S&P Survey: Commodity-Led Capex Crunch Continues, But There Are Emerging Signs Of Recovery

S&P Survey: Commodity-Led Capex Crunch Continues, But There Are Emerging Signs Of Recovery

Non-financial corporate capital expenditure (capex) continues to decline, according to Standard & Poor's Ratings Services' third annual global capex survey. Our analysis suggests that non-financial capex will fall by 1% in 2015 and drop another 4% in 2016 before stabilizing in 2017.

The key driver of this decline is the continuing slump in commodity-linked capex. The energy and materials sectors (which include Oil & Gas and Metals & Mining) accounted for 39% of global capex in 2014. Their investment spending is expected to decline by 14% this year and 5% next year.

"Global capex is struggling to make headway in the face of steep spending cuts from commodity producers. These cuts are likely to continue until 2017, given intense cash flow pressures wrought by falling prices, uncertain demand, and plentiful supply in many commodity markets," commented Gareth Williams, author of the study.

In contrast with the declines in the commodity sectors, there is better news in other industries, where our analysis points to a broad-based pickup in capex this year. This is led by IT, autos, health care, and telecoms. Global capital spending excluding the energy and materials sectors is expected to grow by 8% in 2015. Encouragingly, this recovery is apparent across all regions and, if realized, would be the first capex increase for these industries since 2012.

"Our survey shows that most industries intend to increase capex in 2015. While caution remains about plans for 2016, this turnaround could mark the start of a more sustained capex recovery than can ultimately outpace the commodity crunch," said Mr Williams.

Despite evidence of improving non-commodity capex this year, the turnaround remains far short of the boom some had hoped for. This remains a puzzle given exceptionally low interest rates and the plentiful cash on corporate balance sheets. Companies in our survey have $4.4 trillion of cash and equivalents.

Survey data with respect to future capex intentions has been consistently positive at a global level for some years but--equally consistently--has failed to come through in terms of actual spending.

The resurgence of share buybacks in recent years is one possible explanation for weak capex. It forms part of a wider debate as to whether equity-linked management incentives are causing companies to focus on short-term measures likely to raise equity prices rather than undertaking capital investment which will only pay off in the longer run. In our view, the link between capex trends and share buybacks is overstated. The surge in buybacks is essentially a North American phenomenon, whereas capex weakness has been global.

Although overall corporations are holding a lot of cash, that does not necessarily translate to capital spending. R&D and M&A offer alternative routes to expansion and some industries suffer from over-capacity. The most prosaic explanation for tepid corporate investment is simply the weakness of revenues and profits. If these grow more strongly, stronger capex is likely to follow.

It has become fashionable to blame the weakness of the recovery on the failure of the corporate sector to invest, but long-term investment requires more than simply low policy rates. Also required is confidence in future growth, a relatively stable operating environment and market position, and consistent and well-functioning financial systems. In many markets, these factors are currently in flux and in this context, it is notable that companies tend to cite "uncertainty around returns" and "a lack of available projects" as constraints to investment more frequently than they do "access to finance."

For the 2015 improvement in non-commodity capex to persist, depends on the global economy successfully managing the transition to higher interest rates in the U.S., on Europe sustaining and broadening its recovery and on emerging markets proving resilient to the U.S. dollar's strength and China's growth and debt challenges.


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