Early 2010 – Calling A Turn In The Economy

Joseph Schumpeter, the legendary economist and political scientist, called it “creative destruction” when a severe downturn ravaged a wide range of industries, sectors and nations – ruining growth, devastating jobs and squeezing credit in the process.

Well, we’ve certainly seen plenty of “destruction” over the past 18 to 24 months; now it’s time for the “creative” part, and it should start sometime early in 2010, when the economy’s healing process begins to make itself felt.

That’s right. I believe the economy is beginning to mend and knit back together. As we all know, the “destruction” has been excruciatingly painful and dislocating, but it has cleared out the uneconomic and unproductive investments and set the stage for steady new growth and sustained capital markets-driven enrichment.

I say this with conviction because several key economic indicators – retail, manufacturing and housing, for example – are stabilizing and pointing to choppy near-term growth. Even employment, which typically lags an upturn by two to three quarters, is showing improvement. In addition, both the stock market and the bond market (via a steeper yield curve) are leaning toward expansion.

Corporations have cut costs and delivered improved bottom lines, greatly impressing Wall Street in the process; but companies will have to beef up the top-line and drive meaningful growth in the early quarters of 2010 to continue to justify their stock prices. I believe this can – and will – be done.

Corporate health in 2010 will come in one of two ways: organic and acquired growth. My strong view is that many companies will supplement their organic growth with smart strategic acquisitions. And this will set the stage for a period of long-term organic growth as the new decade unfolds.

Indeed, we have already seen a dramatic pickup in serious M&A discussions in recent months. Based on these conversations, there are three trends worth reporting and noting:

• Vertical Integration – Companies are looking to vertically integrate to either get closer to the customer (in many industries, this is where the true value – and margin – exists), or to wring more profit out of the value chain, an essential exercise in today’s still-restrained economic environment.
• Acquisition to Capture Innovation – Good examples here are technology companies buying social media companies and traditional lighting companies buying LED companies to tap into the emerging clean technology marketplace.
• Acquisition to Enter Markets – This is where the global economy vectors in. We are watching carefully as Chinese and Indian enterprises purchase U.S. solar assets and automotive-sector companies in order to gain access to our market.

The number of announced M&A deals accelerated during Q3 and Q4 of 2009, but I believe these transactions understate what is actually happening in the marketplace. As we emerge from the end-of-year holiday period, I am hearing that numerous transactions in across-the-board sectors are currently being negotiated and diligenced. Watch carefully during Q1 and Q2 of 2010 as these deals are formally made public. And don’t be the least bit surprised if the numbers offer a significant upside boost.

I’m a veteran investment banker of more than two decades, and I’ve seen markets go way up and come way down; I’ve also seen middling markets that just muddle along. And I know there are no sure-fire ways, no fancy formulas, and no hard-and-fast indicators that help you definitively call the turn. If you think there’s a magic growth equation, you’re probably too far out on the risk curve, and it’s time to walk the cat back in a hurry.

But I do have a pretty good feel for things, and my gut tells me that the next 90 days are going to lead us out of the destruction and into a more creative phase, where savvy capitalists and solid market players will once again be able to build a conservative and substantive investment foundation that will ultimately make the second decade of the 21st century one of the most prosperous and productive periods in recent memory.

I look forward to reviewing the numbers – and our progress – in April. Without question, it should be an interesting quarter.

Michael Butler is Chairman and CEO of Seattle-based Cascadia Capital LLC, a national investment banking firm that finances the future for emerging growth companies in a wide range of industries. Read his past peHUB posts here.