Uncertainty and financial pressures your clients should be aware of.
I think it’s fair to say it’s an uncertain and cautious business climate at present. The headwinds businesses, in particular SMEs, are facing appear to be getting stronger and more widespread. Here are some major and current business headwinds in Australia and blowing in from overseas:
- Australian Taxation Office (ATO) debt recovery action.
- Political & global environment.
- Interest rates & bank finance.
- Housing market.
- Material & labour supply increases.
- Business disputes.
- Building industry (including QBCC regulation for Queensland builders).
ATO debt recovery action
For the past two years of COVID the Australian Taxation Office (ATO) has—for the most part—been a great help to businesses and taxpayers with deferred tax collection policies and arrangements. While the ATO has made some headlines from time to time about debt recovery, the ATO haven’t really undertaken any real hardcore collection activity such as company statutory demands and winding ups, bankruptcy notices, garnishee notices, or director penalty notices (DPN).
Its activity over the COVID period has primarily been initially dealing with JobKeeper and other government assistance policies, and subsequently undertaking audits into the likes of superannuation and lodgment compliance. The upcoming Federal government election has also likely delayed the kick-off of their post-COVID collection activities.
We’re aware that in the last two months the ATO issued a number of DPNs, written to another 50,000 company directors about their obligations and possibility of a DPN for non-compliance, and contacted accountants about clients with taxation debts. We anticipate that post-Federal election (assuming a government is formed) we’ll start to see the abovementioned firmer ATO collection activities to collect the billions in deferred tax debts.
Political & global environment
Many SMEs are in a holding pattern. Not making big changes or big risks, but rather keeping things very much status quo while the current uncertainties both here and abroad play out.
Domestically, businesses are eyeballing the COVID restrictions’ tail end and the upcoming Federal government election. The pre-election budgets and announcements, are neither ground-breaking or divisive, and creates the usual uncertainty for businesses with government contracts and/or a significant income stream.
Globally, it’s the significant geopolitical tension and upheaval swirling all around the world impacting Australian businesses. The political stoush between the Chinese and Australian governments has tariffs and embargos disrupting our imports and exports and increased our vulnerability to inflated supply and shipping costs for goods coming out of China. Other global issues are the fallout from the Ukraine invasion by Russia, and ongoing reports of inflation and pressures in major economies like the US and EU.
Interest rates & bank finance
November 2010 was the last time the Reserve Bank of Australia (RBA) raised interest rates. Some leading economists suggest over 1 million residential mortgages haven’t experienced a rate rise.
Any rate increases (several speculated by the end of this year and earlier next year) will increase pressure on borrowers with variable rates to apply further household earnings/ business revenue to meet their mortgage obligations. Some loan rate offerings such as business equipment finance rates have already been on the rise over the past six months or so.
The 2019 Banking & Financial Services Royal Commission forced the banks to tighten up lending policies and procedures. COVID saw them take a quite soft approach when dealing with their financially distressed clients; and saw borrowers receive further concessions and deferred repayment arrangements. Now, the banks are attending to the mass of loan reviews deferred in 2020 and 2021. We are hearing many of these reviews are seeing the banks ask for further security, a reduction in overall debt, and in some cases a plan to be refinanced away from them.
Housing market
Everyone is talking about house prices as the home is generally a person’s or family unit’s single biggest asset. But the truth is that house prices are pervasive and have a huge impact on both business owners and consumers. Any weakening of house prices or growth delivers changes consumption habits and a negative wealth effect whereby homeowners—discouraged by lower house prices—put off spending and risk taking.
Before COVID a downturn in property prices started in most metropolitan areas. But during COVID a mini-property boom happened, much to the surprise of many experts and punters alike, however, very recently murmurs are the boom is starting to cool.
As SME businesses kick off or expand or require capital injection, financing commonly comes in the form of a guarantee and security over the business owner’s home and/or other real property. If there’s no equity in the home or properties, there’s no loan.
Material & labour supply increases
It’s no secret significant increases in material and labour supply costs are hitting businesses hard. COVID restrictions heavily impacted almost all supply chains at some point and doesn’t seem like it will alleviate for some time to come. Adverse weather events, international political tensions, and sustained demand in some industries/products, has contributed to price increases. Shipping a container may have cost $800-$1,000 pre-COVID might now be $10,000 or more at times. Building trusses increased by 30% every few months, and frequently over six months’ wait.
Significant salary increases are on offer for professional staff (accountants, lawyers, etc) willing to move jobs.
In industries where tendering is competitive, again such as the building & construction industry, we often see companies in trouble when tenders were won on the back of very slim margins to undercut the competition. As liquidator, I’ve seen several construction companies where the profit margin was in the low single figure range, for which the directors hoped for variations to beef the margin up a bit. In many instances, once the project was awarded and work underway the material prices increased to immediately turn the very slim margin into a loss. Obviously that project is now a burden, rather than an income stream. Those companies would have been far better off not doing the project.
Rarely do we walk into a business and see budgets, cash flows and accurate pricing allowing for overheads. The director can usually give a ballpark per unit costing, however, has less idea on the overheads and other financial obligations required. This often leads to tax debts accruing for GST, and also at times PAYG & superannuation, and other such obligations that are not immediately payable—inevitably snowballing into a large debt, which needs to be paid from current earnings.
Subcontractors provide the majority of labour and building work on most construction sites. Larger projects have a pyramid hierarchy of:
- The building developer at the top—often contracting all the work out.
- Businesses reporting directly to the building developer, that typically manage the site and general construction works. Frequently, they need to subcontract down part of the work.
- SME businesses supply specific labour and materials and may also sub-contract down to smaller, often one-person shows to augment their workforce.
It is these lower-level operators who are the most vulnerable as they are subject to the poor payment practices of businesses above them on the hierarchy. Any insolvency or cash-flow issues experienced flows down the pyramid, affecting all parties.
Business disputes
Business and partnership disputes appear to be on the rise. Finger pointing between business partners—about who funded this, who contributed that—often arise when directors or business partners are dealing with the stresses of financial difficulties and economic uncertainty.
This is when the underlying agreements between the parties get tested. Many business dealings may start off with a handshake or general exchange of emails. At other times, as the business dealings evolve or a project progresses, the arrangements’ direction or scope can vary from the original partnership intentions or initial contact provisions.
Of course, verbal agreements and representations are enforceable just like those in writing. However, enforcing such verbal dealings can be time consuming and expensive. When businesses hit rocky patches, they often don’t have either the time or funds for such a fight.
We see it in partnership disputes, where certain things are purportedly understood as being the arrangement but when one party doesn’t fulfil its end of the bargain the wheels fall off. We see it a lot in building & construction appointments, where the principal requests variations and additional work ‘on the go’ and not later confirmed in writing and payment is disputed. We see it where employees have friendly relationships with the directors/owners and then when things turn sour, they claim to be promised ownership of motor vehicle, extended annual leave arrangements, unpaid bonuses, etc.
Building industry (including QBCC regulation for Queensland builders)
The building & construction industry has already had many mentions in this article, however it’s an industry that straddles several sectors of our economy—from residential home ownership (and the great Aussie dream), commercial premises and offices, investment portfolios, to government infrastructure and employment policies (including using it as an economic stimulus tool).
Regulation of the building & construction industry is primarily governed by the state governments, and as such the laws and regulations vary depending on where the builder is located and undertakes work.
In Queensland (Qld) for example, a raft of new laws rolled out since 2019 which the Qld state government say are intended to enable the Queensland Building and Construction Commission (QBCC) to more promptly and effectively detect and minimise the impact of potential insolvencies and corporate collapses. Other states have, or are introducing, similar type reforms.
The Qld changes saw the re-introduction of mandatory annual reporting for almost all categories of building licences. It also requires builders to maintain minimum financial requirements (MFR) for the category/band of licence held. Not only has this caused many accountants a headache helping their client (not just because of the 31 December reporting deadline) but also the more stringent treatment of assets and liabilities when reporting financial performance. Deferred debts accumulating (such as taxation and landlord liabilities) over the COVID period may now see many builders fall foul of their licence provisions.
Another major change for Qld is ‘project trust accounts’ whereby a builder who subcontracts work must receive their payments from principals/developers/superior contractors into a trust-style account for each contract/project. From that trust account all subcontractors of that builder must be paid, and essentially only after all subcontractors are paid in full can the builder access its share of the payment. Practically the builder will have to be much more focused and diligent with their cash flow. Potentially it will cause a massive and swift impact on building business when payments delays or disputes involving subcontractors occur.
These laws attempt to address the power and financial imbalances within the earlier mentioned pyramid hierarchy often seen in the building & construction industry. It’s probably up for debate as to whether these changes will stamp out those financial failures or whether it’s just another layer of compliance that will add further to the operating costs in an already tightly-strung industry, and possible national slowdown on the horizon.
The teams at Worrells are here to help. We talk to businesses and individuals every day as complimentary to assess financial challenges and to empower clarity and options to move out of the mess of stress.
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