Bringing Productivity Growth Numbers Down to Earth

Before making any more capital investments or hiring more people, it’s important to ensure you are getting the most out of your current capacity and people by driving productivity improvement.

Understanding the current state of productivity growth is crucial. In the United States, annual non-farm/government productivity has only increased by 1.3% since 2009, the weakest rate since the 1970s. This data, as reported in The Wall Street Journal’s article ‘Sluggish Productivity Hampers Wage Gains’, underscores the importance of driving productivity improvement at both macro and micro levels. 

The preliminary numbers are prone to correction, but productivity actually decreased 1.8% in the fourth quarter of 2014 compared to the previous quarter (and was flat compared to the year-ago period). Why has productivity slowed down in the United States? Of course productivity comes down to inputs and outputs. In the United States labor inputs are rising.  Businesses are adding an average of 267,000 jobs every month; and the national unemployment rate is holding steady at 5.5%.

On the output side, GDP growth for the first quarter of 2015 is now estimated at just 1.5%. The overall sluggish productivity growth may be because 1) businesses aren’t investing in new technology as deeply as they were during the late 1990s, 2) under-utilization of existing capacity, and 3) they’re having difficulty finding high-quality workers.

Why does this matter to your business? At the individual business level productivity growth also drives earnings growth, competitiveness and investment returns. In terms of your business, factory or a production line, maintaining above-average productivity growth requires 1) ongoing capital investments, 2) maximizing existing capacity, and 3) finding skilled people and developing the capabilities of your current workforce.

As we frequently advise our clients, before making any more capital investments or hiring more people, it’s important to make sure you are getting the most out of your current capacity and people. “Getting more juice from the squeeze,” as one of my colleagues likes to say.

There are always more opportunities to boost equipment or line utilization, reduce scrap and rework, and otherwise make significant productivity gains, such as through value engineering work. This may require rationalizing your production footprint. For example, a recent article, “Alcoa Continues Transforming Upstream Portfolio, Announces Strategic Review of Smelting and Refining Capacity” , the company recently announced that, in the face of global oversupply and sluggish prices, it is planning additional reductions to its aluminum smelting and refining capacity. The interesting element of this announcement is senior leaders’ push to “move down the aluminum cost curve to the 38th percentile” by 2016, compared to the 51st percentile in 2010. Now that’s a specific target! For Alcoa, hitting their goal will require both site rationalization and new production technology.

The net result of productivity improvements is better profitability. Better profitability benefits owners and investors, of course. It also strengthens the business by enabling future capital investments. And it can immediately benefit employees through their retirement accounts, employee stock ownership plans and profit-sharing programs. In the day-to-day business world below the macroeconomic headlines, that’s how strong productivity growth really contributes to a rising standard of living.