ICAEW Business Confidence Monitor (BCM): Scotland
Q2 2021: Business confidence rises as lockdown starts to ease in Scotland
- Scottish companies have endured a difficult past year, with domestic sales declining and almost no export growth.
- Falls in sales have pushed down profits and employment levels have been cut.
- Businesses have restricted their investment spending, with Research and Development (R&D) declining at the joint fastest rate across the UK.
- Regulatory requirements and transport problems are among the most widespread growing challenges for businesses.
- However, Scotland’s Business Confidence Index has risen markedly in Q2 2021 and stands at its highest level in almost seven years.
- Underpinning this is the expectation of sharp rises in domestic sales and exports.
- As sales pick up, businesses plan to start hiring again, while investment rates should also return to more familiar territory over the next year.
As elsewhere in the UK, confidence among Scottish companies has risen markedly in Q2 2021, standing at +29.4. Although slightly below the UK average, Scotland’s Business Confidence Index is at its highest level since the second quarter of 2014. Sentiment is likely to have been buoyed by the pace of vaccine distributions and consequent expectations of a recovery in economic activity in 2021 and into 2022.
Domestic sales and exports growth
The strength of confidence relates to companies’ expectations about the year ahead. Scottish businesses, like those everywhere, have faced significant difficulties in domestic markets over the past year, with coronavirus containment measures depressing demand. Indeed, domestic sales are 1.0% below their level from a year ago. Export performance has fared slightly better. Scotland is only one of two parts of the UK, along with the East of England, where businesses recorded a year-on-year increase in exports, albeit only very marginally at 0.2%. This is still considerably weaker than the historical average growth rate of 3.1%.
Reflecting the weak demand environment of the last year, Scottish companies have reduced their employee numbers by 0.7%, broadly in line with the UK. However, this fall in employment is modest when compared to the contractions seen during the global financial crisis, when the decline reached nearly 3.0%. Clearly the furlough scheme has been crucial in cushioning the fall in employee numbers during the pandemic.
Profits growth, input prices and labour costs
Mirroring domestic sales performance, profits sunk by 1.0% in the year to Q2 2021. Although the decline in profits would probably have been more severe if not for a reduction in labour costs due to cuts to staff levels, and a slight fall in average total salaries of 0.2%. The pace of annual input price inflation has also eased for Scottish businesses, slowing from 1.8% in Q2 2020 to 0.8% in Q2 2021.
Given the financial pressures that businesses have faced over the past year, investment rates have been muted. Capital investment in Q2 is only 0.5% above its level from the year before. Research & Development (R&D) budgets have been cut at the joint fastest rate across the UK, along with the West Midlands.
Considerable uncertainty remains, not least because the pandemic continues unabated in many parts of the world. Scottish companies report a range of growing challenges, headed by regulatory requirements, possibly partly reflecting Brexit difficulties as well as COVID-related restrictions. These factors could also explain why 22% of businesses cite their ability to expand into new areas as a more pressing issue, compared to just 9% a year ago.
Transport problems, which until the pandemic were only a minor concern among businesses in Scotland, now rank as the third most cited challenge, with 27% of businesses reporting rising difficulties in Q2 2021. Shortages of road-freight and air-freight capacity due to COVID-19 restrictions are likely to be hampering some businesses. Delays at ports because of new customs and regulatory processes following Brexit are another possible explanation.
Prospects for the next 12 months
As we noted above, the sharp improvement in confidence across Scottish businesses is largely underpinned by expectations of a strong rebound in economic growth, as infections subside and restrictions are relaxed. While there are still major uncertainties to this outlook, businesses are bullish in their export growth projections. Scottish companies anticipate the fastest rise in exports, 5.4% year-on-year, across all of the UK. Domestic sales are also expected to expand by 7.7% in the year to Q2 2022, which, if achieved, would be the fastest growth rate in Scotland since the survey began.
In response to the forecast upswing in sales, businesses also plan to start hiring again. Employee numbers are set to increase by 3.5%, the strongest outlook across the UK. A rebound in sales should also help drive profits growth of 7.0%.
It is possible that some businesses will face capacity constraints as they try to meet this surge in demand. This, coupled with higher profits, should push companies to increase their investment spending at much faster rates than the last 12 months. Currently, businesses plan to increase capital investment by 2.6%, while R&D budgets are expected to be 2.3% higher by Q2 2022.