Hot Chocolate


  • As a z-score, per the NFIB, small businesses reporting “too low” inventories hit a record high of 3.12 in two of the last three months; as the third virus wave intensifies, six-month forward sales expectations have backslid from October’s -0.48 z-score to -0.56 in November
  • In November, the ISM Mfg Customers’ Inventories Index z-score hit a 10-year high, while Services Inventory Sentiment was at its second highest level ever; with 30 of 36 industries in ISM’s surveys seeing longer delivery times, supply chain issues go well beyond Main Street
  • Per org, small business openings fell steadily in November to 28.8% below January levels, the worst since May; with leisure & hospitality and retail the hardest hit moving into the holidays, small business pricing power remains weakened



So adored is Tom Hanks at QI, he merited a second reference in one week. Hanks was fully embedded in 2004’s The Polar Express. Not only was he the voice of the Conductor, the Hobo, Santa Claus, Hero Boy as an adult, and Hero Boy’s Father, he was also one of the film’s executive producers along with Chris Van Allsburg, the writer and illustrator of the book by the same name honored with the Caldecott medal for most distinguished American picture book for children. Sandwiched between The Incredibles and The SpongeBob SquarePants Movie, Polar faced tough competition on its opening weekend. And yet, the staying power of its up-tempo “Hot Chocolate,” performed by Hanks as the Conductor and accompanied by pastry chefs and waiters, still has us singing along all these years later. Aptly, the opening verse warms the soul: “(Hot! Hot!) Ooh, we got it! (Hot! Hot!) Hey, we got it! (Hot! Hot!) Say, we got it! (Hot chocolate!)”

American small businesses have not been singing along. They’re instead singing, “We don’t got it!” Pardon the grammar, but that’s what came to mind when we saw the record high net percentage of small businesses – all of 5% — that reported their current inventory as “too low” for the second time in the last three months. In today’s chart, we illustrate this series using our favorite normalizer — the z-score, or deviation from the mean adjusted for volatility. In both September and November, this metric hit a z-score north of three — 3.12 to be exact (light blue line).

Since 1973, the National Federation of Independent Business (NFIB) Small Business Economic Trends report has been querying owners and operators. After all this time, it took a global pandemic to create the economic environment for the largest undersupply signal of all time. There are three ways to characterize the imbalance between supply and demand:

  1. Low inventory tied to strong demand
  2. Low inventory stemming from the COVID supply chain shock
  3. Low inventory because you might not be a going concern in 2021

We can rule out the first scenario. Demand guidance is depicted by six-month forward expectations for real sales (or revenue volume, yellow line). The z-score for this has run in negative territory – below trend – since March. The roller coaster ride sales expectations have been on follows the virus and is thus a tale of two backslides – first from June’s high of -0.33 to August’s low of -1.12, and then again from October’s high of -0.48 to November’s -0.56. Given the recent history, it’s likely the current relapse in the data has yet to run its course.

The second situation passes the sniff test. The supply chain is global. Coronavirus started in China and sent shockwaves across developed and emerging markets alike as supply channels were shutdown. China reopened as the rest of the world was reeling then shutting down, extending delays in the supply chain. The more the virus was controlled in the U.S. as summer turned to fall, the greater the grab for product which morphed into a persistent pull.

By November, a total of 30 of 36 industries across the ISM’s Manufacturing and Service surveys were flagging longer delivery times. The supply shock has clearly not been isolated to Main Street. On the same z-score basis, at 2.18, the ISM Manufacturing Customers’ Inventories index posted the highest reading in ten years while the ISM Services Inventory Sentiment index reached the second highest on record of 3.50. Throw in the small business metric with these large-firm indicators; the aggregate of the three make for the largest shortfall on record.

The third condition is the most fluid and concerning. Countless U.S. restauranteurs, gym operators and small retailers have had to close or operate under heavy traffic restrictions because of the pandemic. Now they’re faced with a subsequent shutdown amidst the largest and most widespread COVID wave yet. Will the Paycheck Protection Program be extended by D.C. lawmakers to backstop employers who dread letting go of workers they consider to be family? Suffice it to say, the arrival of effective vaccines can’t come soon enough for this besieged cohort.

All of eight days into December, Bloomberg’s tally of bankruptcies is running about one per day. Granted, these are for companies with liabilities greater than $50 million, so they don’t tell the whole story of closures down the size scale. But does, and it shows a grind down through the month of November for “small businesses open.” By November 25, the 28.8% decline versus the January 2020 benchmark was the worst showing since May. Not surprisingly, those in the leisure & hospitality and retail sectors have, again, been the hardest hit.

“They don’t got it,” is how we would characterize the hope for small businesses to raise prices (red line) against the current backdrop, especially as we veer into the critical holiday entertaining and shopping season. Logic dictates that pricing power will track demand more than it will (under)supply. Sway over prices should also trace a similar path to inflation expectations in rates markets (dark blue line). The train is nowhere near pulling into the station signaling the all-clear on the small business recovery.

Posted in Daily Feather.