By Daniel Hunter

Business fell across the service sector over the last three months - worse than expected, according to the CBI’s latest quarterly survey.

The business & professional service sector, which includes accountancy, legal and marketing firms, fell far short of predictions of strong volumes growth. The sector reported its biggest fall in profitability since November 2011, as businesses cut their prices and employment costs rose.

And business in consumer services, such as hotels, bars, restaurants and the travel and leisure industries, fell much more steeply than expected, with a drop in profitability as rising prices were outpaced by growth in employee costs.

But the survey of 147 firms reports a slightly brighter picture for the next three months, with volumes in both sectors expected to rise and employment increasing more markedly.

Profits in business & professional services are expected to remain under pressure, as prices continue to fall and costs rise. But consumer services firms are expected to see profitability increase, as prices are expected to rise strongly.

The survey also shows the proportion of consumer services firms expecting to expand over the next 12 months at its highest level for three years, with more firms saying they will invest in replacing old equipment, reaching new customers and providing new services.

“Economic conditions remain fragile in the service sector," Anna Leach, CBI Head of Economic Analysis, said.

“Business conditions failed to improve as expected for business & professional firms, while sharply falling prices bore down on profits. Consumer services saw a tougher end to the year than expected, as the rate of decline in business volumes accelerated unexpectedly.

“Despite the disappointing quarter, optimism remained stable and the outlook is brighter for the months ahead. Business volumes in both sectors are expected to grow and employment to pick up.

“The more bullish tone from consumer firms is encouraging but households are likely to remain cautious given the expected further squeezes on their budgets during 2013.”

The Service Sector Survey was conducted between 22nd January and 13th February — with 95 business & professional firms and 52 consumer services firms responding.

The key findings are:

Consumer Services

- Optimism about business conditions improved slightly over the previous quarter (a balance of +6% of firms surveyed).
- Volumes fell much more sharply over the quarter than expected in November (-16% compared with -8%), but are expected to pick up over the next three months (+11%).
- Overall profitability fell in line with expectations (-8%) but is expected to rise sharply next quarter (+16%) on the back of a recovery in business volumes and sharply rising average prices (+20%). It is the highest expected rise in profitability since May 2007 (+16%).
- Numbers employed rose in line with expectations (+7% compared with +8%) and are expected to rise further over the next three months (+15%). Training spending fell well short of predictions (-11% compared with +14%) and is expected to fall again next quarter (-7).
- The proportion of firms expecting to expand over the next 12 months is at its highest level since February 2010 (+6%) — the first positive rise in three years.
- More firms are expecting to increase investment in IT (+16% up from +8%) over the next 12 months, with replacement the main motivation (cited by 80% of respondents, above long run average of 58%), alongside providing new services and reaching new customers as key reasons to invest.

Business and Professional Services

- Optimism about business conditions was unchanged on the previous quarter (0%).
- Volumes fell unexpectedly (-8% compared with +17%), but are expected to pick up over the next three months (+7%).
- Overall profitability fell sharply and unexpectedly (-21% compared with +10%), with another fall expected next quarter, albeit less steep (-7%). It is the steepest fall since November 2011 (-29%)
- Numbers employed were flat (+1%), disappointing stronger predictions of rises (+13%), but is expected to rise (+15%) in the quarter ahead. Training spending fell, again disappointing expectations (-8% compared to +13%), and is expected to be flat next quarter (+2%).
- The proportion of firms expecting to expand over the next 12 months has fallen back sharply since November (-7% down from +32%).
- Firms are still expecting to increase investment in IT (+26%). But 72% cite uncertainty about demand as being likely to limit capital expenditure over the year ahead (long run average 59%) and concerns about internal and external finance are also above their long run averages (30% versus 23% and 18% versus to 9% respectively).

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