Entering 2011: a tale of two economies

In January of 2009 I blogged here titled “The Strategic Triple Threat” At that time, Congress had just passed the TARP act, saving the world from financial meltdown. The Federal Reserve was predicting a short recession followed by a resumption of historical growth rates by the end of 2009.

I quoted Peter Drucker then, and do so again now, “I don’t predict the future. I merely look at what has happened already and calculate the inevitable results.” In 2009, I looked at the sub-prime numbers, the overexpansion of retail capacity, and consumer debt. These were structural issues that needed a lot of time to work through the system. The “Triple Threat” of my paper was:

A recession that would be longer and deeper than any in recent memory
A recovery that would be slow, and not feel very sprightly regardless of statistical measurements, and
A consumer economy where spending and debt would be far less than in the prior decade.

The fact that I was right then doesn’t make me infallible, but I’m taking another shot at what I see for 2011-2012. Again, I think most of what I “predict” is inevitable.

My original intent wasn’t to post this here, because it is so favorable to the local economy in San Antonio, while offering much less encouragement (or analysis) of the nation’s direction. What is, is. I think the contrast between our opportunities here in South Texas, and the overall climate in the US, already pronounced, is going to become stark. This is due in part to luck. We can’t pooh-pooh the realities of the business economy here compared to many other places, however. In my blog later this week I’ll discuss what South Texas does that makes it so attractive.

Most of the broad thinking here is equally pertinent to both local owners and those elsewhere.

National Economy Remains Stagnant

First, the bad news for the national picture: While there are clearly signs of a revived economy, it will be spotty. Some major economic generators, like construction, will continue to limp along. The major issues that triggered the recession have not in any way been resolved. There are still a huge number of residential foreclosures working through the system. Some 80% of the homes in delinquency have not yet been addressed. In fact, some measures indicate that the rate of foreclosures continues to accelerate. There will continue to be a glut of homes on the market, and pricing in the most depressed parts of the nation, especially Florida, California, Arizona and Nevada, which will continue to slide.

The situation described above is due to the subprime mortgage market. The Alt-A, or non-documented mortgage market, will not begin resetting in large numbers until the middle of this year. Because the income supporting these loans wasn’t documented, no one can predict how many may be unsupportable.

According to the Federal Reserve, commercial defaults track residential by exactly two years. If this is still the case, we have not yet seen the beginning of the commercial default wave. Local pricing on commercial property seems to be holding up, however.

Almost two hundred US banks failed in 2010. Astonishingly, as of this writing NONE were in Texas. That may give you an inkling of why I’m calling this “A Tale of Two Economies.”

We have seen four federal stimulus bills since the end of 2008. TARP kept the financial system working, but did little for small business. “Saving Wall Street at the expense of Main Street” is a valid criticism.

The Economic Stimulus Act of 2009 was ballyhooed as going to “shovel ready” projects across the nation. Why then, did we see so little new job creation? An examination would make the callous observer rename it as the “Public Employee Job Preservation Act.” Many of the projects that were funded by federal funds were already in the states’ budgets. The money originally committed was then reallocated to avoiding layoffs in the public sector. One Obama administration official, in an unguarded moment, said that the bill had “saved the jobs of 600,000 teachers.”

There is not another trillion dollars going to states with few strings attached. Their next budget cycle will be much tougher.

The third stimulus, the Small Business Job Creation Act of 2010, is one of those things that came out of Washington so misnamed that you had to think of Dr. Strangelove. Banks, under pressure to clean up their loan portfolios, had already begun to use SBA guarantees to cover loans that would normally be considered commercial grade. The act allowed them to use the SBA funds for much larger and more credit-worthy borrowers. The small businesses that were getting squeezed out of the credit markets got squeezed even tighter. Similarly, the tax breaks allowed larger companies to protect more profits. For a small business struggling merely to make a profit, there was nothing at all.

The fourth stimulus, the extension of the Bush tax cuts and additional tax breaks, added another $800 million of unfunded spending to the deficit. While avoiding new taxes at least doesn’t shrink the economy, few people are going to spend more when their post-tax income remains the same.

The biggest boost from the tax bill is supposed to be the 2% reduction in employee Social Security. Again, notice that there is no reduction for the small employer. I’ve heard a number of pundits claiming that an employee making $30,000 a year will rush out to spend the extra $11.50 a week he will be seeing in his paycheck (and not use it to pay down his enormous credit card balance.) I guess enough people doing that will have some effect, but I’m skeptical.

The Federal Reserve predicts that unemployment will start to decrease in the second or third quarter of 2012. If this is true, then we will need to have two or three more compromise measures to extend unemployment benefits, or else exacerbate the states’ financial woes. It’s not a great picture.

Because I am only focusing on a two-year window, we won’t go into the issues concerning deficit spending, budget entitlements and the national debt. I recommend a very unbiased, non-partisan and clear-headed discussion available at www.iousathemovie.com.

Now the Good News for South Texas

While US job growth in 2010 just barely kept up with population growth, 45% of the new jobs created in America from January through June 2010 were in Texas. We have dodged the recession bullet, and are well-positioned for any recovery. In fact, Fortune magazine lists all 4 major Texas cities amongst the 50 cities in the world best prepared for economic growth.

The year is closing with oil prices in the 90’s, which helps Texas producers. We are the fourth-best state in our public pension funding balance. Our unemployment is the lowest of any large state, and the Federal Reserve predicts San Antonio to return to between 6% and 6.5% unemployment by the middle of 2011.

Quite frankly, our recession is over. If you conduct business nationally, or sell to national customers, there are still many challenges. There are still issues in making money in construction-related fields, or if you need financing as part of your business. To be brutally honest, however, if you are a local business with local customers, and you are still blaming poor performance on “the economy,” it’s time to look somewhere else for the blame.

And Now Some Really Good News

San Antonio is a gem in the economic picture. It might be the gem in the national outlook. The influx of major economic generators over the last five years has largely been forgotten, but in reality hasn’t started paying off yet. Here’s a rundown:

Toyota: The addition of the Tacoma line to the San Antonio plant did more than just add another 1,000 jobs to the workforce. Toyota’s mid-size truck is presumably more recession and gas-price resistant than the big Tundra. The workforce really came up to speed in the third quarter of this year, and presumably is more confident of their paychecks than when being furloughed through 2009 and earlier this year. We can presume that their economic impact will increase as long as sales hold up.

National Security Agency: The NSA has been termed by one prominent developer as having a “bigger economic impact than Toyota.” Originally projected for 600 jobs, the rumor mill (NSA does not release information) says that the infrastructure at the facility seems to be intended for 2,000 to 4,000 staff. These are high paying positions, recession proof, and a big support for the growing local information-security industry. Staffing is just beginning, so we have yet to feel any significant benefit yet.

Army Cyber Command: While unknown in dollars and jobs, ACC’s arrival a few months ago further enhances the information security industry, and UTSA’s cutting-edge department for that specialty.

MedComm: The construction at Fort Sam Houston and BAMC’s replacement of Willis Reed is coming close to completion, and the transfer of 12,500 military personnel to San Antonio is scheduled to begin in the middle of 2011. The number of related civilian support jobs has not been announced yet.

Caterpillar: The consolidation of two engine factories to a new plant in Seguin is almost done. The first 300 or so employees of a projected 1400 have been hired.

Eagle-Ford: The oil shale south of San Antonio is projected by some to be potentially the biggest find in North America. Several billion-dollar deals have already been struck; hotels from Poteet to Eagle Pass are fully booked for months in advance and stories of instant millionaires abound. Projected investment over the next 20 years is over $3 trillion dollars. San Antonio is the closest city for services, finance, supply and transportation.

Other: In the last year San Antonio corralled Allstate operations (600 positions), InCube (biotech incubator), VMC (600 positions in 2011), Petco’s finance department (400 positions), and Kohl’s e-commerce center (1,000 positions). Microsoft, Lowes and Frost datacenters, as well as Medtronics opened here the year before. Continued drug violence along the border has driven thousands of well-to-do Mexican nationals to buy homes and invest in the area.

Anecdotal: Our members report increased planning for major industrial projects, strong hiring in service industries, a recovery in high end restaurants, and busy architects (a leading indicator.) On the gloomy side, commercial construction is being bid at low or no margin, commodity prices are increasing rapidly, and industrial supply markets are flat.

Where are the Opportunities?

Success in the next two to three years will be largely tactical. It’s always vital to have a clear picture of your strategic objectives, but 2011-2012 will be more about where and who than what.

The success of your business may depend largely on picking the right customers and the right markets. For example, if you are focused on selling services to homebuilders in Florida, you’re going to have a very difficult time of it. On the other hand, if you are selling modestly-priced goods or services to local consumers, the vast majority of market variables are arrayed in your favor.

Generally speaking, I think that by the end of 2011 San Antonio will be riding a wave of prosperity that’s been building over the last 5 years. We are starting from a strong (or at least “less weak”) position, and we are about to realize the economic impact of a half-dozen major additions, two or three of which are long-term game-changers.

A rising tide lifts all boats, but this tide won’t lift all equally. Here’s what the major markets look like.

Federal Government: For many who sell to the Federal Government, it’s been a lifesaver over the last two years, and actually over the last decade. The vastly increased spending of both the Bush and Obama administrations is coming to an end. It won’t be sudden, and the sheer size of the Fed makes them a desirable customer at any time. If you are considering approaching government sales for the first time, however, you will probably be facing entrenched competitors fighting over a shrinking market.

State and Local Governments: This is going to be the area of greatest pain. As one Texas legislator said “If a bill requires new funding, just mark it DOA.” States will be scrambling for new revenues, and looking to preserve as many civil service positions as possible. That paints a bleak picture for new outsourcing. Local governments are going to be on their own for funding new projects or increased services. Requests for proposal will seek reduced costs, but probably not at the expense of staff cuts.

Corporate America: In contrast to government, large corporations will be more willing to outsource, and to reduce their own head counts. Corporations are holding large cash reserves, which will likely lead to a new round of M&A activity. If you are dealing with an acquired company, however, expect any post-acquisition streamlining to be deep and fast.

National Markets: High unemployment, consumer debt and very limited financing availability will continue to be the dominating factors for the next two years. Real estate and construction will see little or no new activity nationally. The influx of new competitors seeking business in San Antonio will increase. Many of these are lean and tough, and will become a permanent part of our landscape.

San Antonio: As I’ve already stated, the local market is going to offer the best opportunities for growth in the country. Barring another national economic meltdown, we should thrive almost without regard for the issues facing the rest of the country.

There will be a big change in the local market. San Antonio’s days as a backwater, with limited competition and business relationships built on personal friendships, are coming to an end. We’ve attracted the attention of the rest of the country. Local businesses can no longer depend on passively taking their “rightful share” of a growing market.

What Should I Be Doing?

Most of our TAB members are locally-focused businesses, and therefore have the greatest potential for growth. The beginning of an upswing offers great opportunities for those who are early movers. Your timing has to be right, and you have to walk a line between holding back too long and wasting resources by moving too early. The reality is that those who act while the competition is still hunkered down realize disproportionate benefits from their efforts. Here’s what every business can do to prepare.

o Fine tune your workforce. It’s never easy to find great employees, but in another six months it will be even tougher. If you have been waiting to fill one key position, or to expand your capabilities, now is the time to start looking.

o Plan your sales and marketing for the next year, now. Too many businesses won’t commit to outbound efforts because their phone isn’t ringing. When it does, you will be too busy to plan. Reaching out to prospects now will identify the ones who have the greatest potential, and put you on the minds of the ones who will be ready later in the year.

o Profile your ideal customers, and focus on them. During slow times we tend to take on anything that produces revenue. When things get busy, we are too slow to trim the customer list to those that really make us money. Commit now to limiting new business to what you want, rather than whatever you can get.

o Work on your value proposition. While business will increase, the cost consciousness drilled into all of us over the last 3 years won’t disappear. You need to be able to clearly explain how doing business with you will contribute to your customers’ success.

o Prepare your team. Many owners tell me that their employees are getting “burned out” from working harder with a smaller staff. Let them know that growth is not going to mean a return to the times when you hired just because there was “too much work.” Enlist them in exercises about how you can accomplish 10% or 20% more without adding people. Build an expectation that more work means more success, perhaps by introducing an incentive program.

o Lock in costs wherever possible. Inflation has been flat for two years. All economic cycles come to an end, and there is backed-up pressure for price increases. If you can commit to longer term deals at current pricing, you should.

o Test the waters on price increases. Most companies’ margins shrank in the recession. Your costs (especially health care) are not going to decline. Choose a specific product or service, perhaps one where you add particular value, and begin testing the market for price resistance. In our experience, your fear of blowback is far greater than the actual reaction.

Perhaps most importantly, change your attitude. I’m hearing owners say “We’ve had a good couple of months, but I’m afraid it’s only a blip.” Watch your metrics, and be ready to act on trends. The only thing you can be sure of is that if you are waiting until you are absolutely sure beyond any shadow of a doubt, you will be too late.

Good Hunting!

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