FRP - Against the odds - The future of UK manufacturing

Against the odds: The future of UK manufacturing Sector series

Against the odds: The future of UK manufacturing

An optimistic view On the up When we published our first report on the manufacturing sector landscape last year, the short-term outlook was challenging – particularly given its proximity to the now infamous ‘mini-Budget’. Many of the factors that were causing concern to manufacturers then are still in play at the time of writing. Interest rates have increased significantly and the cost- of-living crisis has instilled fragility in consumer confidence. At the same time, operating costs – including energy and wages – remain high, while post-Covid and Brexit-related supply chain challenges persist. Accordingly, there is evidence that output volumes are falling and order books are declining in some areas of the market, contributing to a mixed outlook for UK manufacturing.

They are adopting emerging technologies as they take every opportunity to boost productivity and profitability, and are continuing to invest in their people, providing them with the skills that modern manufacturing demands. The sector is also leading the charge towards Net Zero, creating a new age of clean, sustainable manufacturing.

The sector is also leading the charge towards Net Zero, creating a new age of clean, sustainable manufacturing. “

Fresh thinking

In this report, we have gathered the views of a diverse selection of more than 300 of the sector’s senior decision makers with a view of sharing their experiences, provoking conversations and inspiring action. Economic certainty may be hard to come by but history shows that it is often periods like these that work to strengthen resolve and inspire fresh thinking. If you would like to discuss any of the issues raised in this report, please do not hesitate to get in touch.

Improving indicators

Still, many of the gloomiest predictions being made at the end of 2022 have failed to materialise and a number of economic indicators are improving, albeit slowly. The rate of inflation is slowing, economic forecasts are being revised upwards and a more positive outlook on interest rates is emerging. As in last year’s report, manufacturers are displaying impressive resilience while being markedly more optimistic about their future. Crucially, many are now moving onto the front foot in pursuit of growth.

Get in touch

David Hudson Partner Restructuring Advisory London +44 (0)7930 397 708 david.hudson@frpadvisory.com

Against the odds: The future of UK manufacturing

92%

88%

A hopeful perspective despite operational issues

Given the well-known and understood challenges manufacturers face, it’s deeply reassuring to know that more than nine in 10 (92%) of those we spoke to are confident in their ability to trade through the next 12 months. Those in Scotland, where food and drink is the largest manufacturing subsector, are the most bullish (96%) – perhaps reflecting the resilient global appetite for items like whisky and salmon.

UK manufacturers are also convinced of the robustness of their supply chains, with the vast majority (88%) expecting their suppliers to continue trading through the year ahead too. This reflects what we are hearing anecdotally across FRP, as many of the supply issues firms reported last year have now been resolved to a large extent, with the most pressing concerns now on the demand side of the scale.

67%

75%

Still, two thirds (67%) of the firms we spoke to said demand has grown in the past year, with just 8% saying demand had fallen. Furthermore, the overwhelming majority (87%) say they are confident that demand will increase in the year ahead – painting a positive picture for the future. Notably, manufacturers in the Midlands were the most pessimistic regarding demand. Their relative lack of optimism perhaps reflects widespread uncertainty in the automotive industry – a key driver of regional growth.

While the industry is delivering significant transformation as traditional petrol and diesel vehicle combustion engines are phased out, this has now been pushed back from 2030 to 2035. The sector is campaigning for more state support to aid this transition but it’s reassuring to see that three quarters (75%) of manufacturers in the region are confident that demand will increase over the next 12 months.

Against the odds: The future of UK manufacturing

Energy challenges

A regional outlook

North West

Scotland

Despite the wider manufacturing sector’s natural resilience, challenges abound. Inflationary factors have been – and will continue to be – the biggest issues when it comes to business risk, and energy is front of mind as firms look ahead.

Richard Goodall, Director at FRP said: “It’s been a difficult year for the manufacturing sector, with the latest PMI data showing that industry output has now been in decline for 12 consecutive months. With this in mind, it’s understandable that many business owners are looking to cut investment and preserve resources.”

Callum Carmichael, Partner at FRP said: “It’s encouraging to see that confidence is returning to Scottish manufacturers after a difficult year. Not only does this demonstrate the strength of the industry locally but it’s also a prime example of how the development of resilient, reliable supply chains can help protect against global shocks.”

What were the biggest risks to manufacturers over the past 12 months?

North East

Midlands

Martyn Pullin, Partner at FRP said: “The manufacturing industry plays a pivotal role in the local economy, helping to sustain jobs and communities across the region. It’s been a tough few years across the board, with supply chains hit by the double shock of the Covid-19 pandemic and soaring energy prices, so it’s encouraging to see such a sense of optimism prevailing throughout the sector. Technological developments such as automation and AI

Raj Mittal, Partner at FRP said: “The past year has been a difficult one for the region’s manufacturing sector, so it’s encouraging to see such a high proportion of respondents confident in their ability to successfully trade through the next 12 months. There is still uncertainty though, particularly within the automotive sector, which had made great strides towards meeting the initial 2030 ban on petrol and diesel combustion engines ahead of the Government’s decision to extend the deadline.”

Energy costs

Higher material costs Growing wage bills Increased import costs

What are the biggest risks to manufacturers in the next 12 months?

Increasing energy costs

Costs in materials Availability of materials Access to labour

will undoubtedly reshape the face of the industry.”

issue for the industry, which is in need of creative solutions to attract new talent to take the place of ageing workers who are leaving the sector. This is ultimately a more ‘sticky’ form of inflation; hard to reverse, in contrast to energy and materials costs, which can fall with the market. While pay in the manufacturing sector is generally competitive, one area where firms can struggle to compete with companies in other sectors is flexibility. However, there are things that manufacturers can do, like offering shift swapping, to make themselves more attractive as employers.

Concerns surrounding imports and shipping are perhaps surprising as container shipping costs have now fallen back to pre-pandemic levels, so it is likely that respondents are referring to post-Brexit regulation costs. While energy costs have declined slightly, so has the support available from government, which has faced criticism after calling time on the Energy Bill Relief Scheme in favour of the new Energy Bills Discount Scheme, where firms get a discount on wholesale prices, rather than having their costs capped.

South West

London

Jonathan Dunn, Partner at FRP said: “As many of the supply issues firms reported last year have now been resolved to a large extent, with the most pressing concerns now on the demand side of the scale – we would hope to see at least a small recovery in demand as inflation eases and consumer confidence stabilises. While we await those changes to take effect, it’s heartening to see manufacturers exploring the potential of new technologies, including Artificial Intelligence.”

Luke Wilson, Director at FRP said: “Experience shows that businesses which continue to invest in bolstering their operations through economic uncertainty usually emerge best positioned to benefit from more stable conditions, so it’s encouraging to see such a strong appetite to do so amongst the region’s manufacturers. The priority for business leaders should now be to identify the areas in which funding can most effectively be channelled to drive growth.”

Rising wages will also remain an enduring

Against the odds: The future of UK manufacturing

Top 10 risks in the next 12 months

Passing on costs reducing pressure With one eye on their margins, firms feel they have little choice but to pass some of these cost pressures on. When it comes to protecting and improving cash position over the coming year, just over two in five (42%) manufacturers told us they are planning to increase prices for customers and distributors, followed by extending terms with suppliers (31%) and – more positively – introducing or expanding the use of automation or AI in production (30%). A fifth (21%) are also planning to refinance or borrow money. Against this backdrop, we asked manufacturers how the government could best support their cost containment or growth in the Chancellor’s looming Autumn Statement. Given that energy costs are their biggest perceived risk for the year ahead, it’s no surprise that a reduction in VAT paid on energy consumption is top of their wish list (28%), followed by energy support measures ahead of winter (21%) and subsidies to support investment in onsite energy generation (21%).

Materials

How can manufacturers deal with price increases in an inflationary market?

Increased material costs

Availability of materials

25% 20%

People

Weaker demand from customers

Availibility of labour

18% 18%

Supply chain

Increased import/ shipping costs Supply chain delays/uncertainty

17% 17%

Operating

Increased energy costs Increased property costs

32% 16%

Finances

Increased wage costs Increased borrowing costs

17% 17%

Against the odds: The future of UK manufacturing

Investing for growth

Economic uncertainty

Much has been made of expensive initiatives in the US and Europe to hand manufacturers various grants, incentives and tax breaks to support the transition to green technologies. That stands in contrast to the UK, where investment has stalled in the face of ongoing economic uncertainty. So, it’s reassuring to learn that four in five (81%) of the manufacturers we surveyed are planning to invest at least the same if not more than they did last year, with only 13% planning to invest less and just one in 20 not planning to invest at all (5%). Regionally, the North West was most at risk of stagnation, with a quarter (25%) of firms planning to reduce investment. The region is home to a high concentration of aerospace manufacturers, which have struggled with supply chain disruption more than most. Our survey found that those stopping or reducing investment are primarily doing so to conserve resources amid uncertainty (52%) – although just under a third (30%) said that borrowing has become too expensive in light of increases to the Bank of England base rate.

We believe that banks continue to be supportive and accommodating in respect of the funding positions they already hold with manufacturers, which is positive, as the same can’t be said for every business sector at the moment. But advancing new and additional finance is becoming increasingly difficult – weak balance sheets and debt service capacity will mean that for many, equity is the answer. The lender view is that the geopolitical events of the last few years have contributed to a lack of security, with balance sheets already entirely geared up. Indeed, they are increasingly focused on the future ability of manufacturers to meet their terms, so future cash flows are coming under the microscope. We’re also seeing scenarios where a prolonged lack of investment is coming home to roost. For example, significant production outages – linked to antiquated equipment – are contributing to targets being missed while requiring substantial and unplanned capital expenditure to remedy. Investors intentions Of course, there remains a healthy proportion of the market keen to invest in growth. Indeed, the top priority for those planning to invest in the next year is increasing output and/or productivity through automation and AI (23%), which speaks strongly of manufacturers’ innovative and entrepreneurial outlook. Firms will also be creating new jobs (22%) – which seems to contradict the theory that AI and automation are a threat to workers – expanding existing production capacity and delivering further training and upskilling for team members (both 21%).

Which financial initiatives will support manufacturers - and at what cost?

Finding funding

The most popular route for businesses to fund their investments is through existing cashflow or facilities (41%), but there is also a significant cohort who will be going to market to source funding. Almost a third (31%) plan on securing new facilities from existing lenders, while a similar proportion (30%) will seek to extend facilities with their existing lenders. Similar numbers also plan to find new lenders (30%) and new equity investors (30%), highlighting a well-balanced market.

Against the odds: The future of UK manufacturing

Top 10 investment priorities for the next 12 months Enhancing AI capabilities

Improving operations

All eyes on AI

Increasing permanent headcount to drive output/productivity

Increasing output/productivity through automation and AI

23%

22%

Manufacturers surveyed expressed that increasing output and/ or productivity through automation and AI is their top investment priority for the year ahead.

Reducing operational costs (other than through AI/automation)

Expanding existing production capacity

19%

21%

Reducing operational costs through automation and AI

Upskilling and training existing team members

18%

21%

Improving operational resilience through automation and AI Improving operational resilience (other than through AI/automation)

Improving Environmental, Social or Governance factors

18%

19%

17%

18%

Expanding delivery/logistics fleet

Expert voices

“Many companies I come across could be described as hybrids; they are automated to an extent, but they still have quite a high labour content. “With wages rising, any lack of historic investment in plant, equipment and technology may prove short sighted and there are examples of companies moving production overseas to places like the US, where they have had significant investment in automation five or 10 years ago.” David Stone is the CEO at Prompt Business Strategies. His expertise have seen him grow businesses through the implementation of organisation and financial restructuring: “Many of our clients have imposed price increases. This is obviously easier when you’re entering into a new relationship but a lot are also revisiting existing contracts to make the case for their increased overheads, including salaries. “There has certainly been an uptick in administrations after a long period where there was no movement at all. However, parallel to this we’re also seeing that clients who were at risk are, in some circumstances, able to refinance with alternative lenders who are willing to take a different level of risk.” Wendy Parish is Head of Portfolio - London and South at private and commercial banking and wealth management firm Arbuthnot Latham:

And almost nine in 10 (87%) of those firms surveyed say AI, machine learning or automation is relevant to their business. Clearly, this category represents a broad spread of technologies and applications.

Automation has been fundamental to many

Almost twice as many (47%) say there is the potential to apply it more widely in their organisation. There can be significant cost involved when adopting AI, with a lengthy payback period, and there is the risk that ongoing investment will bring people challenges, with fewer jobs and less hands-on experience being a likely outcome. But, for those that have access to funding, it is something they should be looking at to drive efficiencies and free up human resource.

aspects of manufacturing for a century, but we can confidently imagine a range of new and transformational ways AI can be applied across the sector, from managing supply chains to predictive maintenance, minimising waste and new product development. Nearly a quarter (24%) say they are already using AI machine learning or automation to its full potential.

Against the odds: The moulding of UK manufacturing Against the odds: The future of UK manufacturing

Against the odds: The future of UK manufacturing

The big admin burden The mix of responses to this issue only serve to demonstrate the hugely diverse nature of the UK manufacturing sector and highlight that the correct approach will vary massively from one business to the next. Accordingly, firms are planning a wide range of actions corresponding to their individual circumstances. Those planning to reshore supply chains are doing it primarily to reduce the import/export admin burden (29%), reduce their regulatory burden (28%) and reduce costs (27%) – potentially as a continued fallout from Brexit. Offshoring supply chains is most popular with firms in Greater London (41%) and least popular with firms in Scotland (14%), perhaps due to better international connectivity in the capital. And when it came to production operations, again, Greater London firms are more likely to offshore (34%) and Scottish firms least likely (6%). The supply chain chaos caused by Covid-19 and its aftermath, as well as a growing focus on ESG, was supposed to have prompted a reversal of the offshoring trend, as firms sought to reduce product miles and lead times, while also providing more control over supply chains. But our survey found that the reality is not that clear cut. On balance, only marginally more manufacturers are planning to reshore parts of their supply chain (33%) and/or production operations (36%) over the next year, than are looking to offshore supply (27%) or production (24%). Reshoring & offshoring

Reshoring production is chiefly motivated by the desire to reduce costs (33%), improve ESG (30%) and because overseas partners are no longer willing or less willing to supply to the UK (29%). Those planning to offshore supply chains are doing it for myriad reasons – namely to reduce costs (36%), for data/ IP security (30%), to reduce import/export admin (30%) and to reduce delays (29%). And those planning to offshore production are hoping to reduce the administrative burden relating to differences in regulation (33%), (perhaps counterintuitively) improve ESG (31%), reduce the administrative burden related to import/ export (29%) and reduce costs (28%). Looking at the survey responses, it’s clear that admin is a key element in the offshoring/reshoring argument, which isn’t often brought up in the narrative we hear in the media. Admin represents a significant cost to manufacturers and anything that can reduce that burden – including the aforementioned adoption of automation and AI – will be valuable. At the same time, there’s no doubt that labour costs overseas can be significantly lower than in the UK. However, again, UK manufacturers can help mitigate that by adopting technologies that can boost efficiency and free up those commanding salaries to focus on more strategic initiatives.

Offshoring elements of the manufacturing process was a key characteristic of the pre-pandemic landscape

Top reasons to reshore supply chains

To reduce administrative burden related to import/export

29% 28% 27% 26% 25%

To reduce administrative burden relating to differences in regulation

To reduce costs

To capitalise on associations with ‘Brand Britain’

To reduce risk of supplier insolvency/collapse

Against the odds: The future of UK manufacturing

Everyone’s problem Time is ticking Clearly, achieving Net Zero is not an issue that is exclusive to manufacturers, and they face competition from all sectors to access the specialist skills they need to guide them along their journey.

At the moment, it seems that many firms see ESG initiatives as being a ‘nice to have’ but feel that they can’t justify substantial expenditure at a time of such uncertainty, or position it as a competitive point of difference. But there will soon come a time when it becomes mandatory – driven by original equipment manufacturers (OEM) and public sector customers who demand it from their suppliers. Ultimately, ESG represents not just a moral imperative for manufacturers but also an important commercial opportunity too. Funders understand that, and we’ve seen that banking partners are happy to fund ESG- linked investments at potentially lower rates.

Sustainable solutions The UK manufacturing sector has already made significant progress in reducing its environmental impact, but there remains much to be done to reach Net Zero.

Measuring environmental impact is a complex area, but fundamental to benchmarking a firm’s progress, so it’s positive to see that ‘improving methods to measure environmental impact’ is the number one ESG investment priority for firms, alongside improving the recyclability of their products. And it’s also heartening to see that manufacturers feel a deep-seated commitment to the communities where they operate.

39%

Top five areas for ESG investment in the year ahead

According to the Office for National Statistics, greenhouse gas emissions have fallen by 39%, though progress has slowed more recently and manufacturing remains the third highest contributor to overall UK emissions, behind energy and consumer expenditure. Given that manufacturers face a hard deadline of 2050 for achieving Net Zero and that achieving this will be a massive undertaking, it is disappointing that fewer than a fifth of the manufacturers we surveyed cited ESG as a top investment priority. Still, given the challenges they face, it is understandable.

30% 30% 28%

Just 8% of firms said greater scrutiny over demand for better ESG performance had been a risk to their business during the past 12 months, though this does increase to 14% in the year ahead. Accordingly, we can confidently imagine that ESG will continue to move up the agenda as competing pressures continue to recede.

Improving methods to measure environmental impact

Improving recyclability of manufactured products

Supporting environmentally positive initiatives in our/ supplier’s local communities

26% 24%

Improving oversight of environmental impact in our supply chain

Reducing environmental impact of existing plant/ machinery or real estate

Against the odds: The future of UK manufacturing

A positive picture

The macroeconomic backdrop has meant that manufacturers are still navigating challenges, however, taking hold of existing opportunities will support the sector to thrive. The economic picture may be beginning to improve but manufacturers certainly aren’t out of the woods yet. Last year, our main concerns were around inflated materials costs, a shortage of workers pushing up wage bills and elevated energy rates. These pressures have not gone away, but have the potential to become exacerbated by a pronounced slowdown in new orders as consumers hunker down to ride out the cost- of-living crisis. Governments around the world are responding with a raft of policy incentives, but the likelihood is that UK manufacturers will have to wait until after the next General Election for a new comprehensive industrial strategy and any new support. That said, there is much in this report that suggests that there is less desire for government intervention than there has been in recent years.

Instead, manufacturers are showing impressive resilience and seizing the initiative – exploring the potential of new technologies and working to build the skills base they need to stay competitive. I’m confident that they have the plans in place to succeed, with a singular focus on their long-term growth and prosperity. Whether it’s resolving operational challenges or seeking new funding, we’re here to help.

I’m confident that they have the plans in place to succeed, with a singular focus on their long-term growth and prosperity. “

Get in touch

Allan Kelly Partner Restructuring Advisory Newcastle +44 (0)7921 921 400 allan.kelly@frpadvisory.com

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October 2023

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