LCT Industry & the U.S. Economy: Review & Outlook for 2009
The U.S. economy has entered a downturn that is likely to be the most severe recession of the last 25 years. Many of the operators in the Limousine and Chauffeured Transportation Industry (LCTI) have reported a dramatic drop in revenues in the fourth quarter of 2008 and are expressing concern that they might not survive an extended, significant drop in business. Are these isolated problems or is the industry likely to experience widespread business failures? This paper examines the performance of LCTI since 1992 (the period for which reliable industry data is available) and analyzes the industry’s prospects during the recession.
LCTI and the U.S. Economy: 1992 – 2007
The U.S. Department of Commerce publishes revenue data for 86 two-digit industries and for the period 1992 – 2006, three of the 86 industries grew faster than LCTI:
"Information and data processing services” (the .com economy)
“Support activities for mining”
"Securities, commodity contracts, and investments” (Wall Street)
In fact, LCTI has significantly outperformed the U.S. economy in every year since 1992, except 2007. Note in attached Exhibit 1 that in constant dollars (the effects of inflation are removed), the economy grew 57% while LCTI grew 211% during the sixteen year period 1992 - 2007.
While most “luxury” products suffer during periods of weak economic activity, during the general economic slowdown of 2001 – 2002, LCTI managed to grow at a modest pace (even with most of the industry essentially shut-down for 45 days following the terrorist attacks on 9/11/01).
We believe that there are four principle reasons why LCTI has generally performed so well:
1.) Price / quality of service relative to other modes of local passenger transport
2.) Increased range of services
3.) Wealth base of American households
4.) Financial performance of U.S. corporations
Price / quality of service relative to other modes of local passenger transport.
It should be noted that some of the growth for the LCTI sector has been at the expense of the other sectors of passenger ground transport. As can be seen in Exhibit 2, the ground transport industry has underperformed the economy since 1992. If LCTI data is removed, the ground transport index, adjusted for inflation, had essentially no growth from 1992 – 2006. In Exhibit 3, LCTI revenue is plotted on the left vertical axis and the passenger ground transport industry, which excludes rail but does include LCTI, is plotted on the right vertical axis.
In most metropolitan markets, the larger LCTI companies have achieved “critical mass” and have used technology improvements to substantially reduce their operating cost per trip. Therefore, LCTI pricing has declined relative to the other modes of local passenger transportation, especially compared to the local taxi industry. Because quality of LCTI service is substantially better than taxi service, the decline in relative price has caused a significant shift in market share from taxis to the (larger) LCTI operators.
The cost of airport self-drive for individuals (including reimbursed corporate travelers) and families has also risen faster than the prices of LCTI companies. The cost of self-drive has increased because of the cost of fuel (which is a larger percentage of self-drive cost than for LCTI), the price of airport parking, and (in some metro areas) the cost of tolls. For clients who understand the maintenance, tire, and ownership cost of driving their own car, LCTI prices are actually lower than the cost of self-drive, especially for trips exceeding three days. Because most metro areas now have “car pool” lanes on major freeways, and because LCTI service avoids the time lost parking and retrieving cars with the self-drive option, LCTI service, more luxurious for most consumers, has become faster, better, and less expensive than self-drive for many types of airport trips.
The price / service advantage of LCTI operators vs. self-drive for airport trips is most obvious for luxury shared-ride operators. And with the increase in government policies designed to discourage self-drive (especially with one passenger trips), LCTI will continue to gain “share” compared to self-drive.
Increased range of services
Many of the larger LCTI companies now offer a much more diversified range of services than in the early nineties. The most significant new service offerings have included luxury SUVs, shared luxury airport rides, executive van service (many vehicles now are equipped as mobile offices), minibus shuttles, and luxury motor coach service (for transfers to and from cruise ships, for example). Many LCTI operators have learned that availability of diversified fleets and technology improvements such as worldwide reservations systems are highly advantageous to certain types of corporate customers and to the convention / meetings sector of the travel industry. We expect that the trend to diversified fleets will continue and will help the larger LCTI companies to maintain their revenues during the economic downturn.
Wealth of American households
Households (individuals and families) represented roughly 35% of LCTI revenue in 2007, with the largest components being weddings, proms and other school celebrations, and leisure activities. Partially because of household spending patterns, LCTI was one of the fastest growing industries in the U.S. economy for the period 1992 – 2000, when the compounded annual “real” rate of growth for LCTI was 10% (with the effects of inflation removed). During this period, the U.S. stock market, especially the NASDAQ, created enormous amounts of wealth, primarily in technology related (.com) companies. Beginning in 1997, the value of residential real estate in most metropolitan areas grew dramatically, creating trillions of dollars in “paper” equity for millions of American households. With stock prices and values of their homes rapidly accelerating, millions of American households had become wealthy and even more Americans believed that they were wealthy. Not surprisingly, use of LCTI operators by American households expanded rapidly.
Even with a “correction” in the economy and stock-market, the period 2000 – 2007 saw continued growth in stock prices, home equity values, and household income. Although not at the hyper-pace of 1992 – 1999, real LCTI growth outperformed the U.S. economy for the period 2000 – 2007 (5% per year for LCTI compared to 2.5 % for GDP).
Financial performance of U.S. corporations
Corporate profits, after tax, rose from $310 billion in 1992 to $1.42 trillion in 2007. From October 31, 1991 to October 31, 2007, the S&P 500 Index rose from 392 to 1,429. In the same period, the Dow Jones Industrial Average rose from 3,069 to 13,930. Corporate America performed very well during this stretch of years and Wall Street enjoyed a boom in IPOs. And LCTI, for which 60% of revenues in 2007 were from corporate and business customers, benefited accordingly. As can be seen in Exhibit 1, when corporate profits declined between 1999 and 2002, U.S. home equity values rose dramatically. We believe that the wealth created for American households by the housing boom and LCTI gains in market share from other transport sectors served to offset the negative impact of the downturn in the corporate sector on LCTI revenues from 1999 – 2002.
Outlook: 2007 - 2009
It is very important to note that U.S. corporate profits, adjusted for inflation, rose 4% in 2007 and the stock market peaked in October, 2007. But LCTI, adjusted for inflation, rose only 1.7% in 2007 and underperformed growth in GDP. According to the S&P Shiller – Case Index, home values (adjusted for inflation) dropped 9 % from the end of 2006 to the end of 2007 and we believe that households began to feel the developing credit squeeze, which contributed to the weak growth of LCTI in 2007. (The Case – Shiller index measures home prices in 10 large markets, but those 10 markets represent roughly 72% of LCTI revenues. A 20 market index is also available but with less historical data.)
The Case – Shiller index is expected to have declined 26% for year ending November 30, 2008 (based on CME housing futures settlements at end of October), which means that home prices in these 10 large markets have dropped roughly 34% since the end of 2006 (and is projected by the Case – Shiller index to decline further by 9.4% in 2009). More importantly, corporate profits are expected to decline significantly for full year 2008, largely because of huge losses at financial institutions. Depending on the depth of the recession, corporate profits could suffer another large drop in 2009. Perhaps more importantly for LCTI revenues, the financial crisis is likely to cause big cuts in corporate travel budgets, especially in the financial sector.
For 2008, we expect inflation adjusted LCTI revenue to decline roughly 4% nationally (most of the decline will be in the fourth quarter), but the decline will be significantly larger for Manhattan, where LCTI revenues are tied to the health of the financial sector. The depths of the recession and of the shakeout in the financial industry are unknowns, but inflation adjusted LCTI revenue in 2009 could decline 10% - 15% nationally and 20% - 30% in Manhattan.
The effects of the recession will vary widely among LCTI operators. Companies that have carefully managed expenses (and that have achieved economies of scale in their local markets) will be in a position to reduce pricing and thereby gain market share from weaker LCTI operators and from the taxi industry and to convert airport trips from the self-drive sector. Diversified fleets (with luxury shared ride and shuttle bus services, for example) will fare better than operators who provide only sedan service to corporate clients. LCTI companies who derive revenues primarily from the wealthiest individuals will perform relatively well because many of their clients ignore recessions with comments such as “I’m long on money and short on time”.
The LCTI companies that are most vulnerable to a deep recession are highly leveraged (debt burdened) operators whose fleets are mostly company owned vehicles that are worth significantly less than the remaining balances on their corresponding debt instruments. Many of these operators are in the metropolitan areas that are most heavily tied to the financial industry, such as Manhattan.
Although inflation adjusted LCTI revenue grew modestly from 2001 – 2002 (the last economic slowdown in the U.S.), the number of LCTI companies dropped by 17% and the stronger operators in each metro area had grown dramatically by the end of 2003. Because industry revenue will suffer a significant decline in the 2008 – 2009 recession, the failure rate among LCTI companies is likely to be more dramatic than in 2001 – 2002.
Beyond 2009
Just as a rising tide lifts all boats, the strength of the economy has permitted the existence of a large number of marginal operators, who unfortunately will not survive this downturn.
In general, the casualties of this recession will be the fleets that have been struggling to achieve profitability and that have not achieved critical mass (economies of scale) in their local markets. Such companies will be unable to match the price reductions that will inevitably be offered by stronger competitors. Many of the weaker companies will merge with, or will be acquired by; stronger competitors and thousands will fail. When the economy recovers, the large, efficient operators in each market area will have significantly more market share (and an even larger competitive advantage) than they had at the beginning of the recession.
