Stabilising in the US

• Introduction
• Catalyst for Corporate Productivity
• Behavioural changes among consumers
• Scalable business models

 Introduction

The global financial meltdown slowed economic progress, generated massive corporate and employment losses and changed people’s lives. It reoriented the structural dynamics of how companies make decisions and investments. It also made capital a scarce commodity for a short period of time. Despite all of that, and the fact that US residential real estate acted as ground zero for the crisis, the US economy has stabilised and corporate profits are expanding quickly from post-downturn lows. After a substantial rally, the stock market is no longer “cheap” however, but prospects are not as gloomy as once feared.

 Catalyst for Corporate Productivity

For many US corporates, the downturn has been a meaningful catalyst for corporate productivity improvement since the 1990s technology revolution. It forced them to reduce exposure to marginal projects and cut costs to operate and thrive with less revenue than they enjoyed during the cyclical peak years of 2006 and 2007. Many companies have taken the re-engineering much further and have sought ways to leverage the already-robust structural benefits of solid infrastructure, a well-educated labour force and strong rule of law that previously made the US an economic powerhouse.

Clearly, the case for optimism is not based on hope for a remarkably rapid economic recovery. After all, US unemployment recently surpassed 10% and will likely remain at high levels through 2010. Income growth has stalled and, we believe, may not exceed 3% in 2010, and top-line revenue growth for most companies will not get closer to 2007 levels for at least a few years.

In our view, it looks and feels like a long and difficult battle to reach real economic growth. Wildly high federal deficits have weighed on the value of the US dollar, and most consumers and businessmen are preparing for higher taxes, which will be needed to fund the federal deficit in the future.

 Behavioural changes among consumers

The pessimistic outlook has been exacerbated by real behavioural changes among consumers who are learning to live with less and, in many cases, to pay less for what they need. Government liquidity provisions granted in the heat of the economic crisis bring with them government meddling in company operations and a new mantra of wage controls for highly-skilled (and high-consuming) workers in a few select industries.

 Scalable business models

Consistent leaders have scalable business models–that is, they are able to maintain and improve their levels of performance during an increase in their business without making significant fixed-cost investments – and company-specific drivers of success, and have shown the ability to perform fundamentally throughout entire business cycles. Many US companies fit this bill, including notable technological innovators such as Intel, QUALCOMM and Cisco.

As the market value of the S&P 500 Index recently stood at roughly 17 times forward earnings, a level which reduces the chance of expansion of the overall market’s price-earnings multiple. The prices of many economically-sensitive cyclical stocks already reflect optimism about improved profits in 2010 and 2011 but the outlook for earnings may still surprise.