New age challenges Canadian manufacturers

Source: Manufacturing Digital

Date :08/06/2007 12:15:47

Grant Thornton LLP urges private mid-sized manufacturers and distributors to take aggressive action or face continued pressure on profitability.

The signs of a new industrial age for Canadian manufacturers and distributors are evident, but will business owners opt for action or ignore the risks? A Grant Thornton report, Manufacturing Insights 2007: A Canadian Perspective, points to a rapidly changing business landscape that is pinching profitability and undermining manufacturing and distribution industry confidence.

According to Grant Thornton, during the late 90's and into the 2000's Canadian manufacturers and distributors were lulled into a false sense of security fostered by an undervalued currency and robust demand from the U.S. marketplace. This has underpinned consistently high levels of confidence, while emerging markets with low costs and growing industrial capacity have been largely ignored. If profitability and success are to be sustained there is an urgent need for action. A new industrial age has arrived and it is characterized by change, rapid response times, and the need to incorporate a broader global perspective across entire operations.

What is the new industrial age? According to Grant Thornton, it is a period of fast-paced expansion that will challenge Canada's private mid-sized manufacturers and distributors to take action that leverages new technologies, takes advantage of the efficiencies and other opportunities offered by global markets and reduces the historic over-reliance on the U.S. market, thus easing pressure on profitability and increasing competitiveness.

Jim Copeland, national leader, Manufacturing & Distribution, Grant Thornton LLP, suggests, "Reports showing that manufacturers are feeling the pinch with increasing revenues and reduced profitability are telling indicators. Resolving this kind of crunch will require a shift in our current focus from what we have now to more advanced and leaner business practices, including the possibility of outsourcing key operations and processes or using supply chain management in innovative new ways to generate efficiencies and improve profitability."

The stability of this sector is vital, as Canada's mid-sized manufacturers contribute to an industry that is calculated to make up 17% of the nation's GDP-or 53% when spin-off goods and services purchases are included. This represents over $20 billion of capital investment and an added value of more than $200 billion to the Canadian economy. The industry conducts an estimated $400 billion in export sales and provides direct and supporting employment for 5.6 million Canadians. It is also a critical employer of skilled laborr which is essential to a healthy economy.

"We began tracking this sector's expectations and performance in 2004," says Mr. Copeland. "Since then, we have been advising our clients that the optimism they consistently reported wasn't going to last forever, and that they should be making plans to adapt to future challenges. Now, in 2007, the warning signs are being noticed. The question is, what will the sector do about it?"

The 2007 study highlights key business metrics-revenue growth, profitability, selling prices, and employment/hiring-and the lower level of optimism reported by participants on all fronts compared to those surveyed in previous years. Optimism peaked in 2005, with 81% of the manufacturers and distributors indicating that they were optimistic about Canada's economic outlook for the coming year vs. 64% of those surveyed in 2007.

There was a 10% drop in the number of companies expecting revenue growth in 2007 compared to the 2006 survey (74% vs. 64%). According to the 2007 Grant Thornton survey, 59% of Canada's private mid-sized manufacturers and distributors expect profitability to increase in the coming year. Between the 2006 and 2007 editions of the survey there was a 9% drop in the number of manufacturers and distributors expecting employment levels to increase in the coming year (50% vs. 41%) and an 11% drop in the number of manufacturers and distributors expecting to increase selling prices in the coming year (56% vs. 41%). "In previous studies, we found a strong correlation between the expectations of those surveyed and actual performance, so the significant drop in confidence this year can't be passed off as a consequence of previous study participants' overly optimistic outlooks," Mr. Copeland points out. These trends were also observed among Canada's distributors, whose fortunes are closely tied to those of manufacturers.

"A significant contributor to these dampened expectations is the higher cost of wages, commodities, energy and transportation," Mr. Copeland explains, "which has in turn been responsible for increased costs of production and distribution." "Compounding the problem," he adds, "is the relative strength displayed by the Canadian dollar against most major currencies, including the US dollar, over the past 4 years. If sales were denominated in US dollars during that period, in the absence of price increases or cost reductions, there was a significant erosion of profitability." Finally, when you add to the equation the rise of low-cost manufacturing and exporting economies like China and India, it becomes very clear that Canadian private mid-sized manufacturers need to take immediate and dramatic action. The rules of the market are changing rapidly."

Canadian companies in this sector weren't necessarily being naive in previous years when they reported confidence in their business prospects amidst the rise of globalization. "This industry had an overwhelming focus on the U.S. market as an export destination, and it served them very well for many years," Mr. Copeland explains. "However, it was an unprecedented concentration of activity in a single market, without parallel among industrialized nations. It's a relationship that was based on Canada's distinction as a lower-cost manufacturing centre and a reliable supplier of raw materials. But what happens when that cost advantage begins to evaporate?"

Mr. Copeland stresses any effective strategy designed to mitigate these challenges must be multi-faceted and include productivity improvements, enhanced supply-chain management, outsourcing arrangements, investments in technology and capital and a renewed focus on innovation. "There's nothing a manufacturing plant can do about the international cost of oil or the appreciation of the Canadian dollar, so identify the things that are within your control and act on them. There are solutions that can offer substantial relief and are within the means of a mid-sized manufacturer. For example, start with the customers you already have and work on client service and support. A low-cost supplier in China doesn't know your customers as well as you do-work on ways to reinforce that loyalty."

"And don't forget that outsourcing can encompass elements of your operations other than what's on the shop floor," Mr. Copeland continues. "We found that nearly two-thirds of the companies we spoke with do not outsource non-core functions like tax compliance, payroll, or IT services and training, nor do they have a plan to do so in the future. We also encourage companies to develop a 'lean' culture, which will ultimately contribute to improvements in both short and long-term performance. Last, but certainly not least, is the need to position innovation as a central element of corporate strategy. A steady flow of new and/or improved products and services is key to long-term survival."

Grant Thornton also points out to manufacturers and distributors apprehensive about the rise of globalization that it can work for them too. Compared to their neighbours, Canadian companies have been slower to import from other lower-cost jurisdictions. "Think beyond China," Mr. Copeland urges. "There are suppliers in places like Russia and Brazil that can help you reduce costs."

"Canadian businesses in this industry have proven that they can succeed globally," Mr. Copeland concludes. "With the right investments in people, processes, management systems, equipment, and technology our nation's private mid-sized manufacturers and distributors can thrive in this new industrial age."