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Europe’s Fade Becomes Drag on Sales for U.S. Companies

Nathaniel Popper|The New York Times
Tuesday, 5 Jun 2012 | 11:33 AM ET
Ryan McGinnis | age fotostock | Getty Images

As the European crisis intensifies, a growing number of companies in the United States are warning investors that sales in the region are slowing and could get much worse.

In the technology industry, one of the most exposed to Europe and an engine of the American recovery, Cisco, Dell and NetApp have all recently pointed to unexpected weakness in European sales. Other areas with major exposure to the Continent, including automakers and industrial companies, are beginning to voice similar cautions.

Just a few months ago, market watchers were optimistic that the American economy had decoupled from Europe’s problems, able to grow even as the Continent faltered.

While most of the focus has been on oppressive debt and debilitated banks in the euro zone, concerns are shifting to the drag that recession in Europe is exerting on the global economy. Over the weekend, President Obama reflected the growing anxiety by saying that Europe’s economy is “starting to cast a shadow on our own as well” and that it was partly to blame for the recent slowdown in job creation in the United States.

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The economy of the European Union, which holds the 17 nations that use the euro currency and 10 others, is a larger economic unit than the United States or China.

Corporate profits have been one of the brightest spots in the American economy, but the decline in European revenues is part of the reason that analysts have recently ratcheted down their expectations for profit growth in the second quarter. In the case of technology companies, analysts say they believe that about a third of all revenue comes from Europe.

Through the first few months of this year, when technology stocks were leading markets up, the networking giant Cisco was sharing in the good times, ready to leave behind recent difficulties tied to bad acquisitions.

Last month, though, Cisco’s chief executive acknowledged that the company’s economic outlook in Europe had “gotten worse,” helping to push the company’s shares down 11 percent in one day.

A. M. Sacconaghi, a technology analyst at Sanford C. Bernstein & Company, said, “As push has come to shove, we have started to see a real shift in outlook.”

Prospects for the European economy darkened in recent days as surveys showed that manufacturing across the euro zone contracted in May and the unemployment rate climbed to a record 11 percent. On Monday, Portugal’s finance minister said that the country’s growth rate next year would be lower than expected.

Manufacturing has also slowed in India and China, according to data released last week, threatening two of the most reliable drivers of global growth. In the United States, job creation slowed to the weakest level in a year.

The gloomy news sent financial markets around the world tumbling through last week, with the Dow Jones industrial average falling into the red for the year. Share prices were mixed around the globe on Monday; stocks in the United States were flat and Europe’s were up slightly.

A weaker Europe has meant a stronger dollar, making American products more expensive. In Asia, several countries rely heavily on exports to Europe and are consequently slowing down in manufacturing, which in turn lowers Asian demand for imports. Even companies around the world that are not dependent on exports are vulnerable as consumer confidence is eroded.

THE "BIGGEST FEAR"

The biggest fear was that Greece’s potential departure from the euro currency would set off a financial crisis like the one in 2008. American banks have tried to reduce their holdings of bonds issued by countries in Europe’s troubled southern periphery. But if payments and loans were frozen at European financial institutions, it would quickly spread to American banks and from there to the broader American economy.

“I don’t think anyone is fully prepared for a disorderly exit of Greece from the single currency,” said Edward Marrinan, the head of macro credit strategy at RBS.

Barring such a crash, an extended recession in Europe was still likely to hurt the American companies that rely most heavily on Europe for revenue, though it was not clear how many would suffer.

Almost three years into this European crisis, there is a surprising amount of uncertainty about exactly how much American companies rely on European sales. Only about half of the companies in the Standard & Poor’s 500-stock index of major American companies break out the portion of their revenue that comes from Europe.

“We do not have a clear picture at all,” said Howard Silverblatt, the senior index analyst at Standard & Poor’s. “There is enormous uncertainty.”

Tobias Levkovich, chief equity strategist at Citigroup, has estimated that around 11 percent of all revenue earned by companies in the S.& P. 500 indexofficially comes from Europe. But he said that the actual figure was closer to 15 percent because of unclear reporting and products that first go through other regions.

Food and beverage companies, as well as pharmaceutical companies, derive about 22 percent of their revenue from Europe, according to Mr. Levkovich’s analysis. These companies are less likely to be hard hit in case of a deepening recession.

“At the end of the day, people in Europe will still buy Pampers even if they cost a drop more,” said Russ Koesterich, the chief investment strategist for the iShares division of BlackRock.

The same cannot be said for companies that sell big-ticket products. American automakers could be in particular trouble given that they derive about 27 percent of their sales from Europe, according to Mr. Levkovich. Both Ford and General Motors reported declining sales in Europe in the first quarter, and the problems are being exacerbated by unused factories on the Continent, according to Mike Wall, an analyst at IHS.

Industrial companies, which derive 16 percent of sales from Europe, have been slower to report problems, though not in all cases. David Farr, chief executive of the Missouri-based industrial conglomerate Emerson Electric , said in a call with analysts in May that his company’s business on the Continent “has continued to weaken” and that there was “very little recovery in sight.”

Technology companies have been among the most outspoken about their vulnerability to Europe.

A few weeks after Cisco’s announcement, Dell’s chief financial officer said the environment in Europe and parts of Asia was “tougher than we had planned.” And a day later, Hewlett-Packard’s chief executive, Meg Whitman, said that her company would face “headwinds” from Europe at least through the end of the year.

Some companies facing this situation have taken measures to protect themselves, like withdrawing money from European accounts that would be vulnerable.

But, Mr. Sacconaghi said, “There is not a lot you can do when demand in a whole geography weakens.”

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