seems to be driving the drop in the free cash margin. This quarter's report also hosted the first decline in capital spending after 11 consecutive quarters of rising capital expenditures, which paints a picture far less rosy than the one painted by Federal Reserve Chairman Ben Bernanke at the Federal Open Market Committee's meeting last month. Economic activity has been expanding moderately, the chairman noted, and the labor market has been improving, but these cash flow statistics suggest that the Fed shouldn't be too eager to take its foot off the stimulus gas pedal.
"As we begin to see early weakness in revenue growth, companies have become more cautious," the report said. "A decline in capital expenditures causes great concern because a sustainable recovery in the U.S. labor market will require continued improvement in capital spending. If these trends continue, we expect the Fed to continue its accommodative policy."
A full copy of the Cash Flow Trends and Their Fundamental Drivers: Comprehensive Review (Quarter 1, 2013) report, can be found here.
- Jacob Barron, CICP, NACM staff writer
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When Coca-Cola's first-quarter figures came out earlier this year, a big part of the company's success was linked to an escalating strategy of penetrating emerging markets. While second-quarter results were lackluster, its commitment to markets outside those of the slumping United States and European Union appears to offer a bright spot for the beverage maker.
Second-quarter volume for Coke was up a disappointing 1% from the previous quarter and is up 3% for the first half of the year. At the same time, there were declines in quarterly revenue (-3%) and operating income (-2%). Both categories were also down year-to-date.
Coke blames consumer demand slowdown in the EU on the bleak economic situation and domestically on the reality that Americans are simply consuming fewer drinks loaded with sugar and artificial sweeteners. Such factors are less apparent in the emerging economies, even if some of them appear to have lost a bit of their luster among growth analysts.
However, Coke did show gains in volume, revenue and operating income in Eurasia/Africa and Latin American regions. Most notable are the volume gains in Eurasia/Africa (up 9% by quarter, 11% year-to-date). Business has been particularly strong and foreshadows lucrative future conditions in nations like Nigeria, India and Russia, the latter of which holds huge marketing potential for Coke as the 2014 Winter Olympics will be held there in Sochi. Also of note, though Latin America didn't put up numbers quite as strong, especially in profit, it is still a growth area. Along similar lines to Russia, the future Summer Olympics and World Cup competitions scheduled to take place in Brazil in the next few years are necessitating investments the company believes will pay off handsomely down the line, even if Brazil's economy has shown instability in the last year or so.
While Coke's emerging market strategy is not unique, it does underscore how the potential in emerging markets, which is only just starting to be tapped, can boost companies failing to generate the same kinds of sales they're used to because of a sputtering American recovery and continued degeneration in the EU.
- Brian Shappell, CICP, CBA, NACM staff writer
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The fifth round of the U.S.-China Strategic and Economic Dialogue wrapped up last week, leaving in its wake a litany of potential routes the world's two largest economies could take to greater economic growth. Both parties will have to wait to see if any of these proposals yield anything greater than good intentions.
Two developments are particularly noteworthy. As the meeting came to a close, China announced its intention to begin negotiations with the U.S. to create a new, high-standard bilateral investment treaty (BIT) that, for the first time, would cover all phases of investment, including market access, and all sectors of the Chinese economy, excluding any negotiated exceptions.
The U.S. Treasury noted that it considered the new BIT "a priority for the United States" and a critical step toward leveling the playing field, which has always been the dialogue's goal. "A successful BIT negotiation would open up China's highly restrictive system to foreign investment and help create a wide range of opportunities for U.S. firms to participate in the Chinese market," said the Treasury following China's announcement.
Another notable outcome of the meeting was China's commitment to open up further to foreign investment in services, including through the establishment of the Shanghai Free Trade Zone pilot. Details about the Free Trade Zone have yet to be finalized, but the pilot program is, according to Treasury, "expected to permit foreign enterprises to compete on the same terms as Chinese firms across a wide range of service sectors."
A number of other proposals emerged from the meeting, and while their effects on trade between the U.S. and China might get watered down as they make their way from proposals to policies, each of them points to China realizing that its old economic model, built on exports, massive foreign investment appetite and cheap labor, is no longer as viable as it once was. As NACM Economist Chris Kuehl, PhD observed, China's growth has become slower than normal, but this hasn't garnered much in the way of stimulus from the Chinese government. "In the past, the Chinese have been eager to push money into the system through direct and indirect stimulus," said Kuehl. "That is really no longer an option, as somewhere along the way China developed the same problem with debt that the rest of the world has."
Though China owes most of this debt to itself, debt is debt, and its presence has forced officials to reconsider their approach. "It is not that China is suddenly going to stop exporting," Kuehl noted. "It does mean that China will resist helping the export sector with actions that risk inflation. There are fewer subsidies and less concern about keeping the currency low to favor them," he added, a development that could make U.S. companies more competitive in the Chinese markets, when coupled with some of the proposals that arose from last week's meeting.
- Jacob Barron, CICP, NACM staff writer
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Federal Reserve statistics unveiled July 16 indicate industrial production increased in June following a stagnant May. However, only a few industries really have room for celebration.
The Fed noted industrial production saw a 0.3% uptick last month and, for the quarter, saw an annual rate increase of 0.6%. Total production on a year-over-year level, was up 2%, and remains short of the average in 2007, when the economy started its well-documented fall into recession.
Within the numbers, consumer goods flipped from a slight decrease in May to an increase in June (0.5%). However, this area seemed to be carried somewhat by bigger gains in automotive products (1.4%) and consumer electronics (2.2%). The Fed index tracking business equipment production rose 0.5% after slight decreases in the previous two months. Non-durable goods appear to be slumping, according to the Fed research.
In short, while a badly needed gain was noted, the statistics provided an all too familiar murky picture: one where growth is only slightly better than anemic, yet one that does not foreshadow another slide into recession.
- Brian Shappell, CBA, CICP, NACM staff writer
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Commercial bankruptcies have been on a steep decline all year, and the latest figures have continued to bear this out. There were 23,471 total commercial filings for the first six months of 2013, marking a 25% decrease from the 31,088 filings during the same period in 2012. Commercial Chapter 11 filings also fell to 3,445 in the first half of 2013, representing a 16% decline from the 4,120 commercial filings during the same period last year.
Sustained low interest rates have created what American Bankruptcy Institute (ABI) Executive Director Samuel Gerdano referred to as "a new normal of reduced bankruptcies, as consumers and businesses continue to deleverage in a sustained low-interest-rate environment." Gerdano also noted that ABI expects this trend to continue for the remainder of 2013.
Last month alone there were 3,458 commercial filings, representing a steep 26% decrease from the 4,677 filings during June 2012. Chapter 11s also saw a drop in June 2013, though not as deep as commercial filings overall, falling 9% from 547 filings in June 2012 to 496 last month.
The average nationwide per capita bankruptcy filing rate for the first six months of 2013 decreased slightly to 3.51 total filings per 1,000 per population, down from 3.57 in the first five months of the year. There were 2,786 average total filings per day in June 2013, a 16% decrease from the 3,305 daily filings in June 2012. Regionally, states with the highest per capita filing rate for the first half of 2013 were Tennessee (6.69), Georgia (5.83), Alabama (5.69), Illinois (5.40) and Nevada (5.38).
Low bankruptcy figures have been rough on bankruptcy law firms, and while the downward trend is expected to continue, it won't continue forever. As the Fed has noted time and again, once the job market recovers, it will consider raising interest rates in order to reduce inflationary pressure. Such an increase, however minor, could spur a new wave of bankruptcies among troubled consumers and businesses.
- Jacob Barron, CICP, NACM staff writer
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The Manual of Credit and Commercial Laws, Volume III: Construction Issues is new for 2013. Language and state laws have been updated throughout the entire volume including:
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Watch for future updates of volumes I, II and IV.
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