Sail Through, Optimize, Or Transform?

How to emerge as a winner from the next recession

The manufacturing industries market has grown for the past 10 years. Leaders in machinery and engineering firms grew accustomed to volatility and an unprecedented level of uncertainty and risk. But now – for the first time in a decade – lead indicators show an imminent downturn risk. The downturn will be different than previous ones and might hold a cocktail of shocks. However, most firms enter the potential downturn from a position of strength – certainly stronger than it was the case in 2008 – and could emerge as winners if they take the right action.

Since the financial crisis in 2008-2009, the market for mechanical engineering firms has grown steadily. With the exception of a few minor dips, the industry has experienced an economic upswing of unprecedented length. Despite all the volatility, uncertainty, and ambiguity, growth in machinery and engineering companies has been relatively steady. But now a potential downturn has become more imminent.

88% of manufacturing industry firms are currently in a good position


While macroeconomic indicators are still mixed, they have begun to show a downward trend in the past months: the German IFO index has dropped in June 2019 to the lowest level since November 2018. Europe is up a bit in the second quarter of 2019 but the US purchasing manager index dropped for the third month in a row, to its lowest level in three years.
Oliver Wyman has built a lead indicator to predict potential recessions in mechanical engineering. While the indicator for Germany has been in the neutral-to-“green” range since 2009, it turned “red” in the last quarter of 2018. As the lead-time for this indicator is four quarters, it indicates a downturn for the sector as a whole in the second half of 2019. Some early-cycle subsectors are already experiencing a sharp decline in new orders: for example, plastic machinery, textile machinery, and machine tools all saw a drop-in demand in excess of 10 percent. (See Exhibit 1.)

Exhibit 1: Monthly order intake German mechanical engineering segments (yoy development)

Source: Oliver Wyman analysis


The downturn in 2008-2009 was harsh but relatively short for most of the industry: the drop-in demand was severe, but governments and central banks acted decisively, and demand rebounded quickly. Companies that did cut their cost in the short term and kept their core group or employees weathered the storm reasonably well.
However, this time the recession will be different for three reasons:
Firstly, a downturn will accelerate the underlying shift in demand that is driven by structural changes like electromobility or digitization in many subsectors. For example, the automotive industry is likely to cut capital expenditures for machinery for conventional combustion engines even further in a downturn to preserve investments in e-mobility. Manufacturers affected by these accelerated market shifts will suffer disproportionately.
Secondly, trade barriers are likely to rise further in a downturn, disrupting global supply chains and complicating sales for machinery firms, which rely heavily on export sales.
Lastly, the ability of governments and central banks to help in a downturn has decreased significantly as public debt has grown and interest rates have little room to drop further. In an extreme scenario, the stability of the Euro or the global financial system might be tested.
So, anything from a mild wind to the perfect storm seems to be possible.


That said, companies currently find themselves in a strong position. Thanks to low interest rates, there is significant financial headroom, equity has been up built over 10 years of growth, and profitability is back to 2007 levels. (See Exhibit 2.)

Exhibit 2: Starting situations differ strongly by manufacturing firm (*dots represent companies)

Source: Oliver Wyman analysis

At the same time, there is significant room for reduced complexity, better performance, lower cost and more flexibility. Because many companies have been busy managing growth, structural cost reduction has been postponed in many cases, and the move to low-cost countries and localization of supply chains has not moved along as fast as planned. In many cases, IT platforms date back to the 1990s and digitalization of processes are still in the pilot stage.


Industry aspirations are high: A survey by Oliver Wyman indicates that 91 percent of executives aim to emerge stronger from the next downturn. And for those who act decisively, the returns are likely to be significant. On average, companies that actively undertook a transformation of their business in the 2008-2009 recession saw a 4 percent EBIT gain, as compared to those who took a passive approach. (See Exhibit 3.) Those companies that deployed traditional cost-cutting measures came out in between.

Exhibit 3: Action creates a return

Adj. EBIT-margin development for peer group in the same industry segment
Percentage point difference, sample of 100 public manufacturing firms during 2008-2009 recession

Source: Financial Benchmarking, Oliver Wyman analysis

What companies should do in order to prepare for the downturn very much depends on the situation they are in. “Sail Through”, “Optimize”, and “Transform” are typical archetypes for strategies in a recession. There are certainly a number of generally good practices such as full transparency, securing financing and cash, having multiple contingency plans ready, and being aware of how recession-proofed your management team is. Having taken those steps, companies should decide on their recession strategy and aim high to emerge as a winner!

Sail Through, Optimize, Or Transform?