Coronavirus and corporate financial performance

Coronavirus and corporate financial performance

With the continued increase in the incidence and geographical range of coronavirus (covid-19) cases, global markets have responded as investor concern continues to rise. Multinational companies with complex cross-border supply chains appear to be particularly unprepared for the impact on their business and financial performance.

On 13 February, the International Energy Agency predicted oil demand in Q1 2020 will contract for the first time since 2009. There have also been multiple closures of stores and factories in China, alongside increased travel restrictions which have had a knock-on effect on companies globally. Supply chains for parts and components are disrupted, the movement of goods and labour is restricted, and contractual commitments are in jeopardy.

A regulatory response

On 18 February 2020 the Financial Reporting Council (FRC) issued disclosure guidance to companies and auditors in response to the growing risks associated with coronavirus. By law, companies are required to disclose any material risks, and the FRC has advised companies to carefully consider the impacts of the virus in their reporting of principal risks and uncertainties. Where mitigating actions can be taken, these should also be reported alongside the description of the risk itself. The regulator also notes ‘the carrying value of assets and liabilities might also be affected with a need to perform additional impairment tests and to assess whether leases have become onerous’.

The FRC is in discussions with audit firms over their ability to conduct timely audits of UK companies with Chinese subsidiaries.

Corporate disclosures

Many companies have already issued statements on the risks coronavirus poses to their business.

On 18 February 2020, HSBC released its annual report for the year ended 31 December 2019 in which the bank recognised the potential threat the virus could pose to their Asia-Pacific portfolio. HSBC noted that it could be materially impacted by higher expected credit losses and decreased revenue in Hong Kong and mainland China. The bank states ‘there could be adverse impacts on income due to lower lending and transaction volumes, and insurance manufacturing revenue. Further expected credit losses could arise from other parts of our business impacted by the disruption to supply chains’. However, the bank remains reassured that within Hong Kong its ’balance sheet and capital adequacy remain resilient based on regulatory and internal stress test outcomes’. The company’s London share price decreased 6.2% on the day of release of its annual report.

Chinese consumers are crucial to the luxury market both domestically and abroad, accounting for over $100 billion annually on luxury goods. On 7 February Burberry plc issued an announcement acknowledging ‘the outbreak of the coronavirus in Mainland China is having a material negative effect on luxury demand’. Since the outbreak the brand had seen 24 out of 64 stores in mainland china shut down, with the remainder operating under reduced hours and experiencing limited footfall. Whilst the spending patterns of Chinese customers within Europe and other tourist destinations have yet to be impacted as severely for the company, the luxury retailer anticipates this will only ‘worsen over the coming weeks’ due to widening travel restrictions.

These increased restrictions have impacted the cruise company Carnival plc, which announced on 12 February that the effects of the virus will have a material impact on its financial results, not previously anticipated in their 2020 earnings guidance. This follows the suspension of cruises from ports in China, as well as cancellation of voyages in other parts of Asia. The FTSE 100 company states: ‘while not currently planned, if the company had to suspend all of its operations in Asia through the end of April, this would impact its fiscal 2020 financial performance by $0.55 to $0.65 per share, which includes guest compensation. In addition, the impact on global bookings will further affect the company’s financial performance’. A further update on the situation is expected in its quarterly report in March.

Alongside this, China consumes around half of the world’s metal and mining resources, leaving miners, Glencore, Anglo American plc and BHP plc cautiously watching out for further developments. In its 2019 half year results, BHP plc has stated ‘If the viral outbreak is not demonstrably well contained within the March quarter, we expect to revise our expectations for economic and commodity demand growth downwards’.

Implications for lawyers

Whilst the full extent and impact of the virus is unclear, we can expect to see an increasing number of disclosures and announcements over the coming months, as many companies approach their financial year end or are otherwise required to address their shareholders at AGM. Current rules in relation to the timely announcement of price sensitive information and the presentation of business risks are already more than adequate to encapsulate contagious diseases, however stakeholders are likely to expect higher than normal levels of risk assessment and the implementation of coherent mitigation strategies.

Tom Proverbs-Garbett, senior associate at Pinsent Masons, reflecting on the FRC guidance, notes that ‘this is best seen as a reminder, as we enter reporting season, of the virus’ wide-reaching impact on business and therefore the utility for investors of understanding, distinctly, that impact on a company by company basis’.

Aside from the importance of timely financial disclosures, firms should also seek the assistance of their commercial legal advisors as regards supply chain disruption or a potential inability to meet contractual obligations. In her article Managing the impact of the coronavirus on supply chains, Clare Francis, partner at Pinsent Masons, stresses the need for all businesses to review:

  • how they will address any lack of supply or claims for relief from their suppliers, and
  • the steps they will take to ensure that they continue to meet their contractual obligations or can seek relief from their obligations.


Reviewing contract terms, considering force majeure and relief provisions and monitoring for early warning signs will not only help mitigate contractual disruption, but will significantly assist in the assessment and disclosure of heightened risk and weaker financial performance.

 

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