Made in Canada: Manufacturing Sector Overview
The manufacturing sector consists of companies upstream of supply chains; transforming raw inputs into new products through mechanical, physical, or chemical processes. As of October 2020, the sector contributes 9.73% to the total GDP output of the Canadian economy. The sector’s true impact, being a key supplier and consumer of many industries within the economy, is estimated to be 30% of all economic activity.
The manufacturing sector consists of 21 industries, ranging from food to plastics to machinery manufacturing. The largest industry contributors are manufacturing relating to transportation (14.3%), food (15%), and petroleum and coal products (6.5%). In Canada, the manufacturing sector had several industries defined as essential and classified as critical infrastructure during the COVID-19 pandemic. For that reason, the majority of sector players were able to rebound quickly from initial pandemic setbacks, however as a whole, trail behind previous year’s performance as demand delays and supply chain disruptions continue. The outlook of the sector in 2021 is based on the performance of key drivers, namely the price of important commodities, the overall demand of the economy, and the strength of the Canadian dollar.
The Impact of the Pandemic on the Manufacturing Sector
Following a 9.8% decline in sales in March, like most sectors of the economy, April impacted the manufacturing sector dramatically resulting in a 28.5% decline in sales to $36.4 billion. The decline was caused by strict regulations put in place to prevent the spread of COVID-19, impacting all industries across the board. The decline was led by transportation manufacturing industries and pushed further by sharp declines in the petroleum product industries, which suffered from the dramatic fall in oil prices. 85.2% of all manufacturing establishments had activities that were impacted by the pandemic, particularly due to labor shortages, demand decreases, and lower commodity prices.
Manufacturing Sector Recovery Post-COVID-19
Following April, the sector saw 6 months of growth, as restrictions were lifted and unfulfilled orders fell. Individual industry recovery differed based on the recovery of that industry’s downstream demand. For example, manufacturing industries that supplied to the construction sector, such as metal fabrication, saw quick recoveries as the construction market boomed with essential status and high investment. In contrast, the paper manufacturing industry saw a slow recovery, as many corporate offices, shopping malls, and restaurants remained closed. Due to these differences in rebounding, the sector as a whole failed to surpass February 2020 numbers.
Most recently the sector saw a monthly decline of 0.6% to $53.7 billion in November of 2020. This decline occurred in only 5 of the 21 industries included in the manufacturing sector, notably a 23.8% monthly decline in the aerospace product & parts industry as well as a 14.8% and 13.1% monthly decline in ship & boatbuilding and railroad rolling stock industries respectively. A key theme among industries that faced large declines is a reliance on demand from the transportation industry, which due to lingering travel restrictions and market uncertainty caused by the pandemic, is still in decline. These trends in demand and corporate profitability are expected to have a direct impact on deal activity.
Outlook for the Manufacturing Sector
Despite a large variety of industries that make up the manufacturing sector, all are driven by the same general factors, including the strength of the Canadian Dollar, Canadian GDP, manufacturing capacity utilization, and the price of key commodities such as oil and steel.
The Canadian dollar closed 2020 near a three-year high versus the USD with the expectation that this appreciation will continue as commodity prices rise. Exports account for approximately 20% of sector revenue, and as such a relative increase in the strength of the Canadian dollar would increase the price of domestic goods on the foreign market, thus leading to declines in future sales. Foreign exchange rates can have an impact on profitability and weigh in on baseline EBITDA calculations, thus having an impact on transaction value.
As the Canadian economy and the globe begins to recover from the second wave of COVID-19, GDP will inevitably grow as economic trade resumes normal activity. This will cause across-the-board demand increases, and given the central position the manufacturing sector holds within the economy, will lead to significantly increased growth in sales in the future.
A large number of sector participants rely on commodities such as oil and steel, to create products for downstream companies. Commodity prices have risen from April lows, crossing their February values, and are expected to rise in the long term as demand increases once more. These prices are passed on to consumers of industry outputs, creating increased profits for the manufacturing sector as a whole.
Manufacturing capacity utilization is the level of max potential capacity that manufacturing firms are performing at. A rise in this metric indicates less slack within the sector and that key industries are preparing for upward-trending demand. Despite capacity utilization falling to 77.7% in November of 2020, this rate is expected to rise as pandemic vaccinations allow for the economy to reopen. This surge in demand is expect to lead to high M&A activity in the sector.
Taking heavy hits in 2020, the recovery of such a large sector of the economy is of course dependent on the demand of the country as a whole, which lies in the recovery from the COVID-19 pandemic. Due to increased economic activity, rising commodity prices, and higher capacity utilization, the manufacturing sector is predicted to grow In the coming months and generate stronger deal flow.