The last five days have been stressful for Australian fund managers with Britain both voting to withdraw from the European Union and England handing the Wallabies an ignominious series defeat. These two factors have wiped A$42 billion off the market capitalisation of the ASX. Whilst fear and uncertainty have dominated the animal spirits of the market, it is hard to make the case that Brexit is another GFC for Australian equities and indeed that a recession in the United Kingdom will have a dramatic impact on the profits of Australian listed companies.
In this week’s piece we are going to look at the actual profits earned by ASX 200 companies in the United Kingdom and the quantum that is actually at risk.
Past Precedent
The events of last Friday surprised many in the market, but it is unlikely to represent the a doomsday scenario for the UK economy, in my opinion the impact will be closer to that of Britain’s withdrawal from the European Exchange Rate Mechanism (ERM) in 1992, which fixed the GBP against the European Currency Unit (ECU), the precursor to the Euro. In September 1992 the GBP initially fell against the Deutsch Mark and USD along with the FTSE 100 index and despite tough talk at the time there was ultimately little impact on UK’s trade with the EU. Additionally big export orientated companies such as Diageo, Rolls-Royce, British American Tobacco and Unilever saw solid profit and sales growth in 1993 from a falling GBP. The ASX200 gained 34% in the year following Britain’s withdrawal from the ERM; though this driven by domestic banks recovering from a property collapse in 1991, rather than positive influences from Europe.
Australian Profits coming from the UK
In 2015, the 200 companies that comprise the ASX 200 delivered a net operating profit after tax of A$104 billion and of this A$2.4 billion, or 2.4% was derived from operations or exports to the UK. To put this in context, the fall in value of the ASX 200 from Friday 24th to Wednesday 29th was almost 18 times the entire profits earned in the UK by large Australian listed companies last year.
UK Exposure by Company
The below table looks at the top fifteen companies in the ASX 200 exposed to the UK and is ranked by their UK sourced profits. Undeniably these companies will face a hit on the translation of the A$2.4 billion of profit sourced from the UK, as the GBP has fallen by 11% against the AUD so far in 2016.
In the final column “Will Brexit impact profits’’ we have looked at the goods and services actually supplied to the UK by these companies and the impact on demand from the political decision made last Thursday. We see that it is hard to make the case that the entirety of this profit is actually at risk.
The withdrawal from the European Union and the potential for the UK to fall into a recession will likely impact the ASX-listed companies providing financial services, construction and travel the hardest. Fund managers BT and Henderson are likely to see outflows and increased costs and the NAB spin-off CYBG should see lower loan growth and higher bad debts. Increased barriers to travel and a lower GBP will clearly impact outbound travel from the UK, and thus Flight Centre’s profits.
For a range of ASX-listed companies with operations in the UK; the impact of withdrawal from the European Union on profits is a little less clear. A recession in the UK will impact sales at Westfield’s two malls, though the flagship £3.3 billion London mall is fully-leased, is the premier mall in the country and a lower GBP will boost incoming tourism and offset declining domestic retail sales. Similarly the impact of Brexit on share registry activity at Computershare is likely to result in fewer IPOs and takeovers initially, but this may be offset by increased regulation that increases share registry activity.
Finally, in the case of Australian companies providing healthcare services such as Sonic Healthcare, Ramsay and CSL, UK’s withdrawal from the European Union may not have a great impact. Whilst this statistic is disputed, of the £350 million a week that was sent to the EU, a specific proposal by the Vote Leave campaign was to spend £100 million a week of that on the NHS (National Health Service). Additional healthcare spending is unlikely to have a negative impact on the providers of pathology, hospital beds and biotherapies that treat autoimmune diseases.
What about the rest of the ASX
Looking across the rest of the ASX200, there are a range of companies who have been sold down on the news of Britain voting to withdraw from the European Union, but should see minimal impact on their profits from this political decision made on the other side of the world. Aside from negative sentiment, this decision will have minimal impact on Commonwealth Bank’s profits, indeed if we a cut to the RBA cash rate to 1.5% by the end of the year, falling mortgage rates will improve the Australian consumer’s ability to service their debts and thus CBA’s bad debt charge.
Our Take
For all the doom and gloom in the press and the markets over the past week, we see that the actual impact on Australian profit and dividends paid to shareholders will be quite minimal. Additionally, whilst Chancellor Merkel and European Council President Tusk have talked tough, warning that there will be “consequences for Britain’’, it will hardly be in Germany or Europe’s interests to erect significant trade barriers between them and the fifth largest economy in the world. In 2015 Germany enjoyed a trade balance surplus (exports minus imports) of almost €51 billion with the UK, placing it in second position just behind the United States and ahead of France. Indeed total export volumes to the UK account for nearly three percent of German GDP!
Hugh Dive Senior Portfolio Manager
