Scout out a strategy

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Improve your performance while the economy is strong and prepare for the next downturn.

February 11, 2019

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Be prepared.

It’s simple, it’s straightforward, it’s good advice.

The Boy Scouts adopted “Be prepared” as its motto more than a century ago. When someone asked Scouting founder Robert Baden-Powell, “Prepared for what?” He replied, “Why, for any old thing.”

In 1908 he wrote in Scouting for Boys that to be prepared meant that “you are always in a state of readiness in mind and body to do your duty.”

This is excellent advice for scouts in the wilderness or business owners in the thick of their industry.

The scouting motto resonates with Charlie Hall, economist, green-industry mentor and Ellison Chair in International Floriculture at Texas A&M University. He wants growers to consistently look for ways to improve their businesses, especially when the economy is strong, so they’re better prepared for the next economic downturn.

“Relatively speaking, the economy is up, and it grew considerably in the last year in the wake of the Tax Cut and Jobs Act,” Hall says. “As consumers, we like tax cuts. They provide consumers with more purchasing power.”

And more purchasing power means more money spent on goods and services.

The Tax Cut and Jobs Act (TCJA) certainly provided a shot in the arm of the economy, and it’s one of the reasons the GDP went up to 4.2 percent in the second quarter of 2018, Hall says. And by the third quarter the GDP was at 3.4 percent, “which is still good,” he reports. Hall expects that number to be just below 3 percent when the fourth-quarter numbers come in.

The TCJA helped provide an increase in the consumption of many products, not just green-industry products.

But the TCJA came at a time when the economy was already performing well.

“When we stimulate an already stimulated economy, we get that short-term bump in consumption,” he explains. “But that wears out over time and the consumption factor starts waning. We’ll likely see consumption begin to decrease a little in 2019.

“This was the wrong time of the business cycle to be putting in a policy like that to stimulate the economy because the Federal Reserve had already been stimulating the economy with ridiculously low interest rates for a decade. Then we’ve been building in fiscal policies and some infrastructure spending to stimulate the economy.”

When TCJA was enacted, the unemployment rate was at 3.9 percent, which is considered “below normal” to economists.

“When an already stimulated economy is stimulated, that can cause inflation. But we’ve dodged that risk, and the Federal Reserve has done a great job in terms of helping manage that,” he adds.

He predicts the feds will raise interest rates in March and September.

“We want to make sure the feds don’t decelerate the pace of the economy. I don’t think that will happen, but that’s hard to forecast,” he says.

Other indicators

There are some indicators that help predict how well the green industry will do this year.

On the good news front, the demand for plants is quite strong with the National Gardening Survey reporting that 95.5 million households participated in some gardening activity and that spending on gardening was at an all-time high at $503 per household annually.

“That indicates we’re doing something right in this part of the business cycle,” he says.

The housing forecast calls for 1.3 million houses this year and the cost of homes is expected to slightly increase in 2019.

In 2019, growers have to manage their costs and/or increase their prices to make up for those extra shipping costs.

“We should be at 1.5 million housing starts based on our current demographics, but hurricanes and fires hurt the market, and there’s a shortage of lots available to build houses,” Hall explains.

And just like in the green industry, the construction companies are having a tough time finding and keeping labor.

“But there was a law of unintended consequences in play in terms of the Tax Cut and Jobs Act. It took out some tax incentives of owning a home,” he says. “Also, many folks are electing to rent because housing affordability has gone down. But overall the health of the housing industry is good news for us.”

Distribution costs are another factor that affects the health of the green industry. There was a driver shortage of 100,000 last year coupled with a 3.5 percent increase in tonnage carried by trucks. The driver shortage is expected to keep going up. Therefore, transportation and shipping costs will continue to rise.

“In 2019, growers have to manage their costs and/or increase their prices to make up for those extra shipping costs,” he adds.

Don’t hang your hat on driverless trucks.

“It’s still going to take a while to have the confidence needed in that technology,” he says.

The major transfer of wealth from one generation to the next continues to be significant to the economy.

“There are 11 million fewer people in the X generation mathematically, so hopefully as they enter that ‘sweet-spot’ age of gardening and landscaping homes, they’ll spend the money. And we have to emphasize those functional benefits of plants to retain relevancy in that demographic,” he explains.

Profit margins

In general, sales increased for green-industry firms and profit margins tended to increase in 2018 over 2017.

“Some growers even made a 25 percent profit margin, but keep in mind that we have large range in our industry from those who lost money in 2018 to those getting 10, 20 or 25 percent profitability,” he says.

For those growers making a 25-percent profit margin, they are managing working capital correctly and they’re articulating the value proposition of their product to their customers in a straightforward and meaningful fashion, he adds.

Growers with higher profit margins are also managing their SKUs.

“SKU management requires growers to look at their product mix to see where they have the biggest sales, then emphasize those SKUs,” he explains. “Don’t try to have all the products for all customers.”

SKU management should be part of your planning process every year, he advises. “First list all SKUs by order of sales – ones that generate most sales all the way to the bottom that generate little to no sales. You need to have an arbitrary cutoff. For this instance, let’s say $1,000 in sales. Why are you wasting resources and talent for something you’re not selling more than $1,000 worth of?”

Next, he says to list all those SKUs by their gross margins and rank them. To do that, you have to know the cost of those particular line items. Finally, look at the bottom third and ask yourself, “How can I get those margins higher?” Hall says by either reducing prices or increasing costs.

“The 80/20 rule definitely applies, and sometimes it’s the 90/10 rule,” he says. “When you’re spending a lot of time on that bottom 80 percent, that takes a lot of managerial talent and labor, and you’re not getting a lot of gain from it.”

At the end of 2017, Hall calculated the index of prices paid by growers, which included all costs involved in producing plants except sales and general and administrative expenses, and those costs increased 22 percent from 2007. But anecdotally, prices charged for plants did not keep up with the spike in production costs, which squeezes margins.

“That’s why it’s imperative to look at your price structure every single year,” he says. “Do you have an opportunity to increase prices because you adopted some production efficiencies or because of stimulated demand or because of your increased marketing efforts?”

Be prepared

We’re in a long expansionary period, and Hall says we’re experiencing the lowest financial stress we’ve had in in decades.

“But if I’m a firm in the green industry – or any industry – and I’m not performing well, I must ask myself, ‘Is this the best that I can do and how am I going to make it through the next recession? How do I reposition my business?’”

Based on several indicators, Hall expects the next economic downturn to occur in 2020 or 2021. However, it’s typically the following spring before it affects the green industry.

“I give it a 50/50 chance that the downturn will happen in 2020 and an 80 percent chance it will happen in 2021,” Hall says. “If a recession starts in 2021, we won’t feel the impact until spring 2022, therefore woody growers need to start controlling growth now. That does not mean to not plant anything. What it means is don’t grow on spec and manage your inventory. Not just the numbers of new things you plant, but the ones you’re shifting up, too.”