Mixed headwinds: What does the rest of 2021 look like?

Despite navigating the COVID-driven global downturn well in 2020 and early 2021, the second half of the year will likely see Australian businesses face a range of challenges. Consumer-facing businesses will be hoping vaccinations numbers and optimism about re-opening economies reverses the recent declines in public sentiment caused by lockdowns across the country. For any organisation reliant on overseas customers, suppliers or talent, our relationship with China and the long-term closure of our border will necessitate substantial contingency planning.

In our revised forecast, our experts explore the many challenges faced by three very different sectors including retail, education and coal.

A COVID Christmas and the cautiously optimistic consumer

Consumer confidence hit eleven-year highs in April 2021, however by August we had seen a fall in the sentiment index of over 12%, driven by lockdowns in Queensland, New South Wales and Victoria which showed how vulnerable the economy was to outbreaks. The most recently reported retail sales data showed the first fall in many months, however sales remain higher than pre-COVID levels across the country except in the CBD areas. Sales are being driven by domestic demand, as the industry benefits from tailwinds associated with elevated savings levels estimated to be around $200 billion. These levels are in part fuelled by consumers not being able to travel overseas, the wealth effect linked to soaring real estate values in both regional and many metro areas, and a structural shift in spending habits linked to changing behaviours associated with the pandemic.

Retailers benefited most from COVID measures such as JobKeeper, rental relief, and other emergency measures which provided a material cash boost at both revenue and cost levels. More traditional fiscal stimulus in recent federal and state budget announcements has also provided some benefit. However, retailers must plan carefully as we emerge from lockdowns and the pandemic more generally because whilst consumer sentiment should improve, those consumers will have other areas to spend their money.

In the lead up to yet another COVID-affected Christmas, below are some themes we expect to prevail in the second half of 2021:

• Moderation towards normalised levels of spending and a cautiously optimistic consumer as CBD sales will remain depressed due to lockdowns.

• Hybrid working models will continue as employees maintain a level of working from home. This will boost online sales, as a result of ‘nesting’ behaviours and spending on electrical and household goods.

• Managing cost base and building in flexibility will be critical to retailer profitability, given changes to contribution from different sales channels.

• Working capital will come into greater focus in the lead up to the Christmas period, as business owners will need to clear deferred rent and excess inventory whilst also building new inventory for Christmas.

• The physical and digital retailing landscape will continue to integrate as retailers reconsider their networks. Landlords will work to maintain and attract tenants with a focus on limiting non-trading tenancies and closures.

• Retailers will increase their investment in analytics and online infrastructure, as well as warehousing and logistics changes to offer greater convenience for consumers.

• Consumers will start to consider travel as an option to spend their money after two years of disruption.

• Business strategies will focus on the near term including built-in contingency plans to respond to what could be material changes in demand.

Prolonged border closures causing pain to the Higher Education sector

With international student arrivals down 99.4% in April 2021 when compared to April 2019, the Australian university sector continues to face headwinds. Interestingly, this has not immediately translated to a corresponding fall in revenue from overseas students (down around 15% in 2020), with many international students having transitioned to online learning to complete their degrees.

The full impact of Australia’s closed border policy on the university sector will be felt in years to come though as international students are choosing to commence degrees in other, more “accommodating” countries such as in the United Kingdom, Canada or the USA. This is reflected in the rate of new international student enrolments down 37% in April 2021 compared to April 2019 and highlights the unfolding challenge and structural shift in revenue sources for universities.

In response, universities have endeavoured to reduce overheads to maintain viability. The Australian Financial Review has reported total job losses of over 14,000 in the sector since March 2020. The Federal Government’s ‘big spending’ budget handed down in May 2021 also provides little ongoing support for higher education.  An emergency $1 billion grant for research provided in FY21, which helped supplement the initial downturn in revenue, will not be renewed in FY22. Industry experts expect the impact of continued border closures for another year to have a much greater bearing on the university sector than any government program.

At the other end of the spectrum, the early education and childcare sector has fared better in the Federal Government’s most recent budget. Increasing the rate of the Child Care Subsidy (CCS) for families with more than one child under six attending childcare and removing the annual cap of CCS that can be paid for families earning more than $189,390, is forecast to provide an additional $1.7 billion in payments over the next five years. Together with further emergency support announced this week, these investments have been widely welcomed and will inject some much needed stability into the sector as other measures, such as JobKeeper, have been wound back.

There is some life in coal yet

Australian coal producers faced extreme headwinds in 2020 following Chinese import restrictions and the impact of ESG policies reducing the availability of capital. Thermal coal prices fell from USD $72.49/t in June 2019 to a low of USD $50.14/t in August 2020.

Over that time players pivoted to alternative markets to fill the demand gap, whilst more recently increasing coal prices (thermal coal at USD $151.97/t in July 2021) have reduced some of the cash flow pressure of 2020.

While China stands firm, increased demand from India and parts of South-East Asia has driven higher prices. There remains a reliance on thermal coal in these countries and at a global level, the world’s need for base load power generation and steel production will continue to drive a level of demand for the foreseeable future against a constrained capital environment for further supply side development.

Australian super funds and institutional investors are hesitant to continue to invest and banks are amortising or declining to refinance. Consistent with these trends, operators have announced early closures of domestic thermal coal generation assets and associated mines (for example Energy Australia’s Yallourn Coal fired power station), capped coal production (Glencore capping at current levels), or revalued assets (Origin Energy revaluing Australia’s biggest coal fired power station by $1.5bn).

In the context of the longer term downward trend, the current environment of high coal prices, improved cash flow and low interest rates mean that now may be a good time for coal producers and exporters to get their house in order, refinance facilities where possible and exit sectors of the market or consolidate operations. Whilst domestic capital is constrained, there are still signs of off-shore appetite in quality Australian coal assets.