Processors navigating financial troubles amid changing markets

As plastics processors navigate changing markets due to the COVID-19 pandemic, "poorly run" businesses could face financial troubles toward the end of the fiscal year, despite their end markets, analysts say.

A "culmination" of things are offsetting a "tidal wave" of those processors selling or filing for bankruptcy protection, Ted Morgan, partner and management consultant at Plante Moran PLLC, told Plastics News.

"The patience level of banks has been a bit higher, especially for smaller manufacturers," Morgan said. "There's too much at risk for them to be overly aggressive and start calling on what they've lent to the market … and that has effectively delayed some of this."

While the automotive market has recovered "pretty nicely," he said, "it's not totally recovered." Bigger plastic processors are generally better positioned with enough capital to make it through a financial downturn, Morgan said.

"Plastics processors who were operationally sound and on the right vehicle platforms prior to COVID are doing OK, have cash flow, can pay their vendors, are getting paid by customers," Morgan said. "But a growing number of those not on as solid ground going into to the pandemic are really starting to feel the pain."

The CARES act, which put some cash in the hands of workers who were furloughed earlier this year, along with low gas prices and interest rates, have "helped consumer spending levels up, which drives up plastic part demand in many end markets," he said. "All of these factors have really helped stave off any major implosion of most plastics market segments."

Laurie Harbour, CEO and president of consulting firm Harbour Results Inc., told Plastics News she didn't think low interest rates have had a major impact on companies' financial health during the pandemic.

"I think the biggest problem is that companies can't get working capital to ramp back up again, and I don't think we're going to have a sustained ramp up," Harbour said.

Based on Plante Moran's annual North American Plastics Industry Study, Morgan said that as plastics processors grew from 2015-17, they likely bought equipment and hired staff to keep up with demand.

When sales plateaued in 2018 and 2019, he said, typical processors were doing "just OK."

"When sales growth slows or, worse, declines, they typically struggle to flex their labor quick enough to respond falling end-customer demand, leaving them saddled with high debt and too many employees," Morgan said.

"It wasn't a cost-efficient market going into COVID," he said. "Back-to-back, year-over-year declines in profits, utilization was declining and labor productivity was just OK.

"Then you throw in falling demand in appliance, automotive and consumer goods," Morgan added. "The onset of COVID really hurt. It drew into the working capital of the plastics processors. They maxed out their lines of credit with the banks, and they got the PPP [Paycheck Protection Program] loans to stay afloat."

After a 10-year expansion for the industry since the Great Recession, 2019 was "the first time" there was negative overall growth in plastics, said Bill Wood, owner of Mountaintop Research and Plastics News economic editor.

"There had been some ups and downs," Wood said. "But every year registered positive growth. 2019 did not have positive growth."

This was partially due to lower motor vehicle, computer and household consumer product sales, he said.

"You could see the same thing in the machinery data. ... Nothing was generating extra demand," Wood said. "It was averaging, as plastics does over the long term, about the same pace as the overall economy. Last year, the overall economy expanded, but plastics did not.

"I had anticipated we might get a little rebound this year," he added. "Obviously that's not going to happen now."

Harbour said banks, customers and the rest of the outside world are seeing the "very early stages" of financial strain due to the pandemic.

"I believe that the companies are actually in financial strain and have been for a few months," she said. "There's a couple of things going on. Some of it's just denial. … And some of it is just not really knowing and understanding how much trouble we're really in."

While Tier 1 suppliers are also feeling that strain, Harbour said, her biggest concern is middle-market companies — "the people that are supporting the rest of the industry."

Harbour Results has advised its clients to work on restructuring before their banks get involved, she said.

"Most of the people I've talked to in the restructuring environment are saying they're not seeing formal restructurings from the bank yet, that the bank is not really seeing it," Harbour said. "But they also say that the banks are a little bit in denial."

Strategic buyers looking to buy struggling competitors are in short supply because they lack capital, she said. Most inquiries she sees are from private equity.

"They, too, are feeling the strain," Harbour said. "But there are private equity people out there interested in doing it [plastics M&A deals], but they want to do it at a very low price."

Wood thinks some "better-positioned" companies are beginning to make moves on their struggling competition, but that it might be "under the surface."

"There's never a better time to get aggressive than when interest rates are at all-time lows," Wood said. "If you have the ability to borrow, now is the time to get after it. I think that's starting to happen in certain segments of the plastics industry."

However, he added, "there's going to be a bunch of companies that nobody wants."

"At any given time — it could be the best of times or average — there's always companies on the edge," Wood said. "There's always someone being out-competed or that made a bad choice. Now you add a natural disaster, and of course those guys are going to be the first ones out."

While the strength of processors' end markets are important, Harbour said, the way businesses are run will determine whether they survive a downturn like the Great Recession of 2008.

"I don't think they're the same recession, but it was a major impact that we weren't ready for," she said. "Recreational vehicle markets are actually doing really well because of COVID. People are buying boats and RVs, but they tend to be lower volume. It's not like selling 17 million cars.

"We rode this 11-year expansion wave in manufacturing and the return of the economy from the Great Recession," Harbour said. "We got a little fat, dumb and happy.

"If we didn't have good leaders driving consistent discipline, we got into debt, we got bad balance sheets, and our profit and our efficiency went the wrong direction and then COVID hit," she said.

While the automotive industry is currently busy replenishing inventories, Harbour expects that demand to "soften" in the first quarter of 2021, "or maybe even the fourth quarter of this year."

"We have a lot of economic issues at play that are going to drive us into a relatively sustained global recession, in our opinion," she added. "The longer and deeper this recession gets, the worse we're going to see."