According to the December 2022 Semiannual Economic Forecast recently issued by the Institute for Supply Management (ISM), growth expectations of 5.5% for 2023 are down from the 6.5% rate estimated six months ago and well below the 9.2% rate for 2022. The numbers are based on a survey of purchasing and supply chain executives, which is however not a homogeneous group.

Therefore, some segments are expected to do much better than others (45% of respondents are looking for 14.9% growth, 43% flattish growth and the remaining 12% expecting a 10.3% decline on average). Thus, there are segments within manufacturing that should have a stellar year, recession or not.

Significantly, the ISM expects raw material price increases to decelerate to 2% from 11.4% in 2022. This should be a huge relief for players, as labor issues persist. Manufacturing employment is expected to increase 3.9%.

Working conditions in the manufacturing industry aren’t great compared to other industries, which is why it has lost more people during the “great resignation”. Consequently, today the industry is severely short staffed with employees making demands for higher pay, a better working environment, work-life balance, flexible hours, etc. About a quarter of the workforce are also aged 55 and above, which along with the technical skills required for the job means that labor will remain a top concern/focus area in the next few years.

However, technology adoption, including factory automation, robotics and increased use of Industrial IoT (IIoT) devices are expected to bring efficiencies, cost control, deeper insights into operations and customer relationship management by facilitating in-depth information gathering, monitoring equipment and process efficacy, early diagnosis of problems, as well as a predictive approach to analytics. AI is expected to wring further efficiencies. This is a multi-year trend that has been ongoing over the last five years and is expected to continue over at least the next three.

A lot of innovation is also happening in the supply chain, with larger players increasingly absorbing middlemen on both the sourcing and supply sides. This helps in two ways, by eliminating some cost, building direct relationships with suppliers and customers, better pricing and better control. The benefits of this model are not lost on smaller players, so changes may be expected to continue.

Manufacturers have been building capacity all through this year at an average rate of 12%, something that will continue in 2023, albeit at a much slower rate of 2.6%, according to the ISM report. Despite these additions, 2022 utilization remains quite high at 88.4%.

From the above, we can come to a few conclusions:

First, there are pockets of considerable strength within the manufacturing segment although the overall market can appear sluggish in 2023.

Second, while labor and raw material cost will continue to increase next year, the rate of increase will come down sharply. Therefore, players with pricing power will benefit disproportionately.

Third, technology will continue to play a big role in increasing efficiencies (which is the need of the hour). Therefore, investments will continue.

With that in mind, let’s jump to a couple of stocks that are looking very good right now. Both are members of the Zacks Manufacturing - Construction and Mining industry, which is in the top 2% of Zacks-ranked industries.

H&E Equipment Services, Inc. (HEES Quick QuoteHEES - Free Report)

Baton Rouge, Louisiana-based H&E Equipment Services is an integrated equipment services company. It operates in five segments: Equipment Rentals, Used Equipment Sales, New Equipment Sales, Parts Sales, and Repair and Maintenance Services. H&E Equipment targets industrial and commercial companies, construction contractors, manufacturers, public utilities, municipalities, maintenance contractors and other industrial customers.

The Zacks Rank #1 (Strong Buy) stock has Value, Growth and Momentum scores of B, A and B, respectively. Its estimates continue to rise even when the markets expect doom and gloom next year. In the last 60 days, the 2022 estimate is up 48 cents (17.3%) while the 2023 estimate is up 64 cents (19.8%).

Analysts expect 2023 revenue and earnings growth of 13.1% and 19.0%, respectively. But the current pace of estimate revisions indicate that growth will ultimately be much stronger. The surprise history (41.7% average surprise in last four quarters) shows that analyst estimates tend to be conservative.

Analysts have also set their target prices quite high, the average representing 19% upside from the current price of $44.92.

Terex Corporation (TEX Quick QuoteTEX - Free Report)

Terex manufactures and sells aerial work platforms and materials processing machinery worldwide. Its products are used in construction, infrastructure and recycling projects; quarrying and mining, and material handling applications; maintenance applications to lift equipment or material; and landscaping and biomass production industries.

The Zacks Rank #2 (Buy) stock has Value, Growth and Momentum scores of B, B and D, respectively. In the last 60 days, its 2022 estimates have increased 14 cents (3.5%) and 2023 estimates 22 cents (4.8%). Revenue and earnings are expected to grow a respective 5.4% and 16.8% in 2023. The surprise history is good with the previous four quarter average surprise coming to 36.7%.

The average target price represents 14% upside from the current level of $43.64.

Price Performance Year-to-Date

Image Source: Zacks Investment Research