eNews June 28, 2018

NACM’s CMI Sees Slight Dip in June

Following a steep rise in last month’s Credit Managers’ Index (CMI) from NACM, June’s combined score dropped slightly to 56.3. The manufacturing sector fell 1.1 points, but it was the service sector that bolstered the CMI with a half-point of growth.

This month saw the greatest level of stability in the CMI in more than a year, but uncertainty in the market continues to keep numbers modest. NACM Economist Chris Kuehl, Ph.D., attributed this to the constant threat of trade wars and tariffs.

The unsettled business climate is further rattled by the primary elections, which may affect the CMI. This notion of ambiguity spread to new credit applications, which experienced a more than three-point drop. Kuehl said credit managers are more concerned about cash flow and market share, and less about expansion.

“One thing businesses hate is instability,” Kuehl said. “The best part of the caution thing: no one is really thinking expansion right now. They’re trying to be a little defensive, and we’ve seen it out of the manufacturing numbers in the CMI where they’re not really the best, but they’re not happy either.”

The manufacturing and service sectors were split during this month’s CMI, with the unfavorables now reaching more than 50 (the expansion zone) across both sectors—the first time since March. The service sector unfavorables climbed from 49.9 to 51.1, while manufacturing unfavorables fell from 51.4 to 50.1—still not a desired outcome moving ahead, especially with favorables falling slightly in both sectors.

While this may lead to dismay, Kuehl notes favorable outcomes in both sectors still remain above 60. This lets credit managers breathe a sigh of relief, especially since favorables have remained high over the past year. Scores above 60 in favorables are preferable, he said.

There were some surprises in June’s CMI, mostly advancing from the anomaly of the index in May. Looking to the upcoming CMIs, Kuehl said scores may stay the same as the market adjusts to the election year and confusion in the political sphere continues. The market is beginning to reach a steady chaos: it is expected to be unpredictable.

“In an election year, I think it’s going to get worse until the elections continue to play out,” Kuehl said. "You have both parties trying to get a feel for the challenges right now.”

—Christie Citranglo, editorial associate

Click here for a complete breakdown of the manufacturing and service sector data and graphics. CMI archives may also be viewed here.

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New Law Coming Soon for Pennsylvania GCs, Subs

A 24-year-old law in Pennsylvania is being updated; it will bring additional payment protections to contractors and subcontractors on private construction projects. House Bill 566 was signed into law June 12, 2018, by Gov. Wolf, amending the state’s Contractor and Subcontractor Payment Act (CASPA). Changes take effect 120 days from its signing, October 10. According to Kaplin Stewart Meloff Reiter & Stein PC, the changes to CASPA are significant.

“This is another step towards ensuring a fair and level playing field for contractors and subcontractors in Pennsylvania’s construction industry,” Mark J. Felezzola, Esq. with Babst Calland, told the American Subcontractors Association.

CASPA was designed to protect GCs and subs and encourage a fair payment atmosphere. “The statute provides rules and deadlines to ensure prompt payment, to discourage unreasonable withholding of payment, and to address the timing of progress payments and retainages,” explained Kaplin Stewart.

Contractors and subcontractors will soon have the ability to suspend work for nonpayment if certain conditions are met. “Act 27 adds a default protection for contractors and subcontractors whose contracts do not contain a suspension of work clause by capping the amount of time a contractor or subcontractor may go unpaid without suspending work at 70 days beyond the unpaid bill,” reported law firm Barley Snyder. Contractors and subcontractors must send two separate 30-day notices prior to suspending work on the project.

The new law amends the procedures for withholding payment for deficiency items. Owners must supply a written explanation for withholding the funds within 14 days after receiving an invoice. A similar “good faith reasoning” explanation must be done by GCs and subs if they are withholding payment to their subs or sub-subcontractors. If the owner takes this route, they are still liable for other payments not involving the deficiency items.

Anyone who receives an incorrect invoice has 10 days to inform the person who sent the invoice about the error. The new law also prohibits waiving CASPA except where the act allows. A contractor or subcontractor can post a maintenance bond for 120% of the retainage to release the retainage prior to the completion of the project.

“Owners, contractors and subcontractors withholding payments, and owners holding retainage, in particular, should be aware of their respective obligations to give a good faith reasoning for the withholding of payment or the continued holding of retainage within the appropriate timeframes set forth in the act,” concluded Barley Snyder.

—Michael Miller, managing editor


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Altman Z-Score Nearing Golden Anniversary

NACM’s Graduate School of Credit and Financial Management (GSCFM) celebrated another successful year of education and learning this week, highlighted by a once-in-a-lifetime opportunity for many who attended.

Over the two-week, two-year program, students participate in an intensive learning experience, which includes financial statement analysis and other credit- and business-related topics. Often, there are special guest lecturers brought in by NACM to help expand attendee knowledge about a specific item of interest. This year was no exception.

The Altman Z-score is one of the leading indicators on a company’s likelihood of bankruptcy and financial stress. The model is approaching its 50th year in existence, and those at GSCFM were fortunate enough to spend the day with Dr. Edward Altman, professor of finance, emeritus, at New York University’s Stern School of Business, and bankruptcy guru.

It didn’t take long for Professor Altman’s excitement on the topic and personality to make an appearance. “I love defaults. I love bankruptcies,” he first told the students, joking that when a bankruptcy occurs, he and his wife open a nice bottle of wine. He referred to 2018 as the year of 50/50/50. The aforementioned 50 years of his Z-score model as well as his 50 years at NYU. He and his wife also enjoyed their 50th year of marriage this month.

“The Z-score is amazing for being so accurate and still that accurate after all this time,” said William Danner, president with CreditRiskMonitor, which runs a bankruptcy indicator that incorporates financial ratios similar to Altman’s model. Dr. Altman believes there are three reasons why his Z-score is still around: it’s simple, still pretty accurate and it’s free.

He said he had no idea the model would be around for more than a year when he first began formulating it in the late 1960s. According to Dr. Altman, he was “in the right place at the right time.” Meaning, two years earlier, the ability to create the Z-score would not have been possible, and two years later, someone else would have thought it up.

The original Z-score model has since undergone some changes and updates for different sectors but still remains the same at its core. Credit professionals can easily access the model; if you don’t have the formula memorized, all it takes is a quick internet search. When Dr. Altman asked the class of credit professionals if they use the Z-score on customers to predict the probability of default, not one person raised their hand. Credit managers typically stick with: accept or reject, credit limits and credit terms. But why not the probability of default, asked Professor Altman.

Creditors, after all, are looking to have their accounts paid after extending terms to customers. What better way to know if the customer will be in business 12 months from the sale than to run the Z-score with their financials. It is just another tool credit professionals can use to assist them with a credit decision about a potential customer.

Dr. Altman will be presenting a webinar on credit risk models and solutions for NACM and FCIB November 27, 2018.

—Michael Miller, managing editor

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Tariffs ‘Harmful, Inherently Unfair’ to US Manufacturers

Shortly after the U.S. Bureau of Labor Statistics revealed construction material prices climbed in May, the manufacturing sector moved further into the line of fire when the U.S. administration imposed another tariff, with a threat of more, on construction and agriculture equipment from China.

Construction material prices have become troublesome for the sector in recent months, increasing month-over-month (MoM) and year-over-year (YOY) at 2.2% and 8.8%, respectively. In its analysis of the bureau’s data, Associated Builders and Contractors (ABC) said the latest results marked the largest monthly increase since 2008 and spell “bad news” for the industry.

“As economists have been suggesting for many months, inflationary pressures are building,” ABC Chief Economist Anirban Basu said in a press release. “One can observe this in labor markets as well as in the price of gasoline, health care and construction materials. Real estate and construction cycles are especially vulnerable to increases in borrowing costs.”

Meanwhile, the back-and-forth trade debate between the U.S. and China is ongoing, most recently making headlines on June 15 with President Donald Trump’s announcement of a 25% tariff on $50 billion worth of Chinese goods. According to Vox, $34 billion of Chinese goods will fall under the tariff, beginning July 6, while the remaining $16 billion are “undergoing further review and public hearings.” China then responded with its own tariffs against the U.S. and targeted the agriculture and industrial sectors. On June 19, the U.S. threatened to retaliate with a threat to impose a 10% tariff on $200 billion worth of Chinese imports.

Caught in the crosshairs of this conflict is the manufacturing sector, catching the attention of the Association of Equipment Manufacturers (AEM). The international trade group’s president, Dennis Slater, described the threat as “harmful and inherently unfair” to manufacturers.

“This move jeopardizes many of the 1.3 million good-paying manufacturing jobs our industry supports,” Slater said in the release. “The expected retaliatory actions by China also raise costs for equipment manufacturers that rely on a vast supply chain around the world, further eroding benefits of the recent tax reform.”

Associated General Contractors of America (AGC) also spoke out against the new tariffs, claiming the threats have already caused more price hikes. AGC Chief Economist Ken Simonson said order amounts drastically outweigh capacity. AGC analyzed last month’s rising construction prices, which increased substantially for ready-mixed concrete, asphalt paving and roofing materials and even more so for metals, lumber, plywood and diesel fuel.

Impacts from the most recent tariffs are not reflected in the pricing data; however, there is a possibility they might lead to construction delays, budgeting issues and the demise of planned projects in the future.

“Forcing contractors to pay more for materials and wait longer to receive them will make construction more costly and slower,” AGC CEO Stephen Sandherr said in the release.

—Andrew Michaels, editorial associate

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Small Businesses Come Out on Top Amid ‘Intense’ Lender Competition

Traditional and alternative lenders are constantly shifting between who they lend to and how they lend, particularly in the age of technology. Along for the ride are small- to medium-sized businesses (SMBs), many of which are applying for loans from large financial institutions (FIs), small banks and alternative lenders to see what sticks. As the lenders compete for their business, SMBs are reaping the benefits and expressing optimism at the highest level in more than three decades.

Earlier this month, Forbes published a contributor’s article about the difference between lenders approving SMB loans before the Great Recession versus today, 10 years later. In the late-2000s, the article stated, banks were the primary lenders for SMBs trying to gain capital and/or planning to repair or expand business. Bank lending then came to a screeching halt when the recession hit; large FIs and alternative lenders started to enter the picture.

“Small business owners in search of capital began to use the internet to find lenders who were willing to fund their companies,” said Rohit Arora, the article’s author. “The internet removed geography as a barrier and nonbank lenders that accepted online loan applications filled the lending void, while the banks lost some of their market share.”

Now, big bank lending is back and butting heads to compete with its smaller counterparts. According to more than 100 responses incorporated in Biz2Credit’s Small Business Lending Index for May, large banks, such as those with name recognition, approved 25.9% of loan applications from SMBs—a 0.2% increase over April and 1.8% increase over May 2017. The index classifies large banks as those having $10 billion or more in assets, with small and nonbank lenders being comprised of credit unions, Community Development Financial Institutions and microlenders.

Meanwhile, small banks and alternative lenders approved 49.4% and 56.4% of loans, respectively, the former increasing 0.2% month-over-month and the latter remaining the same. Arora, also the CEO of Biz2Credit, said in the index report that small bank loans generally went to SMBs in the manufacturing, transportation and construction sectors.

“Small businesses involved in those sectors need capital for growth, and smaller banks are now granting nearly half of their loan applications,” he noted. “Even in a robust economy, there are still companies that don’t qualify for traditional small business loans because they have not been in business long or have poor credit histories. Alternative lenders fill this niche … albeit at higher interest rates.”

With these all-around approval rates, small businesses are nothing but optimistic about the next 12 months, displaying similar levels of optimism last seen in July 1983. Business Wire reported on a SmallBiz Loans survey this month that concluded SMBs are feeling positive about business growth, including hiring, offering employees flexible work arrangements and increasing wages.

Although everything appears safe for now, NACM Economist Chris Kuehl, Ph.D., described the competitive market between mid-size banks as “intense” because “far more players [are] trying to get a piece of th[e] action.” In addition to organizations poaching one another’s borrowers, Kuehl said, trade wars and tariffs raise inflationary pressures.

—Andrew Michaels, editorial associate


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