SYDNEY (S&P Global Ratings) March 10, 2020--While the COVID-19 outbreak has dominated recent headlines, the recent reporting season reminds us that many other factors are in play for corporate Australia. Mergers and acquisitions (M&A), low interest rates, bushfires, and drought all moved the needle on second-half results to December 31. However, S&P Global Ratings believes the coronavirus epidemic looms as the most significant threat to operating performance in 2020.
The coronavirus will weigh heavily on Australia's economy, and this will feed through to demand and pricing for goods and services in Australia. Last week we downgraded Australia's real GDP forecast for 2020 to 1.2%, from 2.2% pre-outbreak. Moreover, we believe risks remain to the downside. Indeed, there is a growing risk that ructions in the global financial markets will persist as Australia approaches winter when the risk of economic shutdowns is likely to peak.
We anticipate travel- and tourism-exposed sectors will bear the brunt of the initial impact. This comes on the back of one of Australia's worst bushfire seasons on record. A lower Australian dollar will provide some cushion to the Australian economy, although there will be winners and losers among Australian corporates.
Several Australian companies have already highlighted the potential fallout from coronavirus on their businesses. This includes Virgin Australia Holdings Ltd., Crown Resorts Ltd., BlueScope Steel Ltd., as well as several discretionary retailers and their landlords such as Vicinity Centres and Scentre Group Ltd. In Virgin Australia's case, we revised our rating outlook to negative to reflect the carrier's challenging operating outlook, high operating leverage, and elevated debt levels. Casino operators, such as Crown Resorts and SKYCITY Entertainment Group Ltd., are also suffering as international VIPs curb their travel plans. However their robust balance sheets and significant local mass market revenues provide some ratings buffers.
COVID-19 underscores the extent to which Australian supply chains are integrated with China and the broader global economy. So far only a handful of companies have offered guidance or disclosures on how supply-chain disruptions are affecting business. We believe this may increase as companies take stock of inventory levels and more closely examine vulnerabilities within their supply chains. Our interaction with management suggests that companies are prioritizing this issue, with many taking steps to secure alternate supplies.
More Post-Results Downgrades Than Upgrades
Resource companies generally performed well during the December half. Several companies used the favorable price environment over that period to consolidate their financial position and build ratings buffer. Others, such as Woodside Petroleum, potentially face tough trade-offs between maintaining credit metrics and pursuing growth opportunities as the external environment weakens. Highly cyclical mining services companies extended their track-record of prudent balance sheet management which should provide some limited buffer to a potential industry downturn. Indeed, we believe commodity markets are likely to be at the forefront of any sustained downturn.
Transaction-related activity has also been a key theme this reporting season. We lowered our long-term rating on Australian Prime Property Fund Retail to 'A-' from 'A+' with negative outlook due to a meaningful reduction in the fund's scale and asset diversity following recent and proposed high-quality assets divestments to satisfy existing unitholder redemption requests. We also downgraded Genesis Care Pty Ltd. to 'B' from 'B+', with a negative outlook, following the cancer and cardio specialist's proposed acquisition of 21st Century Oncology Inc. in the U.S. We believe this acquisition reduces the likelihood of extraordinary support from Genesis' majority shareholder China Resources (Holdings) Co. Ltd. and increases leverage.
We also recently downgraded Speedcast International Limited to 'CCC' from 'B-', with a negative outlook, reflecting the impact of an overly aggressive growth strategy and margin pressures on the company that have, in our view, led to an unsustainable capital structure. We lowered the ratings on Singtel Optus Pty Ltd. Ltd. to 'A-/A-2' from' A/A-1' due to its parent Singapore Telecommunications Ltd.'s weaker credit quality. In the case of Boral Ltd., its U.S. business and strategy has impinged on earnings and reduced the building and construction firm's capacity to absorb further underperformance at the current rating.
Notable other M&A activity during the December half included the potential takeover of Caltex Australia Ltd., Orica Ltd.'s acquisition of Peru-based company Exsa SA, Nufarm Ltd.'s sale of its Latin American operations, Ventia Pty Ltd.'s acquisition of Broadspectrum Pty Ltd., the Mineral Resources Limited lithium joint venture with Albemarle Corp., and Wesfarmers Ltd.'s sell-down of its stake in Coles Group Ltd.
We believe that Telstra Corp. Ltd. should benefit from the recent clearance of the merger between TPG Telecom and Vodafone Hutchison Australia, as we expect the risk of aggressive price-based competition to abate. CIMIC Group Ltd.'s disposal of its Middle East operations has contributed to a reduced financial buffer at the current credit profile.
Looking forward, however, it is increasingly unlikely that the recent tempo of corporate activity will be maintained. Some Australian corporates have indicated that transaction and refinancing activity has been put on hold. Widening spreads and higher yields are also likely to curtail, at least in the short-term, Australian issuers accessing the U.S. term loan market and high yield bond market.
In among the warnings and earnings revisions there have been some bright spots. We upgraded EMECO Holdings Ltd. to 'B+' from 'B' on the back of an improving financial profile. Newcrest Mining Ltd. is benefitting from strong gold prices. CSL Ltd. will boost flu vaccines and while coronavirus is not core for CSL it has adjacencies in expertise, technologies, and facilities that might contribute to the global effort to combat COVID-19. Coca-Cola Amatil Ltd. returned to growth on the back of a successful restructuring program. Meanwhile, recent rainfall has provided welcome relief to drought-affected regions and industries.
Over the next few months the focus for Australian corporates will be on dealing with the fallout from coronavirus. We are particularly vigilant on supply-chain disruption, commodity prices and their effect on resources companies and Australia's terms of trade, exchange rates and the composition of monetary and fiscal policy support. Australian consumers were already somewhat fragile before this epidemic hit and we will continue to closely monitor sentiment and its effect on consumption and saving patterns.
A Note On Coronavirus
Risks to the broader corporate sector in Australia would likely intensify if the severity and duration of the virus exceeds our current base case.
While there continues to be high uncertainty about the rate of spread and timing of the peak of the COVID-19 disease, modeling by academics with expertise in epidemiology indicates a likely range for the peak of up to June 2020. For the purpose of assessing the economic and credit implications, we assume the global outbreak will subside during the second quarter of 2020. As the situation evolves, we will update our assumptions and estimates accordingly.
Related Research
Rating Actions
- Singtel Optus Pty Ltd. Ratings Lowered To 'A-/A-2' On Parent's Weaker Credit Quality; Outlook Stable, March 5, 2020
- Virgin Australia Outlook Revised To Negative On Industry Downturn; Ratings Affirmed, Feb. 28, 2020
- Australian Prime Property Fund Retail Ratings Lowered To 'A-' On Asset Selldown; Outlook Negative, Feb. 20, 2020
- CIMIC Group 'BBB' Rating Affirmed Despite Reduced Financial Buffer; Outlook Remains Stable, Feb. 19, 2020
- Genesis Care Downgraded To 'B' On Lower Likelihood Of Parent Support; Outlook Negative, Feb. 17, 2020
- Emeco Holdings Ltd. Upgraded To 'B+' On Improving Financial Profile; Outlook Stable, Feb. 12, 2020
- Speedcast International Ltd. Downgraded To 'CCC' On Rising Liquidity Risk; Outlook Negative, Feb. 9, 2020
Bulletins
- Alumina Has Moderate Buffer To Withstand Coronavirus Outbreak, Feb. 25, 2020
- Woolworths Group Remains Resilient Amid Seasonal Conditions, Remediation Costs, Feb. 25, 2020
- Coca-Cola Amatil's Recovery Reflects Solid Strategy Execution, Feb. 19, 2020
- Orica's Exsa Acquisition Will Boost Geographic And Commodity Diversity, Feb. 18, 2020
- EG Group's Takeover Proposal Would Transform Caltex Australia, Feb. 18, 2020
- Wesfarmers Strengthens Balance Sheet With Share Sale In Coles, Feb. 18, 2020
- Lotteries Continue To Be Tabcorp's Safe Bet, Feb. 18, 2020
- Crown Sydney Is A Long-Term Play, Feb. 18, 2020
- Festive Season Buoys Coles Group Amid Subdued Outlook, Feb. 17, 2020
- Risks Rise For Woodside Petroleum As Commitment Wanes, Feb. 13, 2020
- Healthy Gold Prices Keep Cash Flowing At Newcrest , Feb 12, 2020
- Telstra To Benefit From TPG-Vodafone Merger And Restructuring Initiatives, Feb. 12, 2020
- Boral Has Limited Room For Further Underperformance, Feb. 11, 2020
Other Research
- COVID-19 Now Threatens More Damage To Asia-Pacific, March 6, 2020
This report does not constitute a rating action.
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