December 14, 2005 -- Soaring nearly four points to tie a 30-year record, the NFIB Small Business Optimism Index hit 107.7 in November on expectations of good times ahead. Researchers say the index has been strong for 20 months, signaling economic recovery and subsequent stronger growth. The November reading suggests that growth should strengthen further in 2005. With an average per firm increase of 0.5 net-new employees, November’s job creation was the largest gain ever recorded in the NFIB survey. Eighteen percent reported increasing total employment while just 11 percent reported reductions. Even manufacturing firms reported new jobs, averaging 0.2 employees per firm. Virtually all of the gain is due to three key components of the index: a 17 point spike among those who believe the economy will be better six months from now, a 13 point increase in the number who expect higher real sales in the next three months and a 9 point boost in those who say now is a good time to expand. Inventory-accumulation plans also touched a 30-year record, forecasting strong sales and relatively empty shelves. Job creation strengthened substantially, rising to levels not seen in a decade. But the share of those planning to spend capital fell 4 points. “There was a surge in expectations, some of it probably due to the end of the election’s uncertainty,” said NFIB Chief Economist William Dunkelberg. He noted that the easing of capital spending plans could indicate that there is no end-of-year-rush by small-business owners to take advantage of expiring tax benefits. The inflation outlook improved a bit, price hikes continued to fade in frequency, sales gains are good and profit gains historically high. The domestic economy is definitely in a comfortable spot, even if there are a few risks looming on the horizon, Dunkelberg said. Dropping two points, the share of firms with at least one hard-to-fill job opening fell to 21 percent, the average for the year to date. Seventeen percent of the owners reported using temporary or leased employees, while 51 percent hired or tried to hire workers in the past three months. More than three-fourths of those reported finding few or no qualified applicants. Those who reported plans to create new jobs rose a strong 4 points to a net 19 percent of all firms, coming close to matching the figures produced in the unusual times of the late 1990s and early 2000. Plans this strong are supported by very positive views about economic growth in 2005. In construction, 25 percent said they plan to increase employment, a rise of 4 points in November and 6 points over October. Ten percent plan to reduce the number of workers at their firms—down 2 points. Manufacturers remained strong with 22 percent planning to create new jobs and 9 percent planning reductions. In the wholesale trades, 26 percent are planning to create new jobs and 10 percent planning reductions. Hiring plans were also strong in the service sector, with few firms planning reductions. Twelve percent of the financial service firms plan increases while none plan reductions. Among non-professional service firms, nearly two-fifths plan to make job gains, as opposed to the 8 percent who plan reductions. Among professional service firms, new jobs are forecast among 21 percent; only 3 percent expect to make cutbacks. Capital spending, overall, remains solid and virtually unchanged over the past few months. Those with plans to spend fell four points to 30 percent of all firms. Actual capital outlays over the past six months were reported by more than two-thirds (64 percent) of all firms, unchanged from October. Forty-four percent reported spending on new capital equipment; slightly less than one-quarter (24 percent) acquired vehicles and 15 percent improved or expanded their facilities. Outlays for new fixtures and furniture were made by 15 percent; 7 percent acquired new land for expansion. Twenty-nine percent of those responding said now is a good time to expand facilities, 7 points higher than a year ago and a 30-year record. Forty-seven percent expect business conditions to improve over the next six months, up 17 points from October and only 4 points below the monthly record set a year ago. Climbing 3 points above October levels, those who said they had added to their inventory stocks rose a net 4 percent in November. The net percent of owners planning to continue to increase stocks rose to a record-high 12 percent. Although more firms reported inventories too high than those who said their stocks were too low, owners are in a mood to expand and planning to accumulate inventory to meet growing demand. The inflation picture for 2004 and 2005 appears to be stable, but at higher levels than in 2003. Deflation is not a risk. More than one-fourth of the small-firm owners who responded to the organization’s survey reported higher selling prices and 11 percent reported reductions, basically unchanged from October. The net percent of firms raising average selling prices has eased slightly since August, but is not expected to return to the very inflation-friendly levels of 2003. Seasonally adjusted, the net share of firms reporting higher average selling prices came in at 18 percent, down 2 points from the previous month, but well ahead of the 7 percent that reported higher prices a year ago. Still, this is far below June’s 29 percent reading. By industry, price hikes were most frequent in construction where a net 29 percent confirmed markups, and manufacturing where a net 21 percent indicated hikes. Among financial services firms, more reported reductions in average selling prices than reported gains. Both wholesale and retail firms were solidly in the price hike column, with net percents of 14 and 17, respectively, reporting higher prices. Service sector firms were modest contributors to inflation during the month. If owner expectations are correct, the fundamentals for profit growth are strong. Even without more pricing power, sales gains will support more profit growth, since materials costs, including energy, are fading as a negative for earnings and labor costs are stabilizing. Reports of rising profit trends were unchanged from October as sales improved and pricing power remained solid. This is one of the best readings of this component in the 30-year history of the NFIB survey. A net 18 percent of the owners said they raised selling prices and 31 percent reported sales gains. Only 19 percent reported lower sales. Seasonally adjusted, a net 23 percent reported raising worker compensation, opening a negative gap between the percent of those boosting compensation and the percent passing it on in the form of higher prices. This is a threat to strong profit growth. Nearly one-fourth (23 percent) said they saw profit gains, and three-fourths of those cited stronger sales—up nine points from October and 17 points from September—and 4 percent credited higher selling prices. Clearly, stronger sales are supporting profit improvements in the fourth quarter. Of those reporting lower earnings compared to the previous quarter, nearly two-fifths (39 percent) pointed to weaker sales or a poor economy, 21 percent cited the cost of materials, 7 percent each blamed labor costs and insurance costs and 4 percent each said they were affected by lower selling prices and regulatory or compliance costs. Financing costs drew no complaints. Despite the Federal Reserve’s policy shift—producing higher interest rates and pushing the average cost of short-term money to its highest level in two years—small firms are not complaining about credit availability. In November, just 2 percent indicated credit cost and availability as their primary business problem, unchanged for years. Unchanged since October was the 3 percent share of small firms that said loans were harder to get. On the other hand, more than one-third (36 percent) noted no difficulty in getting all their credit needs met. Regular borrowing declined 2 points to 33 percent of all firms. There is no apparent surge in demand because cash flow and profits remain at historically high levels. Although still in negative posture, the net percent of owners expecting credit conditions to ease improved 1 point to a minus 4 percent. Still more owners expect credit market conditions to tighten than to ease, but there has been no significant change in this measure for years, thus no major change in expectations regarding government tightening and credit market conditions.