When the going gets tough, the tough get going. At least that seems to have been the philosophy of companies in response to the macroeconomic headwinds taking the U.S. by storm.
Capital expenditures increased 19% year-over-year in the first quarter of 2022 among S&P 500 companies, a recent Bank of America (BAC) Global Research report found.
“Despite macro concerns, companies are investing,” wrote Ohsung Kwon, Bank of America’s Equity & Quant Strategist and lead author of the report. “Compared to pre-COVID 1Q19, CapEx is up 31%. Our 3-mo. CapEx guidance ratio also jumped to 1.8x, the highest level since June 2021.”
Capital expenditures (CapEx) are funds used to improve and maintain the physical resources of a company. Common CapEx projects include the construction of new factories, upgrading manufacturing equipment, and payment for repairs.
The increase in commodity prices account for much of the increase in CapEx. Prices for commodities like oil, natural gas, and metals spiked in the months following Russia’s invasion of Ukraine and have remained high.
According to FactSet data used in the report, the sectors with the largest growth in CapEx were Industrials (47% annually), Energy (42% annually), Financials (35% annually), and Materials (34% annually).
“The obvious [driver of capital expenditures growth] is commodity prices and we have found a pretty strong correlation between commodity prices and CapEx,” Kwon said in an interview with Yahoo Finance. “If you look at the sector level data, which sectors have increased CapEx, it was energy and industrials.” These two sectors have the greatest exposure to commodities and accordingly, are directly affected by increases in commodity prices.
The energy sector has also historically been quite capital disciplined in recent years. According to Fitch Ratings, ‘capital discipline’ describes the tendency of energy companies to prioritize returning cash to shareholders over large investments in CapEx. “If you think about last year, nobody was spending on CapEx,” Kwon explained. Now, he said, analysts are starting to see some reactions, specifically an increase in capital expenditures among energy companies.
The semiconductor industry has also undergone a significant increase in CapEx. IC Insights, a semiconductor industry research firm, projected that total semiconductor industry CapEx to be $190 billion in 2022, up 24% from $154 billion in 2021.
The increase in CapEx growth may come as a surprise to investors wary of the potential effects of high inflation and Federal Reserve rate hikes on business confidence. Even so, the data supports the notion that a high degree of investment currently coexists with a decreasing level of business confidence. Business confidence has been declining in the US since October 2021, according to OECD data.
Part of the increase in nominal CapEx numbers may clearly be attributed to inflation, Kwon said, but there has also been a concerted effort from companies to dedicate greater resources towards investing in long-term assets and equipment.
“It's a combination of both [greater real investment and higher prices],” he said. “Because of rising prices, companies are seeing a higher IRR [internal rate of return], so they feel more confident and competent investing in CapEx.”
The Bank of America Global Research team also tracked the CapEx guidance ratio, which measures companies’ CapEx in relation to consensus estimates in order to recognize trends. “That ratio has been climbing higher than the Wall Street average, meaning that companies are actually issuing CapEx guidance that is above what the street is pricing it,” Kwon explained. “So, at least in the near term, this CapEx cycle is likely going to last.”
Ihsaan Fanusie is a writer at Yahoo Finance. Follow him on Twitter @IFanusie.