Profit warnings suggest a tougher 2022

1st February, 2022

Supply chain problems and increasing costs led to a spike in profit warnings in the second half of 2021, according to new data from EY. There were 203 profit warnings over the year, equivalent to 12.9% of UK listed companies; 70 of these came in the final quarter of the year suggesting times are getting harder for corporates.

The hardest-hit sector was retail in the fourth quarter with seven profit warnings from consumer-facing companies. November retail sales were strong, but footfall took a knock from the emergence of the Omicron variant and sales fell 3.7% in December. However, this shows retailers were already struggling prior to the outbreak, with the majority blaming supply chain disruption and rising costs rather than the virus.

Elsewhere, supply chain shortages also impacted companies in the aerospace and defence and personal care, drug and grocery stores sectors. These were the other two areas where profit warnings were concentrated. For the aerospace and defence sector, a difficult combination of uncertainty in core air travel markets, combined with problems accessing supplies contributed to their weakness.

While fewer companies directly cited Coronavirus, it is clear that the ripple effects from the pandemic are still having profound consequences. In particular, significant increases in demand for goods, energy, and labour on overhead costs, and on the availability of goods and employees, are hurting corporate profitability.

For investors, the question is whether these profit warnings will persist into 2022. EY says that there is a real risk that consumers and companies won’t deploy record levels of savings and cash in the face of inflationary pressures and uncertainties. This would be bad for growth and could ultimately lead to stagflation.

Supply chain problems should resolve as the impact of the pandemic ebbs. At least, that’s the theory. In reality, mounting geopolitical tensions and China’s dogged pursuit of zero Covid may disrupt supply chains all over again. In the UK, Brexit may also have an impact on trade. Across the world, higher inflation is likely to create pressures for companies.

It remains a tough environment for companies to grow profits and, as government support is withdrawn, some companies could fall into distress. Investors will need to do their due diligence carefully – there may be a significant gap between the winners and losers in the year ahead.

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