As we did in Q1, Supply Chain Matters will once again take a quarterly snapshot of the downstream, upstream and transportation component areas of global supply chains. The goal of this three-part series is to assess trends and determine how major supply chain participants are currently experiencing and viewing 2010 business levels, and how the general post recessionary recovery is manifesting itself among industry supply chains. As we also noted in our Q1 commentary, we certainly do not portend to be trained economists. It is, however, interesting to put information points into context, note what has occurred, as well as speculate what lies ahead for the remainder of 2010.

As we begin to take a look back at Q2, manufacturing and supply chain activity has begun to lose overall momentum around the world, adding concern in many industry sectors on how best to forecast activity for the remainder of 2010.  Many economists are of the belief that the initial inventory replenishment cycle experienced in Q1 has now run its course. At the same time, select supply shortages of critical or high-demand components are being reported in many sectors, notably electronic components. The recent International Monetary Fund (IMF) World Economic Outlook indicates that growth over the next 18 months is expected to fall below the pace set in the first half of 2010.  In Q2, manufacturing growth in China and much of the rest of Asia slowed for a second straight month in June, with PMI indexes for Australia, China, India, South Korea and Taiwan all reflecting slower growth.  While growth in these regions is slowing, these declines are modest thus far.

For the U.S. there are clearer signs that recovery is losing momentum, and  GDP growth has been revised downward to 2.3 percent in 2010.  Retail sales declined 0.5 percent in June for the second straight month in a row, and business inventories rose for the fifth consecutive month.

In the euro-zone, Germany’s export driven economy has experienced rather healthy growth in the first-half of 2010, and exports from the broader 16 nation euro-zone were up 1.6 percent in May, while imports rose 4.2 percent.  Industrial orders for the euro-zone were up 22.1 percent in April.

In this Part One posting, we begin to snapshot some key companies representing the initial stages of supply feeding multiple industry supply chains. In reporting of quarterly results from the June ending period, companies in chemicals, metals and semiconductor continue to forecast both positive Q2 financial results and generally optimistic outlooks for the second half of 2010.  Some caution, however, is also noted.  Many of these reported results also reflect large benefits from the intense cost and capacity cutting efforts that occurred in 2009.

We cite the following highlights:

Select Chemicals and Specialty Chemicals Industry

The European Chemical Industry Council is forecasting that output in the chemical industry will grow by 9.5percent in 2010, and anticipates a period of consolidation in the second half of 2010 and early 2011. Recovery in output levels occurred in Q1-2010, and was expected to continue in Q2.  Capacity utilization in the industry remains well below normal levels.

BASF

• Revenues up 30 percent year-over-year in Q2 vs. 26 percent in Q1
• Profits tripled from a year ago to $1.18 billion euros, slightly lower than $1.36 billion reported in Q1
• Asia-Pacific sales up 55 percent in local currency
• Chemicals segment up 64 percent on continued improved demand, higher prices, high capacity utilization and improved costs.
• Plastics segment up 64 percent
• The Oil & Gas segment saw continued lower sales and earnings during the quarter, similar to Q1
• Expects economic recovery to continue at “moderate pace” in the second-half of 2010

Dupont

• Q2 Revenues up 26 percent year-over-year vs. 23 percent growth experienced in Q1
• Second quarter profits up 92 percent year-over-year
• Volumes up 21 percent in Q2 coupled with 19 percent growth in Q1, with 5 percent higher local selling prices
• Asia Pacific sales up almost 50 percent; sales in greater China up 70 percent year-to-date; China and Latin America sales are at or above pre-recession levels
• Agriculture and nutrition sales up 16 percent
• Sales in performance electronics and communication sectors have surpassed pre-recession levels
• Increased guidance on earnings and profits for 2010
• Expect recovery to continue in second-half, but at a more moderate pace than first-half

Select Metals and Steel

The World Steel Association reported that crude steel production for the 66 countries reporting to this group was 119 million metric tons (mmt) in June, representing 18 percent higher growth than in June 2009.World crude steel production in the first six months of 2010 was 706 mmt, 27.9 percent higher in comparison with the same period of 2009. According to this association, all geographic regions showed increased crude steel production during the first half of 2010 compared to the first half of 2009. Although production in the first half of 2010 increased by 7.2 percent compared to the same period of 2007, just before the global economic crisis, most of the world has not recovered to pre-crisis levels. Only Asia and the Middle East showed increased crude steel production compared to the first six months of 2007. Crude steel production in the EU, CIS, US and Canada is still more than 15percent below 2007 levels. China’s crude steel production for June 2010 was 53.8 mmt, an increase of 9percent compared to June 2009.  The US produced 7.2 mmt of crude steel in June 2010, an increase of 65 percent compared to June 2009.  The world crude steel capacity utilization ratio of the 66 countries in June 2010 declined again to 80.6percent from 82.0 percent in May 2010. Compared to June 2009, the utilization ratio in June 2010 increased by 8.3 percentage points.

ArcelorMittal

• Q2 revenues up 42 percent, profits up 146 percent from year earlier
• Revenues up 33 percent in the first-half of 2010
• Anticipating a deceleration in pace of demand in the second-half of 2010
• Ruled out the possibility of “double-dip” recession this year, but anticipates upturn will be “slow and progressive”

Nucor

• Revenues up 69 percent in Q2 coupled with 40 percent growth in Q1
• Profits of $91 million compared with $133 million loss a year ago; Q1 reported profits of $31 million vs. loss of $189.6 million a year ago
• Average sales price per ton increased 14 percent from Q1 levels
• Total steel shipments up 53 percent from year ago, but down 2 percent from Q1
• Capacity utilization declined to 71npercent vs. 73 percent reported in Q1
• Reduced total energy costs by $10 per ton from a year ago
• Q2 reflected slowdown in all product lines

Posco (Korea)

• Q2 Revenues up 25 percent and profits nearly tripled from year ago levels
• Operating margin climbed to 23 percent vs. 20.8 percent in Q1
• Anticipates continued strong order rates from automobiles, electronic and shipbuilding industry sectors
• Increased 2010 outlook by 81 percent and increased capital spending plans

U.S. Steel

• Q2 revenues doubled to $4.68 billion coupled with Q1 revenues of $3.9 billion
• Total steel shipments of 5.4 million tons vs. 3.23 million tons a year earlier.
• December quarter shipments were 4.65 million tons
• Loss of $25 million in Q2 coupled with loss of $157 million in Q1, the 6^th consecutive reported quarterly loss; cited increased commodity costs and unfavorable exchange rates
• Added additional capacity in Q2, but already seeing signs of reduced demand
• Shipments of flat roll steel nearly doubled, year-over-year, in the quarter, a continued indicator of positive demand from automotive and appliance sectors
• Average selling price increased 3.4 percent in Q2

Select Semiconductor Industry

According to Semiconductor Industry Association, global semiconductor sales grew to $74.8 billion in Q2, an increase of 7.1 percent over the $69.9 billion reported in Q1. Interesting enough, the May to June increase in sales for North America was 4.3 percent, while Asia Pacific declined 0.5 percent in June. Revenues for the first half of 2010 were recorded as $144.6 billion, more than 50 percent higher than the same period in 2009. The association is currently forecasting 28.4 percent industry growth in 2010, with some moderation expected in the second-half. The industry continues to benefit from increased sales from emerging markets such as China and India, a rebound in the automotive industry, and a robust technology replacement cycle.

Intel

• Q2 revenues up 34 percent, year-over-year, coupled with 44 percent surge in Q1
• Management noted “best quarter ever”, Financial analysts noted as best quarter in company’s 42 year history, surpassing Q1’s similar statements.
• Q2 overall activity up 5 percent from Q1 vs. a seasonal norm of a 2 percent decline in Q2
• Profits surged to $2.9 billion compared with $2.44 billion of profits in Q1
• Generated $3.5 billion of cash flow from operations
• Gross margin was 67 percent due to increased efficiencies and capacity utilization.
• Strong demand for advanced microprocessors and server driven markets
• Little slowdown in Q1, which is traditionally a slow quarter
• Plans to hire 1000-2000 new workers in 2010, first substantial hiring increase in five years

TSMC

• Q2 revenues up 13.9 percent from Q1 and 41.4 percent from year ago revenue
• Expects current quarter revenues to hit an all-time high
• Profits increased to $33.66 billion Taiwan dollars vs. $1.56 billion a year earlier, the highest since Q4 of 2007
• Gross margin was 49.5 percent, up 1.6 percent from Q1, and 3.3 percent from year ago
• Q2 showed robust demand in all business sectors
• Consumer segment had strongest sequential growth, 26 percent vs. 9 percent in Q1; Communication grew 22 percent vs. 2 percent in Q1; Industrial grew 14 percent vs. 2 percent in Q1; Computer-related grew 1 percent vs 3 percent decline in Q1
• Expecting 2010 global foundry market to grow 40 percent in 2010
• Accelerating capacity expansion plans
• Estimate that supply chain inventories are still below seasonal levels

Overall in Q2, the downstream supply chain continued the robust revenue and profitability growth demonstrated in Q1  Semiconductor continues to stand out as the most optimistic, reflecting consumers still want their new smartphones, HD TV’s and other electronic gadgetry. Chemical industry is on the rebound as reflected by BASF and Dupont. Geographic growth from the BRIC countries continues to be the primary fuel for this downstream growth.  While some cautions are being raised by downstream firms relative to a slowdown from the previous Q1 momentum, executives seem optimistic for continued growth in the second half of 2010. Robust profitability levels continue to stem from previous large reductions in cost and overhead expenses.

In our second posting in this series, we will focus on a brief snapshot of major industrial manufacturing companies, the middle layer of global supply chains.

In the meantime, feel free to add your own observations.

How is your organization viewing current business conditions?

Bob Ferrari

The following posting can also be viewed and commented upon on the Kinaxis supply chain Expert Community web site.

Every now and then, it is important to take a step back from our everyday supply chain and procurement activities and reflect on the big-picture.  Such reflection could well uncover a brewing crisis before it becomes unwieldy, or worse, before it becomes a significant setback to business.

As I analyze various trends in cross-industry supply chain and financial performance, I have been reflecting upon why this post-recession recovery transition period has been demonstrating so many conflicting trends.  Large global manufacturing firms, for the most part, have generated rather impressive profitability results in the face of unprecedented business conditions.  Many months of cost-cutting in direct labor, overhead and supply-related costs have provided a far lower threshold to profitability, but a far leaner and vulnerable supply chain.  Some firms have taken a further step to attack any fixed cost associated with their supply chains, outsourcing the bulk of activities to contract manufacturers or key suppliers.

The end result is that many of these global manufacturing firms are amassing large amounts of cash.  The most recent analysis pegs that cumulative cash balance number in excess of $8 trillion, and Wall Street analysts are salivating on the potential for an upcoming period of increased acquisitions.  Others speculate why additional hiring has not begun.  However you view this situation, there are more fundamental stakes in play, and they directly concern supply chains.

This week, the Financial Times published an article , Industrial’s success squeezes suppliers (free preview account may be required), which perhaps gets more to the big-picture, namely that while the larger firms have been practicing financial engineering, they may well have done so at the financial risk to their smaller suppliers.

During the darkest days of the recession and continuing into this current transitionary period, smaller suppliers were forced by supply chain dominants to dramatically cut back on costs and capacity. In many cases, suppliers were mandated to absorb longer payment cycles on their accounts receivable.  Some suppliers have survived the crisis, others have not.

Now, continued uncertainty relative to the longer-term direction of the global economy has caused many of the survivors to be extra cautious before investing in added resources and/or capacity.  Those suppliers who are experiencing significant increases in demand are finding it rather difficult to borrow money to fund expansion.  The Financial Times reported last month that U.S. small businesses are having to pay more relative to the Federal Reserve’s benchmark borrowing rate then at any time in the last 25 years.

In essence, large firms have placed more strategic and tactical importance on supplier capabilities, yet still demand the same upside and downside agility as if they still owned these capabilities in-house.  In the FT article, the CFO of Caterpillar notes that this year, some Caterpillar facilities have ramped from near zero to as much as 70 percent with very little notice being provided to suppliers.  Japanese manufacturing firms who had previously built “kiretsu” partnerships with suppliers that included joint-financing assistance, are now aggressively outsourcing large portions of manufacturing to contract manufacturers.  In its article, FT concludes that “big manufacturers may well take the lesson that careful stewardship of the supply chain is important at all stages of the cycle.”

Perhaps we should not call all big manufacturing firms to task for transferring the bulk of supply chain capability to smaller suppliers without some strategic assistance.  Some firms have indeed reached out, but I suspect that the numbers are small.  What is becoming clearer, however, is that dependency on suppliers, whether large or small, is the ‘new normal’ and larger firms have higher stakes in the long-term success of these suppliers.  Perhaps some of the key parts shortages being experienced in the high tech and other industries may have root cause to the current conditions.  In any case, there is, at least in my mind, some basis for the effectiveness of “kirestsu” types of supplier partnerships.  The ‘big-picture’ is that some new form of partnership model is required, one that requires the involvement of business, financial and/or other parties.

The months of severe recession and cumulative cost cutting has shifted the supply chain risk profile.  Today’s volatile and uncertain global economy requires capabilities in supply chain agility. While technology can help with agility, strategic and partnership strategies related to suppliers may be a missing component in today’s environment.

Is your organization actively addressing this situation?

Bob Ferrari