Trouble in store

Warnings of impending economic doom have reached fever pitch, and it appears that the UK economy is heading for, at best, a sharp turndown in growth and, at worst, a recession.

If interest rates stay the same, there is a 50/50 chance of recession. If they go up, it looks likely. But if they come down, the economy could be heading for a “soft landing”.

For the marketing and advertising sectors, the question is how deep and how long this slowdown will be, and the best way to tackle it. The recession between 1990 and 1993 drove a number of marketing services companies to the wall as savage cuts in marketing budgets formed a lethal cocktail with the companies’ high debts and earn-out commitments. But a downturn will affect different sectors in different ways.

Nick Shepherd, general manager for coffee and food at Kraft Jacobs Suchard puts a brave face on talk of a downturn. He believes a “recession” can be a self-fulfilling prophecy for food manufacturers.

“If you think the brand will be affected negatively, it will happen,” he says. “If you believe you can ride it out and even do well, and introduce marketing programmes that reflect that, you can put on share from your competitors,” he adds.

Shepherd does not venture an opinion on the prospects for the UK economy next year. But the indicators are clear that 1999 will be tough.

Economists point to two worrying indicators. Housing repossessions have increased for the first time in three years. And last week’s CBI Quarterly Industrial Trends Survey shows export orders dropping at the fastest rate for 12 years, leading to the sharpest fall in business confidence since January 1991. Only seven per cent of companies are more optimistic about the general business situation, compared with 51 per cent who are less optimistic, giving a negative balance of 44 per cent. In April, the negative balance was 22 per cent.

The manufacturing sector, making up one fifth of the economy, has been hit by the pound’s high exchange rate which has depressed exports. It has suffered two quarters of decline, the technical definition of recession.

But the question that vexes marketers is whether this manufacturing recession will spread into the service sector – which makes up over half of the economy. Manufacturing redundancies are on the up, with German-owned companies Rover and Siemens planning to lay-off some 2,600 workers between them. This is balanced, however, by BMW’s decision to build a new Rolls Royce factory.

Stephen Radley, chief economist at the Henley Centre, says: “It is going to be a period of slow growth over the next 18 months. At one per cent growth, it will start to feel like a recession, as unemployment will go up by as much as 400,000 next year.”

The trend for growth of the Gross Domestic Product (GDP) – the economy’s total output – has been about 2.5 per cent, but economists see this slowing to 1.3 per cent as the recession in manufacturing starts to bite. Another interest rate rise could drive this down to one per cent. Given that economists factor in a margin for error, and given the risks of further tremors in the international banking system caused by uncertainties in the Far East, it would be easy for this one per cent growth to turn into decline.

Marketers have plenty of recent practice in marketing through a recession, and many still bear the scars of the last downturn.

Kraft’s Shepherd concedes that in times of recession, investment in the product portfolio is shifted to brands most likely to do well, or less affected by a downturn. And capital expenditure, to pay for new or faster packing lines, for example, might be reduced. New product development is cut back and there is less investment in new lines to make new products and in the advertising to launch them.

When companies batten down the hatches, ad expenditure is the first thing to go. The knock-on effect of this for the marketing services industry was severe in the last recession. But it is better prepared for a downturn now than it was then.

The company Porsches, unlimited expense accounts and memberships of exclusive clubs have been curtailed. The over-manning of ad agencies has been cut, replacing staffers with freelances and new technology. Marketing services companies have learned some hard lessons.

The last recession claimed names such as FKB, Yellowhammer, Michael Peters, VPI and Moorgate as victims. Lorna Tilbian, media analyst at Panmure Gordon, explains: “They fared badly for two reasons – they had heavy debt on the balance sheet, where now there are no debts, and some companies have cash. They also had big earn-out commitments. The combination of high financial gearing and high operational gearing was asking for trouble.”

According to Amanda Merron, a partner at Willott Kingston Smith, an accountancy practice which specialises in marketing services companies, agencies are moving towards more retained relationships with clients. “They’ll have an annual contract, get paid 50,000 a month and the agency will have to have six months’ notice. There are more fee-based relationships. With commission, if the client spends more you get more money, but if it spends less, you don’t get anything.”

Nick Phillips, director general of the Institute of Practitioners in Advertising, says: “Agencies are more flexible, less hierarchical than at the end of 1989. They are much less flamboyant organisations.”

He says agencies have put in place proper costing systems, with a commission, fee or hybrid structure. “This hybrid might be part fee, part commission or a fee with an incentive built in and a minimum guarantee,” he says.

But whether these lessons have been learned by marketers as well is about to be put to the test. It appears marketers have failed to heed the warnings about a slowdown in spending and declining consumer confidence. They are now having to make some radical reappraisals of their sales forecasts.

Over two fifths of marketing managers expect to miss their sales target for this year, according to the Marketing Trends Survey of 434 marketers carried out by the Chartered Institute of Marketing. Last year, the marketers saw sales growth of 8.0 per cent, and this year were looking forward to 8.8 per cent.

CIM marketing director Ray Perry says: “In packaged goods and drinks, they will be lucky to get half what they thought. They will still get growth, but the predicted growth is not going to happen. Pressure will come from accountants to cut marketing budgets.”

The three areas which were hardest hit in the last recession were cars, out-of-home leisure and DIY, furnishings and other goods associated with the home.

According to the Henley Centre’s Stephen Radley, car sales will be hit, as will leisure activities such as dining out and trips to the new breed of mega-leisure complexes.

Areas which are expected to survive the coming downturn include those that suffered least the last time. Foreign holidays, for example, grew by 35 per cent in value between 1986 and 1990. But during the recession they continued to grow, increasing value by 11 per cent between 1990 and 1992. Car sales dropped by 25 per cent in that period.

High street sales have already been hit by tougher conditions than last year, when the building society windfalls unleashed some 30bn of extra spending, much of which went on high ticket items such as carpets. According to the British Retail Consortium sales are growing, but at a slower rate. The three month average has slowed from 3.1 per cent to 2.9 per cent.

Steve Davis, retail analyst at Corporate Intelligence, says: “We are in the realms of a slowdown, rather than a downturn. Figures show a pretty awful time but there are exceptional circumstances – last year’s windfall taxes, the unseasonably bad weather and the World Cup. If there are more interest rate rises, the situation could become dicey.”

The financial services sector can benefit in a time of economic hardship, as people tend to become more serious about saving in a recessionary environment and more cautious about money in general. People will take out regular savings schemes as a safeguard in case they lose their jobs. However, as they save more and spend less, it creates a vicious circle which makes the recession worse.

Graham Leigh, marketing director of Barclays Bank telephone investment arm b2, says: “People take saving more seriously because a ‘survival mentality’ kicks in if people think there is a chance they may lose their jobs.”

Unlike many other sectors, financial services advertising often increases during a downturn. Virgin Direct marketing director Andrew Inwood says the company would increase its level of communication with customers in the event of a recession.

But he believes that people have become wary after the last crash and are taking precautions. “The last recession happened suddenly because people did not expect it,” he says.

Most observers agree that whatever happens next year, it won’t be as bad as the last recession, which wreaked havoc in the ad industry between 1990 and 1992, when it lost a quarter of its 15,000 staff.

Nick Phillips of the IPA says: “There are no signs in terms of media spend and marketing activity that we are on the the edge of a precipice. Plans are there for the autumn.”

Finance departments will look at consumer spending and sales forecasts to judge how far to cut marketing budgets – it costs companies nothing to cut them, unlike redundancies and asset sell-offs.

But lost market share can be expensive to win back. They should be wary of making cuts unless things get very bad indeed.

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