Middle market business leaders brace for economic downturn in first half of 2023

^{*The Q1 Middle Market Sentiment survey was fielded and this report was developed before the Silicon Valley Bank and Signature Bank closings during the week of March 6, 2023.}

In September of 2022, middle market business leaders expressed optimism despite ongoing economic uncertainty: 78% reported that the outlook for their businesses was either very good or excellent. But by the end of the year, that optimism was waning. In KeyBank’s December survey of 400 owners and executives of businesses with $10 million to $2 billion in revenues, respondents revealed greater apprehension about the outlook for their companies over the next 12 months and expressed the lowest outlook for the broader U.S. economy since the first quarter of 2021. With inflation, supply chain disruptions, higher energy costs and other factors exerting pressure on middle market businesses, many are preparing for significant challenges in 2023.

Outlook tumbles for individual companies and broader U.S. economy

Seventy percent of middle market business leaders said the outlook for their companies over the next 12 months is very good or excellent — a decline of eight percentage points since September. Confidence in the overall U.S. economy dropped even more sharply, from 61% characterizing the outlook as excellent or very good in September to only 47% at year-end.

Between the third and fourth quarters of 2022, company outlook decreased most sharply among middle market business owners and executives in the construction (87% to 78%) and manufacturing (79% to 73%) industries. Geographically, the West region experienced a 17-point drop in positive company outlook, from 83% to 66%. And in terms of company size, optimism is waning the most at companies with revenues between $10 and $250 million: Just over two-thirds (68%) of these business leaders report an excellent or very good outlook for their company’s next 12 months, down from 76% in September. The factors contributing to this shift toward a more pessimistic outlook will not come as a surprise: Inflation, high energy costs and supply chain disruptions were the three most commonly cited issues having a negative impact on the middle market.

Middle market business owners also expressed less confidence in the current state of the broader U.S. economy. Fewer than half characterize their U.S. economic outlook as excellent or very good — a general sentiment on par with the beginning of 2021, when companies were dealing with COVID-19, concerns about tax rates and fears around a potential recession. The retail, transportation and construction industries reported the largest downward shifts in economic outlook, with transportation feeling the least optimistic: Only 33% have a very good or excellent outlook. Smaller businesses and those in the Northeast and West regions also reported diminishing confidence in the U.S. economy. In the West, 78% of businesses had a positive outlook in September, and as of December, only 43% did — a staggering 35-point drop.

Concerns around healthcare costs and cash flow are also trending upward, reaching all-time highs at the end of 2022. Thirty percent of middle market business owners and executives named the rising cost of healthcare as a current concern, and 21% expect cash flow concerns to have a negative impact on their business over the next 12 months. This uptick in concerns around future cash flow was more pronounced among businesses with a positive company outlook, increasing eight percentage points between September and December. Among business leaders with a more neutral or negative company outlook, concerns about energy costs and operational limitations caused by labor shortages increased the most sharply (15 and 17 percentage points, respectively).

Heading into 2023, middle market businesses are taking a variety of measures to mitigate these anticipated negative effects. To combat increases in inflation, which ranked highest among all factors anticipated to pose challenges over the coming year, companies are planning to improve processes and create more operational efficiencies (38%); increase sales and marketing efforts to generate more customers and revenue (35%); pass increased costs to customers through higher prices (33%); identify alternative suppliers/sources of raw materials/commodities (32%); and implement changes to supply chain information/management systems (28%).

While inflation creates a good deal of concern, many businesses are also seeing some positive effects, such as increased customer demand and the ability to raise prices. Among the 32% of middle market business owners and executives who indicate that the positive impact of inflation has outweighed the negative, those in the construction industry were especially likely to cite increased value of investments and holdings (72%) and increased customer spending (64%) as beneficial to their organizations. However, the percentage of survey respondents who report that the negative impacts of inflation outweigh positive effects increased from 28% in September to 34% in December.

Not surprisingly, business leaders with a neutral or negative company outlook are significantly more concerned about finding and retaining qualified workforces than those with a positive outlook:

On the flip side, publicly owned companies, construction firms and those with a positive outlook on the U.S. economy report above-average levels of optimism around finding qualified talent. And while business leaders with a positive company outlook are less confident about attracting and retaining talent than they were in September, 63% still anticipate it will be relatively easy to fill their job openings and 73% don’t expect difficulty in retaining employees over the first half of 2023.

Business leaders who anticipate staffing challenges in 2023 are taking measures to attract and retain the workers they need. When it comes to finding new talent, the top three practices these companies plan to implement or enhance are competitive wages and salaries (52%), flexible hours and schedules (47%) and paid time off (45%). Offering more competitive wages and salaries is also the top tactic companies plan to use to retain talent (49%), followed by enhancing health and wellness benefits (47%) and flexible hours and schedules (45%). Manufacturing companies skew higher than average on plans to offer flexible hours and PTO to help retain talent.

KeyBank middle market experts can help your business navigate periods of uncertainty and provide strategic solutions to any issue your business faces, including efficiently managing and maximizing cash flow. To learn more about KeyBank’s middle market capabilities, contact a KeyBank Relationship Manager.