Reversing the Aging Process

When it comes to capital investment in plant, property, and equipment, age is more than just a state of mind.
David W. OwensMarch 18, 2016

According to the most recent Duke University/CFO Magazine Global Business Outlook survey, U.S. executives see their companies in something of a holding pattern, generated by uncertainty and slippage in a number of large economies around the world. But, in contrast to the widespread paralysis that accompanied the fall into the Great Recession, today’s executives are not flinging their hands up in despair. Instead, they are taking a hard look at their aging asset bases and deciding where to invest for the future.

Of course, CFOs are not about to let their companies go on spending sprees right now. In the fourth quarter of 2015, 41% of U.S. respondents said they were less optimistic about economic conditions compared with the third quarter. And although their confidence in the prospects for their own companies remained strong compared with other regions of the world, it showed no improvement from the third quarter, coming in at 65.9 on a scale of 100.

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This wariness may help account for the fact that U.S. executives expected the average increase in capital spending over the next 12 months to be 2.6%, down from projections that were close to 6% in the first half of 2015. As a respondent from the financial services sector wrote, his company was “[choosing] to hold cash or buy shares rather than spend on investments in this environment.”

aging asset 16Mar_DD_p44v2But other executives thought differently and felt their companies should indeed be positioning themselves to start spending again. In fact, approximately half (49%) of the survey’s U.S. respondents said that their companies needed to be thinking about ramping up capital investment. That was a little less than four times the number of U.S. respondents (13%) who thought their companies would require less capital investment going forward. (See Figure 1.)

As one manufacturer commented in regard to the need for additional capital investment, “If you’re not growing, you’re dying.” Most executives in the survey were not willing to give up the ghost quite yet, despite their apparent disappointment in the sluggish pace of economic and business recovery.

Rejuvenating the Asset Base

In part, the need to make additional investment is the natural result of the inability to do so during the recession. In explaining why his company would be spurred into new capital investment, a survey respondent wrote, “Deferred capital spending during lean years leaves a growing need to reinvest in physical assets.”

A majority of U.S. respondents pointed to similar concerns, with 54% reporting that their companies’ fixed assets had aged relative to five years ago. (See Figure 2, below.)

So now may be the time to start addressing the problem. Many of the respondents indicated they were reviving their growth ambitions — or at least not abandoning them. An executive from the manufacturing sector indicated a forward-looking perspective when writing that more capital investment was required to get the company ready for “eventual growth after [the] current downtrend.” Simply put, wrote another executive from a manufacturing company, “growth is not scalable now without more capital spending.”

16Mar_DD_p45aThe good news is that finance and corporate executives in U.S. companies are confident that theywill be able to handle the challenges presented by a gloomier outlook for the global economy. They are more inclined to build up their companies’ core capabilities than revert to another round of cost cutting simply to keep their corporate heads above water.

The devil, of course, is in the details, and different companies will be pursuing different avenues for investing in their futures.

Spending in Place of Hiring?

Some companies will be turning more to capital investment to overcome ongoing difficulties in hiring. Despite unemployment rates returning to levels that can be considered normal, finding and maintaining qualified employees remains one of the top concerns for U.S. respondents — just behind economic uncertainty and the rising costs of benefits.

As an executive from the mining/construction segment of respondents wrote, “We need better equipment that works more efficiently; each labor dollar spent must be more productive. The inability to hire and retain employees means technology must take the place of workers.” Four in 10 respondents (39%) agree, viewing their companies’ aging asset base as a drag on productivity. (See Figure 3, below.)

Especially in industries that may have deferred investment because of the sluggish economy, it is becoming critical to start thinking ahead. “Our plant equipment is aging, and new equipment is just now hitting the market,” said an executive from the manufacturing sector. “We will need to invest quickly over the next few years to maximize the productivity gains.” Another executive from manufacturing wrote that his company would require new capital investment “to increase production efficiency, as machines will replace people.”

16Mar_DD_p45bIn a previous Business Outlook survey (third quarter of 2014), half of all the companies surveyed reported that they had already implemented, or soon would implement, labor-saving technology, such as robots. These technologies would allow them to maintain production but with fewer employees. Among the companies making those kinds of investments, the average reduction in the needed number of employees was approximately 10%.

However, not all of the new capital investment will be directed simply at reducing headcount. Depressed outlooks for economies in other parts of the world may also mean that U.S. companies are bringing more production back home. This would further boost the need for capital investment, as pointed out by the executive from the Q4 2015 survey who wrote that his company would be “adding more automation in order to on-shore manufacturing and still remain price competitive.”

Even in what are considered “asset-light” industries, the need remains for additional capital investment. In many cases, the need is for technology required to adapt to evolving business models. A respondent from the financial services sector wrote, “Growth requires facilities expansion and greater investment in technology, which is also driven by more technology-oriented delivery of our products and services.”

Another noted that “business [is] requiring better data, so more technology spending will be required.” Still others pointed to the advent of new technologies, such as 3D printing, as the impetus for new capital investment.

Whether it’s to modernize plants, lay the groundwork for future growth, or take advantage of technological capabilities to operate more efficiently, U.S. finance and corporate executives appear poised to address the challenge of an outdated and aging asset base. The motivation to do so lies in their determination to overcome a sluggish global economy and the resulting fierce competition for reluctant markets.

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