As we head into earnings season, global markets are bracing for the impact of Coronavirus (COVID-19) on company results. In the nearly 20 years since SARS, China’s importance in the global economy has grown exponentially and today contributes more than 30% of global growth - greater than from the U.S., Europe, and Japan combined.
In the process, China has evolved into an essential part of the global supply chain - which means that the epidemic today is a substantially more potent threat to company fortunes around the world (China alone accounts for 18% of global GDP). This week, the most significant of the epidemic-driven warnings emerged with Apple saying it will not meet its March revenue guidance. Also this week, the UK’s Financial Reporting Council (FRC) published guidance for companies on the disclosure of risks and other consequences from the spread of the Coronavirus.
To help companies better prepare for upcoming results announcements and manage market expectations, Brunswick’s Insight and Investor Engagement teams analysed the transcripts of 1,954* companies reporting across global sectors between January 22 through February 22,2020 and interviewed analysts and investors in Asia, Europe and the U.S..
We discuss our findings and recommendations for how to approach earnings below.
WHAT DID WE FIND OUT?
Already by mid-February, Coronavirus was a major part of companies’ prepared earnings statements. Of the companies that reported results globally, around 33% mentioned the epidemic in their earnings calls. That percentage was higher in the Industrials, Materials, Health Care, IT, and Retail and Consumer sectors.
In the Consumer sector*, which has felt the immediate impact of the epidemic as shopping streets empty, stores shutter and consumers in Greater China stay away, nearly 55% of companies used prepared remarks to address the impact of the virus. Companies for which the Chinese market is particularly significant, or which employ staff in mainland China, used earnings calls to highlight the measures they have taken to ensure the safety of their staff and colleagues and to address any consequential staff shortages and production delays.
Other companies have adopted a vague approach to discussing the impact of the outbreak, remarking only that they are closely monitoring the situation, acknowledging that it is premature to assess the long-term impact of the outbreak, and explaining that it is not possible to forecast its duration.
Investors are hungry for details. As the chart below indicates, our study found that follow-up questions about the Coronavirus made up 61% of the subsequent earnings Q&A for Consumer companies. Unsurprisingly, the questions focused on the impact on business operations and resilience, including disruption to trading links and supply chain, cost management, and projected route to recovery.
OUR RECOMMENDATIONS
As companies prepare for upcoming earnings calls in the context of this uncertain and fast-moving situation, we recommend the following principles to guide your market interaction:
Be as transparent as you can
Analysts are modeling the effects of the Coronavirus, so communicate with the market as openly as possible. “It’s an external event that we’re all aware of,” says one sell-side analyst, “be honest with us.” If a company knows that the effect from the virus is likely to lead to a material impact, it should update the market sooner rather than later. By law in the UK, companies are required to disclose principal risks to their business. It is possible to signal impact without quantifying the guidance – for example, comparing trajectory before the virus situation, level of demand compared to this time last year, or how things might improve if the situation gets better. Best practice is to inform the market as soon as possible with an informed comment, even if it’s to say: “We know that we’re not going to know for two weeks.”
Don’t try to hide bad news
The worst-case scenario, according to an investor, is that the markets misunderstand a company’s exposure to the virus and the financial impact comes as a surprise: “Honesty’s always appreciated - no one wants a big surprise on results day.” Heading toward earnings, the key aim of communications is to convey that you are a quality company that’s proactively managing the situation and will not try to delay the inevitable.
This is a leadership issue
How well or badly a company manages the Coronavirus and communicates with key stakeholders will ultimately be regarded as a test of management. Be open, accessible, and honest, and use the opportunity to remind investors and analysts of your long-term strategy and how you are positioned to weather any short-term volatilities. We recommend the CEO address the impact of the epidemic up front during the prepared remarks and close to the financials, as the audience will ultimately try to assess the financial impact on the business. He or she should go the extra mile in explaining what plans have been implemented and how the company plans to react if consequences from the virus become prolonged.
LIKELY QUESTIONS FOR COMPANIES WITH EXPOSURE TO CHINA
Supply Chain:
• What is the impact from Coronavirus on your supply chain?
• At what point will you be able to update the market on the financial impact?
• Can you also update us on any precautions or buffers built into your supply chain to help manage potential disruption?
Guidance:
• Can you share your guidance excluding any Coronavirus issues so we can gauge the baseline of the underlying business?
• We understand it's impossible to quantify the full-year impact. Can you provide some colour on what impact you are seeing since the start of the year? Even if it is simply anecdotal, it is still helpful.
• Can you share with us more details about how you can manage cost impacts from staffing or supply chain partners?
Business Impact:
• Do you expect to adjust mid or long-term strategy, operationally or financially to absorb the short-term impact from the virus?
• If we assume this Coronavirus situation is short-lived, just like what happened to 2003 from SARS, should we be expecting a V-shaped recovery or U-shaped recovery?
• If the situation continues for the remainder of the year, what are some of the alternatives you can consider to mitigate the impact from this disruption?
* Time period covered: 22 January to 11 February 2020
* Total Consumer sector coronavirus mentions: n=111