New restrictions
On 3 August 2020, in light of the continued high daily counts of new positive COVID-19 cases, the government of Victoria took the difficult decision to move to Stage 4 restrictions across greater Melbourne and Stage 3 restrictions for the rest of the state. What does it mean?
- Essential retail services can continue to operate. These include supermarkets, grocery stores, pharmacies, petrol stations, banks, newsagents and post offices;
- Other retail, certain manufacturing sites and services businesses will generally be required to shut down for the next six weeks, with certain very limited exceptions;
- Essential industries supporting the broader economy will be allowed to operate under severe restrictions. For example, the meat industry and warehousing & distribution centres can remain open but with no more than two thirds of the normal workforce;
- The construction sector will be allowed to continue with a very skeleton workforce (no more than 25% of the normal workforce onsite) and small scale construction will not be able to operate with more than five people on site.
In order to support many businesses that are likely to suffer significant losses as a result of the new restrictions, the Victorian government has announced new grants of up to AUD5,000 for regional Victoria and AUD10,000 for greater Melbourne. In parallel, the Commonwealth Government announced the introduction of a pandemic leave disaster payment of AUD1,500 to support people who are required to self-isolate and no longer have access to sick leave or other forms of support. At a high level, the State of Victoria has moved to restrictions that are similar to those introduced in New Zealand in late March 2020 which have broadly eradicated the spread of COVID-19, with only 80 new cases over the past three months.
What does it mean for the broader economy?
Early indications are that the new measures will have a material impact on the Victorian economy and, by extension, on the broader Australian economy since Victoria generates about 25% of Australia’s gross domestic product (GDP). Premier Andrews estimated that the new restrictions will mean about 1m Victorians will no longer be able to move around the state to work and early estimates point to up to 250,000 jobs will be lost as a result of this announcement.
The near term impact, while difficult to immediately quantify, will be real and profound, with an expectation that many small and medium size enterprises will not be able to survive this second round of lock downs in the state. This is largely because many businesses have already been significantly impacted by the first lock down and only survived thanks to the multiple support measures implemented by the Commonwealth and State governments. Further, we believe that many businesses that elected during the first lock down to continue operating while relying on support programmes (but do so at a potential loss) will be more likely to shut down altogether. While the rate at which companies are currently entering voluntary administration is at a two-year low (see Figure 1 above), this is primarily a reflection of the support measures effectively delaying, in many cases, the inevitable. While this trend may continue in the near term, we ultimately expect the long-term impact to materialise over the foreseeable future.
And what about for specific issuers?
It is still very early days as many businesses are simply digesting yesterday’s announcement and navigating through the restrictions and exemptions. As such, our assessment below is based on our understanding of the dynamic at play. In simple terms, we believe companies will fall into one of four categories:
- Victoria-focused businesses that can still operate;
- Victoria-focused businesses which have to materially reduce operations and temporarily close down;
- Nationwide businesses providing essential services;
- Other nationwide businesses.
Companies in the third category above are likely to perform best since they should be able to continue operating normally in both Victoria and the rest of the country. Other nationwide businesses should also fare relatively well (all things considered) given operations in the rest of the country should support any temporary slowdown in Victoria, noting Victoria remains a very substantial market for many. Victorian businesses on the other hand will see significant disruption. Below, we look at a number of companies we are following and provide our initial thoughts.
- Ansett Aviation Training (AAT): Until recently, AAT was starting to see some pick-up in activity but, as the company operates a significant number of simulators in Melbourne, it is likely that activity will slow down again as a result of the most recent restrictions. We note that AAT is providing activity supporting mandatory pilot trainings across Australia which may allow AAT to maintain some level of service. We view the new Victorian restrictions as a setback in revenue and earnings recovery.
- Australian general insurers (QBE, IAG, Suncorp): We do not view the latest developments in Victoria as materially increasing risks for general insurers. The growing pressure on many Victorian businesses will likely result in an increase in claims on trade credit policies but losses on the property and casualty segments are unlikely to differ from current national trends. The sector remains however supported by its strong capital position.
- Australian major banks (ANZ, CBA, NAB, Westpac): Similar to the general insurance sector, the major banks are still demonstrating a strong capital position which will support the likely increase in loss provisions over the near term due to the increased pressure in Victoria. The recent announcement by the Australian banking regulator, APRA, to temper near term distributions to shareholders, should provide support to the banks’ capital position.
- Australian mining & resources companies: We expect minimal additional pressure for the tougher Victorian restrictions given the limited activity in the State.
- Australian regional banks: Being more focused on certain parts of the country, we expect the performance of regional banks to be more closely correlated to their geographical footprint, with Bendigo & Adelaide, given its greater Victorian focus, likely to be more impacted than the likes of Bank of Queensland or Suncorp (greater Queensland weight).
- CML: After experiencing strong growth in June and July as restrictions were eased around the country, we expect the tightening of restrictions in Victoria will initially result in a slowdown in activity in that state rather than a sudden drastic increase in losses given a short repayment period for receivables (mostly receivables finance, which is typically utilised in line with sales volumes). Any increase in credit losses should be covered by trade insurance, which covers ~90% of receivables.
- Eric Insurance: The Company will be directly affected as it is based in Victoria and will likely be required to shut down, noting employees had been mainly working from home already. Further, the shutdown of car dealerships will materially impact car sales in Victoria and as a consequence new premiums in the state are likely to be materially depressed. This should however be compensated by lower claims in the state as less people are on the road.
- Genworth Financial Mortgage: Genworth recently reported its 1H20 results, confirming its continued strong capital position. Victoria currently represents about 23% of total policies, a similar level to Queensland and behind New South Wales (27%). Interestingly, up to now, Victoria’s delinquency rates are trailing the other two states, at 0.46% against 0.51% in NSW and 0.78% in Queensland. It is likely these rates will increase in Victoria, but we would also expect primary mortgage lenders to continue extending assistance to Victorian borrowers, which should limit near term claims.
- Liberty Financial: Liberty is strongly capitalised and is well-positioned to absorb a possible increase in hardship requests and increased provisions, with Victoria representing a third of loans for Liberty (more than 90% of loans are mortgages to households—owner-occupiers and investors). The majority of borrowers are ahead of schedule on their repayments.
- Lucas Total Contract Solutions: Lucas has limited operations currently in Victoria, which means we expect limited impact from the current increased restrictions in the State.
- Maurice Blackburn: While Maurice Blackburn’s head office is located in Melbourne, the Company implemented extensive remote working arrangements during the first lock down. As such, while it is likely that the company will be required to shut down its Victorian offices, we expect manageable impact on the overall business.
- Moneytech: While Moneytech operates all across Australia, its receivables have some level of concentration in Victoria, with the state accounting for about 40% of total receivables. While the latest restrictions will likely affect a number of Moneytech’s customers, we believe the latest setbacks in the State will likely result in a slowdown in activity in that state rather than a sudden drastic increase in losses given the short repayment period. In any event, Moneytech will be able to rely on the trade credit insurance policy it has to support potential credit losses.
- Next Generation Australia: Next Gen does not currently have any operating clubs in Victoria so the immediate impact should be relatively limited. However, we expect the construction of the new Doncaster club to be affected and it is unclear if construction activities will be able to continue (at a significant reduced pace) or will have to stop altogether. In any event, we would expect the Stage 4 lockdown will result in a further delay to the construction completion but the delay should be matched by a delay in the cash outflows to cover construction costs.
- Ovato: It is unclear at this stage what impact the latest restrictions will have on Ovato. If we take the New Zealand example, Ovato was required to shut down its operations there so the same could apply in Victoria. The extent to which activities in the rest of the country can offset any further weakness in Victoria will depend on restrictions to be applied in that state.
- Privium: Privium’s operations in Victoria are substantial, and represent about 30% to 40% of sales (based on recent activity and current projects). While it is unclear at this stage if construction activities will be able to continue (at a much reduced rate), it is likely that activity will nevertheless slow down significantly. We note that the Company is currently in the process of seeking consent from noteholders to amend certain terms of the Notes to accommodate the uncertain near term earnings trajectory and we believe the likely slowdown in Victoria can be accommodated within these revised terms.
- SCT Logistics: As a significant portion of SCT Logistics’ operations involves the transport of food and beverage, we expect SCT to continue being classified as an essential service and therefore operate broadly unaffected. It is likely that the slowdown in construction activities in Victoria will see a drop of volume for construction materials but the rest of the country should otherwise not be materially affected.