December 2014 Report: Small business optimism perks up in December

The Small Business Optimism Index gained 2.0 points, taking the Index to its highest level since February 2007. The average of the Index from 1974Q4 to 2014 to date is 98, which includes all the Great Recession readings. What didn’t improve were the four “hard” Index components: job creation plans, plans for capital outlays, job openings and inventory investment plans, together adding a negative 1 percentage point to the Index. The entire gain in the Index was accounted for by two components: Expectations for Business Conditions in Six Months and Expectations for Real Sales Volumes, adding a combined 21 percentage points to net favorable responses, perhaps a response to the November election results. 

The percent of owners reporting job creation fell a point from October to a net 2 percent of owners, continuing a four month run in positive territory. Overall, the average increase in workers per firm was 0.05 workers per firm, up from 0 in October, positive even if small. Twelve percent report increasing employment an average of 3.6 workers while 10 percent reduced their workforce by an average of 3.3 workers (seasonally adjusted). Fifty-three percent reported hiring or trying to hire, but 45 percent reported few or no qualified applicants for the positions they were trying to fill. Fifteen percent reported using temporary workers, up 1 point. Twenty-four percent of all owners reported job openings they could not fill in the current period, unchanged from October and a historically solid reading. Job creation plans improved 1 point to a seasonally adjusted net 11 percent. 

The net percent of all owners (seasonally adjusted) reporting higher nominal sales in the past 3 months compared to the prior 3 months fell 1 point to a net negative 4 percent, a rather poor picture and inconsistent with the rise in optimism – bottom line, it is customers that bring joy and improve optimism. Twelve percent cited weak sales as their top business problem, one of the lowest readings since December, 2007, unchanged from October. Expected real sales volumes posted a 5 point gain, rising to a net 14 percent of owners expecting gains.

The pace of inventory reduction shifted to a modest investment position, with a net 1 percent of all owners reporting growth in inventories (seasonally adjusted). The net percent of owners viewing current inventory stocks as “too low” was unchanged at a net negative 3 percent, suggesting that stocks are excessive relative to sales expectations. The net percent of owners planning to add to inventory stocks fell 1 point to a net 2 percent, positive but not very strong in light of the improved sales expectations. 

Fifty-seven percent reported outlays, 1 point better than October. The percent of owners planning capital outlays in the next 3 to 6 months fell 1 point to 25, a strong reading in this mediocre expansion, but historically weak. Of the 53 percent of owners who said it was a bad time to expand (down 5 points), 19 percent (down 9 points) blamed the political environment, a sign of some optimism growing from the election results. The net percent of owners expecting better business conditions in 6 months rose16 percentage points to a net 13 percent, a huge gain perhaps related to the election outcome. A net 14 percent of all owners expect improved real sales volumes, up 5 points. A nice rebound in expectations, not yet translated into plans for more capital spending. 

Earnings trends improved 3 percentage points, reaching a net negative 17 percent. Sales are not improving substantially and labor costs continue to put pressure on the bottom line but energy prices are down a lot. That helps, but it is clear that firms are not able to pass their cost increases, primarily compensation, on to customers through higher prices. Two percent reported reduced worker compensation and 22 percent reported raising compensation (up 1 point), yielding a seasonally adjusted net 21 percent reporting higher compensation, up 2 points. A seasonally adjusted net 15 percent plan to raise compensation in the coming months (up 2 points). The reported gains in compensation are still in the range typical of an economy with reasonable growth, and labor market conditions are suggestive of a tightening, which will put further upward pressure on compensation. 

Four percent of the owners reported that all their credit needs were not met, holding at the historic low. Twenty-nine percent reported all credit needs met, and 54 percent explicitly said they did not want a loan. Only 3 percent reported that financing was their top business problem. Thirty- three percent of all owners reported borrowing on a regular basis, up 5 points and high compared to recent experience. The average rate paid on short maturity loans increased 10 basis points to 5.6 percent. The net percent of owners expecting credit conditions to ease in the coming months was a seasonally adjusted negative 6 percent; 1 point worse than October.