Profit warnings reach highest first half total since 2011, reveals EY

28 July 2014

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  • 137 warnings in the first six months of 2014 - the highest first half total since 2011
  • High level of competition, margin pressure and currency headwinds dent profit expectations
  • 19% of profit warnings cited competitive or pricing pressures in the first half of 2014, compared with 7% in 2013 
  • Adverse currency movements triggered over a fifth of profit warnings in the first half of 2014 compared with just 3% in 2013

The recovery continues to gather pace, but intense competition, pricing pressure and currency headwinds are still denting expectations, taking UK profit warnings to their highest second quarter total for three years.

UK quoted companies issued 137 warnings in the first six months of 2014, up 9% on the same period of last year and the highest first half total since 2011, according to EY’s latest Profit Warnings report.

There were 63 profit warnings in Q2 2014, nine more than the same quarter of 2013, but down by 11 when compared with the previous quarter.

Pricing and competitive pressures are clearly affecting businesses in 2014. In the first half of the year, 19% of profit warnings cited competitive or pricing pressures, compared with 7% in 2013. Adverse currency movements triggered over a fifth of profit warnings in the first half of 2014, compared with just 3% last year.

Consumer goods manufacturers in particular find themselves in the crossfire of pricing, currency and competitive pressures. The percentage of companies warning in FTSE Consumer Goods sectors has almost doubled, from 9% in the first half of 2013 to 16% over the same period this year.

The percentage of companies issuing profit warnings also rose year-on-year from 3.8% in Q2 2013 to 4.4% in Q2 2014.

FTSE sectors issuing the highest number of profit warnings in Q2 2014 were Support Services (7), Software & Computer Services (7), Household Goods (4) and Electronic & Electrical Equipment (4).
UK plc buoyed by growth but hits headwinds

Keith McGregor, EY’s Capital Transformation Leader for Europe, Middle East, India and Africa, says, “For UK plc, the improvement in domestic demand has been a welcome fillip and this growth rests on a broader base than 2013, encompassing a rise in investment as well as consumption. However, translating this into profitable growth remains more problematic. 

“The pounds rapid rise is one of the biggest pressures on earnings. Although, the problem highlighted in profit warnings isn’t one of sales but of currency translation. Recent history shows that UK exports are relatively insensitive to currency effects. However, the pound’s leap to multi-year highs has caught out a number of companies who translate foreign earnings back into pounds.”

Continuing, he adds, “Price and competition pressures have also intensified.  While the recovery has boosted demand, it hasn’t eradicated the austerity mind-set of businesses or consumers.   Moreover, the low level of insolvencies means companies are competing in packed and competitive market place, lowering the normal level of returns.”

Retailers issue record low warnings

Drilling down into sectors, UK retailers continue to issue an unusually low level of profit warnings.  FTSE General Retailers and FTSE Food & Drug Retailers together issued just issued just nine warnings in the first half six months of 2014. Profit warnings from General Retailers equalled the record first half low set in 2013 and 2002.  However, the total percentage of retailers warning in the first half of 2014 is actually much smaller at 8%, against 16% in the same period of 2013. A smaller number of companies issued profit warnings in H1 2014 - six compared to nine in 2013 – while the quoted retail sector has grown by 25% in the last year.

Alan Hudson, EY’s head of restructuring for UK & Ireland, comments, “The FTSE General Retailers sector has already undergone a deep level of restructuring in response to relentless competition and structural change. This pace isn’t letting up and the grocery sector looks set to face the next round. The consumers’ shift to online, convenience and, above all, value-based shopping is rapidly reshaping food retail.”

Value-based retailers shape price agenda

Ultimately, discount grocers don’t have the footprint required to mount a serious head-to-head challenge against the major supermarkets. However, they are setting the price agenda and rapidly capturing precious share in a tight market. 

Hudson adds, “Competitive pressures look set to reach a new level of intensity, with further implications for suppliers already stretched by tough conditions in developed and emerging markets. However, the major food retailers cannot squeeze their suppliers indefinitely without consequences for quality and supply. They must focus strategy beyond just price, on areas where they can compete - like range, service and convenience.”

Future path for retailers

It is only by operating at their full potential, remaining in tune with consumer behaviour and leveraging their advantages that retailers will be able to benefit from the upturn in consumer spending and meet the challenges that lay head.

Hudson says that companies should be looking to take operational measures to get ready for growth and ensure their businesses are flexible enough to face the future. 

“Physical retailers will undoubtedly need to reshape their footprint to meet these demands. However, the store is by no means dead. It still offers advantages for retailers to leverage from the need for immediate gratification to the creation of a brand experience and the ability to provide a seamless multi-channel offering.”

New dawn for monetary policy clouds the future

Concluding, McGregor said, “It could be another year of two halves. Perhaps not with the same drama as last year with the effects of tapering in the US or a mid-summer Eurozone crisis, but the second half of 2014 will pose a few more challenges than the first.  Central bank actions have helped to quash volatility, pushing asset prices to pre-crisis highs. However, the countdown to a new monetary era will bring new tests and greater volatility as markets begin to re-price risk.

“With the countdown to a new era in monetary policy beginning in earnest and the potential for more volatile markets, companies need to think carefully about their capital needs and allocations. Low growth in international markets and low inflation will also pose significant challenges. Operational and financial fitness are vital to ensure companies make the most of any top line growth and attract investment.  M&A provides the other obvious answer to the growth conundrum. We expect deal volumes to stabilise after several years of decline, with the potential for a modest increase. However, we will continue to see higher value driving sentiment in M&A across all sectors.”