Thursday, January 20, 2022
Economic Outlook: Long-Term Trends Vs. Short-Term
Why the struggle to find qualified labor will remain long after the pandemic: Kramer
Source: CSP Daily NewsBy Jeff Kramer, Managing Director, NRC Realty & Capital Advisors
DENVER — Everyone remains hopeful that we are seeing the last vestiges of the COVID-19 virus and pandemic. Perhaps it will soon start to show its decline, at least in the United States, as evidenced most recently by fewer hospitalizations and deaths. Still, spreading further to other key countries like China will exacerbate supply shortages and extend inflation.
Regardless of COVID at this point, very large changes are affecting financial markets, which in turn will impact the economy, interest rates and certainly merger-and-acquisition activity in the convenience-store industry and beyond. It also extends to c-store cash flows and all-important purchase-price multiples.
Key material shortages will also persist, most notably computer chips, which are starting to remind me of oil’s historic importance. But one change likely to persist in the U.S. for quite a while is that of finding a qualified labor force with the skills needed for both old industry positions and new-age technology-oriented job requirements. Think of finding truck drivers with truck computerization and automation skills as one example.
Long-Term Vs. Short-Term
Some of COVID’s changes to the economy will prove transitory in nature; some will not. Technology has allowed a huge amount of the workforce to work from home, leading many employees to work from or move to smaller towns.
In our industry, multiples have always been stronger in urban markets vs. rural because of property values. If rural store cash flows improve relative to urban, that might cause a big shift over time.
The U.S. generally competes well in the world in technology, including artificial intelligence, cloud storage, robotics and perhaps less-polluting electric and driverless vehicles. Internal combustion engines (ICEs) are not going away overnight, but the automotive industry is having perhaps a transformation not seen since World War II, and it will be interesting to see how the economics of alternative engine economics will compare with ICEs on cost, maintenance and net energy savings. Regardless of how we feel about the subject, the worldwide race is on.
At this time, the U.S. economy remains fairly strong, helped by business and consumer savings. Both federal government fiscal spending and especially the Federal Reserve pumping in huge reserves and reducing interest rates near zero for a long time now have more than been able to offset the slowing effects of COVID. However, the Fed pumped far more money into the economy than it could absorb for long-term productive uses such as retraining the workforce, education and climate change. Instead, the huge excess stimulus wound up increasing asset values beyond any peacetime norms, most notably stock prices, home prices and some commercial values. The Fed is clearly behind the curve, as they are still adding $40 billion per month to their record $9 trillion overall deficit.
Closer to Home
Convenience stores and fueling stations benefited by being deemed essential businesses early on in the pandemic, helping provide record fuel margins and overall profitability, which ultimately have an effect on asset value, generating sizable M&A demand. Overall total U.S. retail sales were incredibly 11% higher in 4Q 2021 than in 4Q 2020. Perhaps this is related to worries of COVID-induced shortages largely from China, where they have many very serious economic issues of their own.
The net result has been an inflation rate in most countries that is the highest in 40 years and led by food and energy, still critical items whether the Fed economists consider them to be core items or not. Most important, so-called free-money interest rates may be a thing of the past, as the Fed tries to calm the markets while praying inflation cools down.
Convenience for sure will always be an important customer need and shoppers will always shop with their eyes as well as their wallets.
Unfortunately, 2022 is an important congressional election year at a time when the politically appointed Federal Reserve has decided not to act until the historic inflation has shown up in delayed and sometimes flawed government statistics. If this inflation slows spending at the same time businesses and consumers react to normalizing interest rates at higher levels, the combination is not good.
The U.S. federal deficit is now $29 trillion compared to a $21 trillion in gross domestic product (GDP), a ratio that implies higher interest rates that may cause business to compete with government for funds. Over the past 30 years, the benchmark 10-year U.S. Treasury Note rate has averaged more than 3% compared to 1.7% currently with inflation at over 7% by any measure, compared to much lower normal inflation rates.
So with interest rates rising and inflation strong, what’s next for employment prospects in the labor-intensive convenience-store industry? The U.S. unemployment rate is already at an extremely low 3.9%, and November 2021 statistics showed job openings at 10.6 million positions, compared to November hires of 6.7 million jobs. Meanwhile, many workers are quitting or changing jobs at very high numbers, a sign of a still healthy economy. More and more economists now believe the scales have tipped toward labor after many years of ample labor supply at reasonable costs.
The profit challenge is on for the fuel/c-store/foodservice industry.
During the COVID period, less volume in key categories for many retailers, such as fuel, cigarettes, beer and carbonated soft drinks (CSDs), has led to higher prices and margins, which so far often exceed high labor costs to again lead to record industry profits. Will this continue in the post-COVID era?
Capital will be needed for automated checkout counters, robotics, solar power and maybe rapid electric fueling chargers, if desired at fuel outlets and economically justified. There will be a great deal of competition for fast and convenient electric fueling, and as we know, our customer base often fuels and buys convenience items at one stop. And if the consumer gets more price conscious, our industry is not always perceived as price competitive, not necessarily fair depending on the competition. Convenience for sure will always be an important customer need and shoppers will always shop with their eyes as well as their wallets.
Regardless of any of the above, consolidation and c-store M&A will remain active. Chain and store profitability may vary more than normal. Fuel pricing differentials of 30 cents or more per gallon between stores may not be as common as seen recently. Sellers will see more market multiple variation. Cost cutting will hopefully continue. There are many dynamics to consider.
Recent selling multiples for quality c-store chains with owned stores have been as high as 14X store cash flow before synergistic savings and compares to 5X after the 2009 recession through 2014 when they started to improve.
The good news is that despite the challenges of 2022, quality well-financed buyers remain active in an overall very profitable business. Maintaining record multiples may be more challenging, but more important could be multiples and business confidence as buyers are constantly reminded about New Age vehicle and autonomous vehicle rollouts. Key to electric vehicle fueling will be whether our stores handle 10% of that new business, or will they handle 70%? Through it all, consumers gotta fuel and gotta eat, and historically this industry has done an excellent job of keeping up with both.
Jeff Kramer is managing director at NRC Realty & Capital Advisors LLC, Chicago. He may be reached at firstname.lastname@example.org.