eNews January 31, 2019

In the News

January 31, 2019


January Credit Managers’ Index Hints at ‘Further Slowdown’

Preparation Has Credit Professionals Optimistic About 2019

AP Automation in Place, Still Work to Do

Would Broader Use of P3s Benefit Subcontractors? Part I

January Credit Managers’ Index Hints at ‘Further Slowdown’

Following the decline of December 2018’s Credit Managers’ Index (CMI), January 2019’s CMI did not hold up. The combined index dipped from 54.2 in December to 53.4 in January, a 2.4-point drop since November 2018. While the overall score is above 50 in expansion territory, the CMI recorded its lowest reading in the past 12 months, signaling a downturn and difficulty gaining momentum.

Much of the uptick in 2018’s indices came from corporate tax cuts and low interest rates from the Federal Reserve. The end of 2017 also promised growth in 2018, but with so much uncertainty in the market—trade wars, government shutdowns and a grim meeting at the World Economic Forum in Davos, Switzerland—2019 may show “new signs of real distress among creditors,” said NACM Economist Chris Kuehl, Ph.D.

“The first sets of data coming in have shown there was good reason to be worried,” Kuehl said. “Now that January is in, there was still more decline although nothing precipitous. The optimists are asserting this is just a ‘breather.’ They expect recovery in the second half of the year. The more pessimistic assert this will be just the start and conditions will steadily worsen through the year.”

Most of the cause for concern was seen in the unfavorable categories. Only two of the six categories remain above 50, and the combined index for unfavorables fell into the contraction zone. The rejections of credit applications category saw the most promising reading, improving by about half a point and remaining in expansion territory. Given this category’s stagnant readings the past few months, an uptick is a good sign. One major concern is accounts placed for collections category, which fell 1.5 points down to 48.2.

The favorables sat comfortably in expansion, averaging a score of at least 60, with an overall increase of 0.1. While this is good news for the favorables, the reading was still one of the lowest in the last 12 months, whereas the readings before December 2018 were at least 61.

This downturn in the CMI over the past two months doesn’t promise a healthy economy entering the first half of 2019. Kuehl noted the data collected for January’s CMI doesn’t even encompass any of the economic damage from the government shutdown, which he said will likely hit the service sector the hardest.

On the manufacturing side of the CMI, the favorable and unfavorables both saw overall declines, with unfavorables just barely slipping into contraction territory. The overall index for manufacturing fell roughly one point. Kuehl said the numbers are “worrying at this stage, but they are not yet catastrophic.” Since manufacturing has shown solid readings lately, Kuehl said there is no need for concern right away.

The service sector fared better than the manufacturing sector in January, but the combined reading of 53.8 was still the lowest reading since April 2018. The favorables’ improvement in January is a good sign; however, with the numbers this low, the outlook for the rest of the year becomes murky.

“The [overall] trend of late has not been what anyone would like to see,” Kuehl said. “The unfavorable numbers are sinking deeper into the contraction zone, and there has not been enough activity in the favorable categories to offset the decline. The sense is that further slowdown is likely.”

—Christie Citranglo, editorial associate

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Preparation Has Credit Professionals Optimistic About 2019

Credit managers are business leaders. As the “financial superheroes” for their company, one of a credit department’s “special abilities” is to anticipate the business’ economic standings in the future and use that information to create a guideline or outlook for subsequent business dealings. Hundreds of senior executives of small- to medium-sized businesses (SMBs) recently shared their companies’ outlooks for 2019 in JPMorgan Chase’s annual Business Leaders Outlook report, where the potential for business growth was met with a fair share of optimism in the U.S.

Although optimism for business growth declined from 2018, both nationally and globally, the ninth annual survey—published in early January—found many U.S. senior executives were still hopeful. In the U.S., optimism reigned high at 73%, but fell below 2018’s 89%. Only 39% of respondents were optimistic from a global perspective, plummeting from the 79% who expressed similar outlooks last year. Meanwhile, company performance outlook was only down one percentage point at 84%.

More than 80% of respondents said they anticipate higher revenue/sales in 2019, while 74% also expect an increase in profits. However, there are worries on the horizon, such as uncertainty over the federal government’s trade policy and finding skilled workers. Nearly a quarter of senior executives from globally active companies said they are “extremely concerned” about trading policies’ impact on business, yet only 7% domestically felt the same way.

“Executives are a bit less optimistic about the future and more concerned about trade policy—specifically tariffs—but that doesn’t mean their growth overseas is slowing,” said Morgan McGrath, head of international banking at J.P. Morgan Commercial Banking, in the survey. “We continue to see companies that are global stay committed to further expansion abroad.”

As the director of credit for footwear manufacturer Keen, NACM member Shawna Arneson said while the company has strong commitments in 2019, customers aren’t strictly held to their orders. Orders are expected to increase, but if retail becomes as sluggish as she predicts, existing orders could decrease or get cancelled. That is why Arneson said the Portland, Oregon-based company secured credit insurance for its riskier accounts.

“This has provided us security with what we see as some volatile times ahead in retail,” Arneson said. “We also proactively review our order book six months in advance to perform credit reviews on accounts that may exceed their credit lines with their upcoming orders. Once we are able to increase credit lines well in advance of the ship dates, this helps with quick order flow and much less ‘noise’ related to credit holds.”

From the retail perspective, Arneson noted she is concerned about the 2019 outlook because of increased interest rates and general uncertainty.

“We have to balance this concern with supplying our product to our customers as carefully and thoughtfully as we can,” she added. “This is another reason having credit insurance helps us sleep at night.”

—Andrew Michaels, editorial associate

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AP Automation in Place, Still Work to Do

There is a major gap in payment innovation in regard to current and future implementation among businesses. According to the most recent B2B Payments Automation Innovation Playbook from PYMNTS and Mastercard, nearly 60% of the roughly 400 financial decision-makers said their companies have not automated payment systems in any way.

Only 27% of respondents said they have some form of accounts payable (AP) automation already implemented. Meanwhile, almost three-fourths of the companies have yet to implement AP automation but plan to do so within three years.

One of the areas with the most growth potential is in real-time payments (RTP), where the mid-market firms are outpacing their smaller and larger counterparts. Roughly a quarter of larger firms and a third of smaller companies plan to adopt RTP within three years, while mid-sized firms are at 40%. Not only are mid-sized businesses ahead of larger ones in relation to RTP, they also are implementing more payment innovations on average.

Benefits of making the AP automation change include: a reduction in invoice errors, fraud and check usage; higher compliance rates; and time saving. “In a sense, these businesses have a comprehensive, holistic approach to payments innovation,” states the Playbook. “AP automation serves the front end of the invoice process while real-time and card-based payments address the back end. This ensures that funds are quickly and accurately settled, and implementing them together helps optimize the whole system rather than just one part.”

As with any change, the process can take some time. The Playbook broke businesses down into three groups—leaders (at least four innovations), midfielders (four innovations or fewer) and laggards (three innovations or fewer)—based on the speed of their payment automation adoption.

Technology is far and away the most automation-ready industry with a nearly 90% level of payments automation already implemented. Banking and financial services were a distant second and third, and retail trade and construction were in the cellar.

Leaders, midfielders and laggards each expect to see a decline in cash and check usage in the future. Leaders and midfielders predict check usage will be cut in half, while laggards are almost at 50%. Leaders and midfielders said ACH payment methods will increase. New payment technology, such as cryptocurrencies and virtual card e-payments, are also expected to skyrocket within leaders and midfielders.

Roughly a fifth of professional services, health care and wholesale trade firms plan to have B2B payment automation within the next 12 months. More than a quarter of financial services companies plan to automate payments between one and three years, while a quarter of transportation firms said it will be at least three years before automation is planned.

—Michael Miller, managing editor

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Would Broader Use of P3s Benefit Subcontractors? Part I

Public-private partnerships, commonly known as P3s or PPPs, are a method of involving private parties in some or all of the financing, design, construction and operation of traditionally public building or infrastructure projects. Recently, P3s have become a more popular means of constructing or financing public projects. They have received more attention because some states, such as Illinois, are short on public funds and long on the need to repair crumbling infrastructure and deliver necessary public buildings. A P3 might entail a private entity participating in financing, designing, building and operating a facility normally operated and controlled by a local or state government or, alternatively, it might include only some of those steps with a private developer utilizing a public body’s bonding authority or agreeing to accept payment from the operation of a revenue-producing asset.

An example of a well-known P3 project is the Chicago Skyway, which, in 2005, became the first privatization of an existing toll road in the United States when a private concession company took over its operations under a 99-year operating lease. Because P3s are created by contract, they vary greatly from one state and one project to another. For that reason, to protect the public, many states have enacted broad enabling legislation that describes the potential uses of P3s as well as the restrictions on their use. Illinois currently has project-specific P3 laws but no comprehensive P3 law to provide direction for government bodies that might wish to use the P3 construction delivery method. In recent legislative sessions, Illinois has entertained but not passed into law enabling legislation, and parties with a stake in the process should anticipate those efforts will continue. 

Any comprehensive P3 law should account for the rights and responsibilities of all participants in the construction process, while accommodating the intended beneficiaries of the project and, of course, promoting the interests of the public at-large. With all those competing interests to weigh, how should such a law consider the concerns of subcontractors? While the existing Illinois Public-Private Partnerships for Transportation Act states a "public-private agreement may" provide for a performance and payment bond, it is not mandatory. Two other project-specific enabling laws in Illinois do incorporate the Public Construction Bond Act, but the most recently proposed Illinois bill to enact broader enabling P3 laws does not require a surety bond.

Subcontractors should be watchful that any proposal for a law enabling the broad use of P3s not undercut the rights of subcontractors under existing laws and contracts to: (1) secure payment for work and materials furnished for a project; (2) protect subcontractors and others under public procurement restrictions; (3) mandate prompt payment of invoices; and (4) recognize flow-down responsibilities from higher tier participants in the construction chain.

Construction is almost never paid for in advance and, instead, labor and materials are furnished on credit and contractors, subcontractors and suppliers are vulnerable to nonpayment. Mechanic’s liens protect the right to payment on private projects, but mechanic’s liens are not allowed on public projects. For public projects, almost all states require payment to subcontractors be secured by a payment bond with a surety. Because P3s are a hybrid between public and private, neither liens nor bonds are assured as a means to secure payment. A project built on public land with private money and private control would only protect subcontractor payment if the P3 contract documents required it or, if the P3-enabling law mandated a payment bond be furnished on all P3 projects to ensure subcontractors and suppliers be paid for labor and materials furnished. Though a mechanic’s lien is available against a private party’s leasehold interest in public property, such liens may have limited value and be difficult to enforce. A P3 project is potentially lienable if the property was transferred from the government to the private operator. For clarity, a P3-enabling law should mandate the use of a payment bond on all projects to ensure those who furnish labor and materials get paid. Also, requiring a payment bond will encourage more reasonable bids by subcontractors and suppliers who are more optimistic they will be paid.

Reprinted with permission. Part II of this article will appear in next week’s eNews on Thursday, Feb. 7.

James T. Rohlfing's practice is focused in the areas of construction law and business litigation. He’s a partner with Saul Ewing Arnstein & Lehr LLP, a firm based out of Chicago.

mechanics lien, bond services, mechanics's liens

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