Four Reasons Why There Is No 'Pent-Up' Capex Spend
Consensus seems convinced (and short-term market prevarications suggest) that once we get past the 'uncertainty' of the fiscal cliff, then there will be a surge in pent-up spending from companies in the first half of 2013. Morgan Stanley's Adam Parker snubs the mainstream meme and looks at the data - finding four significant reasons why a surge in capital spending is unlikely. From 'average' sales-to-capex ratios and manufacturing utlization to inventory levels and the overall trend in deprecation, Parker interestingly questions whether "high capital spending is ever good?"
Via Morgan Stanley,
The consensus sees pent-up demand for capital spending from C-level executives ready to spend, but who want clarity on a number of laws that may change in the coming year. While no doubt uncertainty has weighed on corporate decision-making, we thought it might be timely to look at capital spending trends a bit more holistically. Our conclusion – a large capital spending surge is unlikely.
Is high capital spending ever good?
We analyzed the correlation between changes in capex-to-sales and prior, current and future sales growth.
If capital spending picked up in the energy sector following a fiscal compromise, that would likely be more bullish than it would be for telecom, as the former is historically associated with future sales growth, whereas the latter is generally a reaction to past sales growth. While we don’t see it as likely, a capex ramp in technology and materials is typically positive for higher sales later in the subsequent year, even if it causes a nearer-term sell-off in stocks. Generally, though, low capital spenders have usually been rewarded relative to their high-spending counterparts.
In health care and materials, higher capital spending historically has been much better than in technology or telecommunications.
Investment conclusion: Four reasons why we don’t think a large capital spending surge is likely.
1. Current and forecasted capital spending-to-sales levels: While global capital spending relative to sales is forecasted to be down in 2013, it is close to average levels over the past decade.
Four of ten sectors (utilities, materials, energy, and technology) are forecasted to have above “trend” capital spending to sales for 2013, so upside surprise is not as likely here.
2. Manufacturing utilization: While utilization levels have risen sharply from the 2008 lows, recent trends have slowed.
The steadiness of the recent decline and the ample room for higher utilization until capacity is tight suggest that a surge is not likely. Only six of 22 major industries have utilization levels above their long-term average.
3. Trend analysis: We analyzed the cyclical level of D&A expense (above the trend level) and compared it with capital spending expectations at the industry group level.
On the margin, we think staples and technology may spend more capex in 2013 than industrials and consumer discretionary stocks, relative to current expectations.
4. Inventory levels: Structurally, global inventory-to-sales has been downward sloping for years. However, over the last decade or so, inventory levels have stabilized at just less than 10% of sales.
While US inventory levels seem leaner than those outside the US, a big inventory build requiring a capacity surge seems implausible. Perhaps auto components, electrical equipment, and construction could see some build, particularly relative to communications equipment.
Source: Morgan Stanley