Amid fears of a double-dip recession and slow macroeconomic recovery, senior executives are once again feeling cautious about the future business environment, according to the latest Business Barometer survey released by The Corporate Executive Board. Measuring the economic assumptions of more than 400 executives across six functional business roles, the quarterly survey revealed that companies will likely need to be vigilant in responding to cost pressures and challenging labor conditions, yet need to make investments in R&D and other areas to stay competitive in the year ahead.

Dropping to a reading of 47.8 in Q3 from 51 in Q3 2010, the Q2 Business Barometer showed that optimism among business leaders about the year ahead has wavered. While most executives say they expect higher revenues for their companies this year (68 percent), fewer are optimistic about their respective industries’ growth prospects (only 50 percent say they expect their industries to grow) and a majority are anxious about rising cost pressures (68 percent). However, executives remain cautiously optimistic about increases in R&D spend and capital expenditures.

“The results of this quarter’s Business Barometer point to increased uncertainty among businesses about the pace of the economic recovery,” said Michael Griffin, managing director, Global Research for the Finance and Strategy Practice at CEB. “While fundamentals at large companies have recovered steadily across the past year in terms of both top-line growth as well as margins, executive concerns about the economic environment—especially the strength of consumer demand—have returned. Many companies are taking a wait-and-see approach, but history suggests that those who undercut growth investments during economic trough periods risk longer-term revenue stalls while those who make investments ahead of peers are more likely to seize outsized returns.”

Areas for Vigilance

One of the biggest negative shifts in this quarter’s Business Barometer reading was the extent to which executives view the resilience of U.S. consumers, with only 38 percent of executives expecting consumer confidence to improve, compared to 59 percent in Q2. Executives also expect unemployment to linger, with 49 percent anticipating numbers to stay the same, compared with 46 percent who had that outlook in Q2.

Also surprising was the deterioration of sentiment among HR executives regarding labor market conditions. Nearly two-thirds (64 percent) expect a moderate increase of one-to-four percent in average labor costs this year. Forty-two percent expect average health benefits to increase by one-to-nine percent, with 18 percent expecting a higher than 10 percent increase. Compared to Q2 2010, HR executives have dropped their expectations of employee engagement (32 percent think employees will be less engaged) and anticipate higher turnover (54 percent compared to 39 percent in Q2).

In addition, growth prospects in the U.S. and EU have deteriorated, with only 32 percent of executives seeing strong economic growth in these industrialized economies (compared to 54 percent in Q2).

Areas of Cautious Optimism

On a brighter note, outlook among IT executives improved, largely driven by the fact that 54 percent expect higher discretionary CapEx IT spending (up from 47 percent in Q2). Fifty-seven percent of IT executives expect spending on software to increase (up from 45 percent in Q2). Moreover, finance and operations executives remain largely optimistic about increasing CapEx, and making long-term innovation bets, even though the strength of the optimism retreated somewhat.

“Even though the overall outlook has moderated, there is still resilience in key investment areas such as anticipated R&D and IT CapEx,” said Oleg Polishchuk, senior director, Finance and Strategy Practice at CEB. “Furthermore, executives expect higher order volumes and plan to increase production levels.”

Additional notable findings from this quarter’s Business Barometer include:

- A majority of finance executives expect increases in the number of M&A deals this year; however, optimism may be waning with the number dropping slightly (51 percent compared to 63 percent in Q2).

- While the majority of finance executives expect to increase CAPEX, their number declined from 55 percent in Q2 to 51 percent in Q3.

- More than two-thirds of sales executives (65 percent) expect rising sales to new customers this year, with more than half (53 percent) expecting to see increases among existing customers.

- Fifty-two percent of all executives expect no changes in terms of access to credit.

- The number of executives who expect interest rates to increase has dropped to 42 percent, compared to 57 percent in Q2.

- Executives’ outlook on production is positive, with 68 percent expecting a higher number of new orders and 67 percent expecting expanded production over the next 12 months (compared to 64 percent in Q2). However, the number of product introductions may decrease with 52 percent expecting a higher number of new products this year, compared to 65 percent who had that outlook in Q2.

CEB’s Business Barometer is a forward-looking diffusion index of expected business conditions, condensed from a survey of more than 440 senior executives in North America and Europe across 33 industries. The Business Barometer provides a unique measure of business sentiment among a representative sample of CEB’s executive member network. The index measures the assumptions of senior executives across six functional disciplines, including HR, corporate finance, operations, sales and marketing, real estate and IT, on the impact 12 key business and economic indicators will have on their business in the year ahead.