Manufacturing progress is incremental, but a few basis points can mean vast differences to industries and even whole economies. That’s why a change in sentiment in the UK could bring on years of positives for the listed giants of the sector. Make UK, a manufacturing industry trade body, recently revised its forecast for manufacturing growth for this year to 1.2 per cent, up from 0.8 per cent previously.
The upgrade reflects improved conditions, with S&P Global’s latest UK manufacturing purchasing managers’ index hitting a two-year high in July following three consecutive months of growth. Forward-looking indicators were also bullish.
“Hopes for an economic revival and reduced political uncertainty took confidence to one of its highest levels for two-and-a-half years,” said S&P Global Market Intelligence director Rob Dobson.
“There is a level of optimism starting to come through,” says Richard Austin, head of manufacturing at accountancy firm BDO.
The recent cut in interest rates helps as companies’ cost of capital eases, “but it feels like there’s a level of stability now, and that’s incredibly important for the manufacturing sector”, Austin added.
Labour manifesto pledges
James Brougham, senior economist at Make UK, welcomed the announcement in the King’s Speech that a new Industrial Strategy Council would be created, especially given Labour’s manifesto pledge that the body would be put on a statutory footing.
Over the previous 11 years, “we’ve had six industrial strategies come and go, which is antithetical to the point” of a long-term strategy, he said.
Placing responsibility for this at cabinet level also sets out a message to global investors “that the UK has a long term… plan for managing its industrial base”, he adds.
It should also be an encouraging sign for investors in UK industrial stocks, even if many of them tend to generate more of their revenue overseas.
The FTSE UK Industrials index is up around 10.5 per cent year to date, slightly outperforming the 6.3 per cent gain by the FTSE All-Share index. There are some big swings to account for within that, though, with the chemicals sub-sector reporting an 18 per cent slide and the aerospace and defence sub-sector a gain of 32 per cent.
And, although the outlook may not be spectacular given the current state of markets in the US and Europe, both of which are currently experiencing a slump, it is decent enough.
On a watch list of around 120 companies that have reported half-year numbers, twice as many have reported upgrades to guidance as downgrades, Peel Hunt analyst Harry Philips said. Ratings agency Moody’s also predicts “moderate” earnings growth of around 4 per cent for the world’s 30 biggest manufacturers in the second half of the year.
Some investors fear a repeat of 2015, where a decent if unspectacular second half gave way to a down year in 2016. Yet Philips thinks there are factors pointing to a more benign environment.
One is that pricing remains strong. Another is that “inventory levels are extremely low across the vast majority of supply chains” given widespread destocking over the past 18 months.
Manufacturers’ valuations are low
The good thing for investors is that the recent weak performance means valuations remain low. Of the 48 UK-listed industrial stocks that Peel Hunt covers, 38 are trading below their five-year average price/earnings ratio. Most also have strong balance sheets, with the sector average net debt just 0.9 times cash profit, and only four companies with a leverage ratio above two times.
Moreover, companies are not taking the kind of action they would if they had major concerns, with levels of capex and employment both holding up.
“It’s hard, but it’s manageable,” he said. “Companies are still planning for growth when growth comes.”
Rankings slide
Amid the optimism, there is also the UK’s recent departure from the ranks of the world’s top 10 manufacturers. Make UK agrees this should not be of great concern to investors in locally-listed manufacturing companies.
For a start, the slip actually occurred in 2022 – rankings are based on UN Trade and Development statistics and there are disparities between timeliness of data provision to the intergovernmental body.
Secondly, there were some specific factors behind the UK’s slump by four places from 8th to 12th in that year.
Although there are clear distances between the output of the world’s biggest manufacturers, with China’s $5tn of output dwarfing even the US in second place at around $2.7tn, the differences between the output of the world’s eighth biggest manufacturer (France, with $265bn) and the 15th-biggest (Canada, $208bn) are fairly small, explained Brougham from Make UK.
Secondly, 2022 saw major moves upwards by two nations that surpassed the UK. One was Mexico, whose output has been rapidly increasing ever since the Trump administration slapped tariffs on Chinese output, leading some Chinese manufacturers to establish final assembly plants in Mexico. Mexico’s manufacturing sector has also been growing in its own right, though, and World Bank data shows output has increased by 45 per cent over the past decade.
The other major mover in 2022 was Russia, whose manufacturing sector output jumped by more than $50bn to $287bn as it ramped up military production to support its war in Ukraine.
The UK, which recorded output of $259bn in 2022, “hasn’t, in and of itself, seen a huge change” in its output, Brougham said.