Profit outlook continues to improve for Canadian industries
March 14, 2011 by Conference Board of Canada
The Conference Board of Canada’s Leading Indicator of Industry Profitability index advanced 0.5 percent in February, marking six consecutive months of increases. The index has now regained all of the ground that it lost over the previous six months, according to the Conference Board.
The evidence suggests that the increase in corporate profitability is gaining momentum. Forty of the 49 industries covered saw improvements in their indexes in February. The broad-based gains signal a positive outlook for corporate profits going forward.
High commodity prices are improving the profitability outlook for many goods-producing industries, according to the Conference Board of Canada. For example, prices for grains and oilseeds, oil and metals have all taken off in recent months. The leading indicators for a variety of industries – including agriculture, oil and gas extraction, mining and primary metal products – have all surged as a result. However, higher commodity prices are detracting from the outlook for industries that are major users of these products – industries such as transportation services and plastic and rubber product manufacturing.
Interest rates are also driving the profitability outlook. With the Bank of Canada sticking to its low interest rate policy, borrowing costs are expected to remain at historically low levels for much of this year. Therefore, the cost to producers of financing new machinery and equipment purchases, property or other high-cost items will remain low. Manufacturing industries – such as machinery and electrical equipment – are benefiting from this.
At the same time, labour market conditions are improving and consumers are feeling a little more optimistic about the future. Thus, consumer spending is on the rise, and industries that rely on consumer spending are benefiting, including wholesalers, car and furniture retailers, food services, air transportation services, art and entertainment, and accommodation services.
Offsetting some of the benefits of low interest rates and healthy labour markets is the strength of the Canadian dollar. Export-oriented manufactures are highly sensitive to the exchange rate, and an appreciating dollar can mean weaker international prices and lower sales. The strength of the dollar has only increased the competitive pressures that Canadian exporters are facing from emerging markets, such as China and other Asian countries. Lower production costs (in particular, lower labour costs) in these countries have enabled them to significantly expand their trade with the United States and other major consumer markets. As a result, the profit outlook remains weak for a variety of industries, including clothing and textiles, plastic and rubber products, furniture and paper products. On the other hand, the rising Canadian dollar helps industries that rely heavily on imported inputs that are purchased in U.S. dollars. This is the case for much of the wholesale and retail segments.
The strength of the dollar is also contributing to the challenges in the motor vehicle and auto parts manufacturing industries. Both serve primarily the U.S. market, and the combination of a strong dollar and the slow pace of the recovery in U.S. motor vehicle sales has led to six consecutive months of decline in the profit indexes of both industries. A strong rebound in U.S. vehicle sales is mandatory before the profitability outlook can improve.