From the Horse's Mouth

By: Chad Hudson | Thu, Jul 22, 2004
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Earlier this month, retailers and automakers reported that June sales slowed significantly from the previous pace. There has also been a recent spate of conflicting economic data as well. As more and more companies started reporting second quarter results, the slowdown in June appears to be widespread. While, it could be the turn in the economy we have be waiting for, preliminary indications show that July has picked up a little. Target said that its sales are back on track and following their plan of 2% to 4% same store sales. Several companies addressed the slow period during their second quarter earning conference call. I've included several excerpts from the conference calls that offer explanations.

Earlier this month, several enterprise software companies indicated that sales that were expected to close toward the end of June didn't materialize. CDW Computer Centers reported that average daily sales increased 22% from last year's level. During its conference call the company said that software sales rose 23.7% year-over-year led by products from Adobe, Microsoft and Symantec. Notebook revenue and volume increased 44%, while server revenue climbed 29% with volumes up 26%. During the conference call, the company said that if pressed, Federal government spending was the weakest segment. And similar to the enterprise companies, sales slowed in August as well. Here is their explanation of what happened.

When things slow down a little bit in June, we looked at literally every single thing we can look at, and by the time we were finished looking and hadn't come up with an answer sales growth had begun to pick up again. So it is really interesting; it was just for whatever reason a slow couple of weeks.

Along with retailers, the automakers experienced one the slowest months in several years, and AutoNation was not immune. Similar to CDW Computer Centers, they didn't offer much of an explanation for the weaker results.

You know, we've discussed this very question intensely, internally, and have come to the conclusion that we don't have the wisdom to give you the answer, quite frankly. So, it's a bit puzzling, because as you say, all the ingredients were there for a good month. I think going back to what John said earlier, it would seem to be that a pricing opportunity was taken, net pricing opportunity was taken, and the marketplace pushed back. Incentives have now changed for July, so we have to see where July comes out.

Additionally, later in the call when asked if incentives have lost their luster:

You know, I think the consumer is pretty smart and can sense the net pricing equation and also the consumer has learned to wait, that these-- the call to 'buy now' to get an incentive because it's going to go away lacks any credibility because the record is that there's no price to wait. As a matter of fact, you can be rewarded for waiting with an even higher incentive. So the call to action component of incentives is completely gone, in my view, and that then brings you to a net pricing equation as being a more realistic way to look at what's going to happen in the marketplace.

The price of steel has been a major topic and steel companies have seen explosive earnings growth. At AK Steel, volumes increased 12% and price improved by 22% to $835 per ton. Company sees a very strong steel market and demand currently outpaces supply both in the US and abroad. Carbon products are sold-out for July and August, and they have not opened their book for September yet. The stainless steel spot market is sold-out for the third quarter along with electrical steel. Company said that this is a global situation and is not just confined to the US. The company pulled from Dickens in describing the current market. It is the best of times for the steel market, but the worst of times for raw materials. Looking ahead, the company plans a $25 per ton (3%) price increase in the third quarter. This will only keep pace with rising input prices. When asked what their outlook is for the steel market, here is their reply:

Again we're sold out. That is about the best indicator I can give you that the market remains very, very strong. We have not yet open the order book for the fourth quarter, but there is a fair amount of demand pent-up there.

It is not only a U.S. phenomenon. Both in the case of electrical steels and stainless, we continue to see some very nice rebounding there. We're not all the way back to where we were when we bought Armco which was better times than today, but we have come an awful long way. And again I think it is a combination of things, not the least of which continues to be a relatively strong economy underneath us.

Looking at the steel issue as a user of steel, Dover Corp:

We were hopeful of being able to say by now the steel prices had kind of peaked and waned and we were beginning to adjust to a different environment. Just as we were starting to feel that way, we have seen some steel price increases in a number of our businesses again. There is quite a variance in how we deal with steel prices across the board in our companies. Companies that have short cycles, distributor-based businesses we can tend to to pass those increases forward. Many companies were committed with long-term contracts or long-term commitments. We typically don't have as much luxury to pass those forward. I would say, so far year-to-date, we've been able to pass roughly about half of what we've experienced. And we've seen steel increases year-to-date. Somewhere approaching $15 million.

Kemet, one of the largest capacitor manufactures, offered these thoughts on why June experienced weaker results.

Looking at our sales channels, what I can tell you is it came through the channel of distribution for us, and, again, what it was, was that-- I believe just a tap on the brake to make sure inventories were staying in line. And that's my-- my view of what I hear.

If I broadly look at our distributors, particularly our global distributors, the end markets remain healthy in general. Their end point sales continue to climb. They just wanted to make sure they had their inventory under control. So, they backed off on the rate of acceleration, new orders going in, and that led to some softness.


Yeah, we had-- actually we had a fairly non-linear quarter. We came out of the chute very strong in the first half of the quarter. Virtually all of our customers were booming. You know, things were really cooking.

I think about mid way through the quarter, and particularly again in distribution in North America, they looked at that and said end market sales are strong, but we better watch our inventory levels and they tapped on the brake a little bit. So the second half of the quarter was softer than the first half and, again, because going through distribution, it touches thousands of end customers and end markets. So, I can't give you a whole lot of color on what end markets were driving it. think they just wanted to make sure inventories were in line.

After the June employment report from the Bureau of Labor, the euphoria over the employment situation died. While it appears to still be strong, Manpower remains cautious. It said system wide sales increased over 10% during the second quarter. Its industrial segment showed the fastest growth, from the low 20 percent at the beginning of the quarter to the mid-20 percent at the end of the quarter. Office staffing was slightly down, but picked up during the quarter. Local and retail started to pick up as well, after large accounts contributed to most of the strength thus far. Their cautiousness comes from the cautiousness of their clients as they explained on their conference call.

It's a good question, because when we talk to the customers, they are talking about hiring more. They have plans to hire more. But they are still being cautious because of the amount of uncertainty surrounded, whether it be interest rates or oil prices or conflicts overseas, whatever they may be, there is some uncertainty. But there is also the practicality of people needed to do the work.

So I'm not sure whether the third quarter gives us the proverbial hockey stick. And, in fact, our guidance would tell you is we're not seeing that as the -- what's going to happen in the third quarter. What we think is going to happen is that there is still good, solid growth. Maybe we see some inflection point in there. If not, it still holds the potential of being a good quarter for us.

Manpower also experienced a hic-up in June, but said business has picked up in July. It also said that the European markets strengthened with Italy (up 20%) and Germany (up 18%) leading the way. France continued to be the weakest.

Trucking companies and railroads have reported very strong results, which points to continued economic growth. And overseas shipping rates have ticked back up as well, indicating that the global economy continues to grow. The Baltic Dry Index, an index that represents shipping prices has rebounded to about 3,800 after bottoming out in June at 2,622. Earlier this year the index had fallen over 50% from the peak in February. For historical perspective, the index prior to 2003 had not been above 2,500 going back 1993.

While almost every company reported the July has picked up, we have gotten to the second-half of the year where almost every comparison for almost every company will be more difficult. This will cause growth rates to decelerate. From recent market action it appears investors were not factoring in this slower growth.


Chad Hudson

Author: Chad Hudson

Chad Hudson
Mid-Week Analysis

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