The Credit Crunch May Hurt Capital Spending

While the tighter credit atmosphere caused by the subprime-mortgage crisis has improved recently, some economists warn the experience has left companies a bit gun-shy about future capital expenditures.

The earthquake that was the summer's credit crunch has eased, but companies are still feeling the aftershocks. While the tighter credit atmosphere caused by the subprime-mortgage crisis has improved recently, some economists warn the experience has left companies a bit gun-shy about future capital expenditures. Some large companies have already said they may scale back capital-spending budgets for 2007 or 2008. Of course, other factors are also weighing on capex, from a sluggish economy to companies' strategic decisions. It's hard to separate out any effect the credit crunch may be having. And as the credit atmosphere has improved, aided by the Federal Reserve, companies' willingness to spend may improve as well. Still, concerns linger, bolstered by fears that the credit crisis may not yet be done roiling markets and curtailing liquidity. If that were to happen, capital spending could slow further - and the slowdown could hamper economic growth. "There's no question senior management in most corporations are being very cautious right now," said Nariman Behravesh, chief economist at Global Insight, a Lexington, Mass., economic forecasting and consulting firm. Behravesh is less concerned about capital spending now than he was during the heart of the crunch, but he still sees capex moving "sideways" for the next year or so. "We don't see capital spending being any sort of major engine of growth right now," he said. "A lot of these guys are not going to cut back, but they're not going to make huge bets, either." Economic indicators covering the period of the worst of the crunch are starting to show the impact on capital spending. Factory orders declined 3.3% in August and durable-goods orders fell 4.9%, according to the Commerce Department. Both were worse than expected. In addition, a recent survey from Duke University's Fuqua School of Business and CFO Magazine indicated that out of 154 chief financial officers who said their companies were affected by the credit crunch, 30.5% plan to delay or reduce capital spending. Some of the biggest, most prominent companies around have said since the crunch began that they may cut back on their capital spending, though they tend to cite other reasons rather than blaming the credit problem directly.

Auto, Housing and Construction Capex May Suffer The Most

Wal-Mart Stores Inc. (WMT), for instance, said last month that its capital spending may be less than the $15.5 billion it had forecast for the year - an amount that itself had been reduced in June from a previous forecast of $17 billion. The company has portrayed the reduction as a move to cut construction costs, use capital more efficiently and slow expansion into new stores in favor of boosting sales at existing stores. A Wal-Mart spokesman declined to comment. FedEx Corp. (FDX) said last month that its management "is reviewing the timing of capital outlays, which could result in lower spending for the year." Spokesman Jess Bunn blames "a general sluggishness in the economy, especially in the freight sector," though he added the company is still "confident" in the sector for the long term. General Motors Corp. (GM) said in late July that it was lowering its 2007 capex target to the $8 billion range from a previous target of $8.5 billion to $9 billion. Renee Rashid-Merem, a GM spokeswoman, said the move "reflects more of a lean approach" to costs other than those specifically targeted to GM's products, as well as a "re-timing" of some expenditures. Global Insight's Behravesh said "anyone associated with housing and construction" may see capex suffer the most, along with the auto sector. To be sure, many of these announcements and other indications of lower capex came before the Fed cut interest rates by half a percentage point last month, in an effort to prod the economy out of its subprime-induced troubles. But Jan Hatzius, chief U.S. economist at Goldman Sachs, said "money markets still aren't back to normal," though the Fed did help. Hatzius wrote in a note this week that while market liquidity has improved recently, if it were to tighten anew "it may get harder for corporate borrowers to finance projects. Such a financing constraint could weigh on capital spending and real GDP (gross domestic product) in 2008." Expect those concerns to persist for some time. The credit markets may be recovering, but optimism about the future may take a while longer.