Global volatility, energy shocks and business resilience

Garreth Hanley:
This is With Interest, a business, finance, and accounting news podcast, brought to you by CPA Australia.

Elinor Kasapidis:
Welcome to CPA Australia's With Interest Podcast. I'm Elinor Kasapidis, and today we're diving into the new rules of resilience, reflecting on the current geopolitical tensions globally. Joining me today are Gavan Ord, our business investment and international lead, and Patrick Viljoen, ESG lead, who are experts in these spaces and work in our policy and advocacy team. Welcome to With Interest, Gavan and Patrick.

Gavan Ord:
Thanks, Elinor.

Patrick Viljoen:
Thanks, Elinor.

Elinor Kasapidis:
Let's dive into it. We are, as we call it, in dire straits at the moment. We have many structural challenges and barriers we are seeing in this current crisis, including energy security, trade-in primary resources, and food supply. Patrick, from your perspective, what are you seeing from this most recent conflict?

Patrick Viljoen:
Yeah, look, I think in terms of just a starting point, obviously we've seen an acute disruption in terms of oil supply coming through the strait of Hormuz. And it's also highlighted a couple of issues for us. So our global dependence on external oil into Australia, but to make it clear, it's not only Australia that's impacted. It's an issue across ASEAN and APAC more broadly as well. So there's a couple of things in there.

Obviously, we've seen the spike in terms of oil prices, which then obviously drives up costs, not only in terms of the cost of oil, but I think it's also important for us to point in terms of third and second order kind of impact, in terms of food security. So if there's no diesel coming into the country from an agricultural perspective, that makes it really, really difficult. And that will trickle down to consumers over duration and time in terms of the prices we need to pay.

So look, there's no clear resolution at the moment in terms of when it will be opened up again, but also important to point out that even if it does, this is not opening up the gates tomorrow and everything returns to normal. We'll see that staggered kind of impact over duration and time. So I think it's a much longer term problem than we give it credit for at this point.

Gavan Ord:
And from my perspective, I think what's happened is it just shows or just reminded us how important oil is to the global economy. So we'll talk more about net-zero and issues surrounding that, but it just shows how critical oil is to the global economy, not just as a source of energy, but it's also a key ingredient in fertiliser and in plastics. And we've got members telling us that farmers are now worried about whether they should plant some crops just because of the price of fertiliser going up because of oil supply issues and also building costs are spiking. So PVC piping's becoming much more expensive. I've heard 30, 40% more expensive. So I think it's just reinforced how critically important oil remains to the global economy.

Patrick Viljoen:
Yeah. And also maybe just to elaborate a little bit on that point, we are not talking about one single component here. So it's not only about oil, it's actually about what it's broken down into in terms of the uses. So in Melbourne, we know petrol prices are sky-high at the minute. We've been told to use public transport. And yeah, sure, that's got a positive impact in terms of carbon emissions if we use a tram or whatever, but that's actually not the key issue.

So if we think again about agri, if you've got these knock-on impacts in terms of fertiliser, for example, you might actually end up in a situation where you miss a planting period or season. And then even if you do have a situation of those crops being harvested or you've got livestock or whatever, I think we need to be very clear that how do you get livestock and fruits and vegetables into the markets that needs transportation.

Those are predominantly trucks. Trucks run on diesel. And then we are not even talking about the aviation sector, which basically runs on kerosene. So there's broad impacts in terms of different kind of players within the market, in terms of what the impacts on them would be, and it's not going to be homogenous across the board. So we'll dive into business resilience in a minute, but I just think we need to be very clear that it's not going to be a one solution fits all. We'll need to go back to what industry is impacted, how are they impacted, and what practical steps they can take to actually safeguard themselves in the short to medium term.

Elinor Kasapidis:
And both of your commentary really unpacks the lean, globally connected supply chains. We might get to the supermarket shelf and buy a sausage or an apple or some instant noodles, but we don't always think about all of the different components that go into bringing it to us, and we just see the price rise. Has this crisis highlighted that there's not enough fat in the system? We talk about stockpiles of fuel or stockpiles even of wheat and grains so that if a farming or a planting season is skipped, there's enough to get through the year. What do you see as being important for both public and private stakeholders, and sectors to consider, and how do they absorb these shocks and adapt to them?

Patrick Viljoen:
I think first and foremost, we need to think about the fact that any kind of storage that you do comes at a cost, and we need to be very clear about that. So if we're stockpiling oil or we're stockpiling, say for example, grain, holding those kind of reserves somewhere comes at a particular cost. The second issue in that for me is we usually plan all these kind of fat that we build into the system around normal kind of circumstances.

So if we know that we're more susceptible to drought, that means stockpiling of grain would become more important for things like the production of bread. Now, I know that's a very simple kind of analogy, but it's the way it works. The issue is what we are seeing with the war in Iran is actually a Black Swan event. So this is not something that can be planned.

It's not something that can be anticipated. I think in terms of broader kind of environmental scans and scenario analysis, and these are tools that our members actually do possess in terms of looking at what potentially could happen in the future, it does place us in a very awkward position because how do you plan for disaster? How do you actually hedge yourself for disaster? And there are tools in the market and in terms of insurance or how much of that you seed away.

But the issue is, I think if you look globally, a lot of countries were woefully unprepared in terms of how this would actually pan out for them. Is that an indictment on the government? Probably not, given the fact that governments plan under normal circumstances and not for Black Swan kind of events. But even for businesses, it means actively looking forward into the future.

So if you are doing scenario analysis and you think of that as a set and forget kind of exercise that you do once every four years, you're probably going to be woefully under-prepared for when these kind of things happen. Again, it comes at a cost. So insurance costs, all these kind of things are sometimes hard to justify to Boards because they do come at a high premium, particularly if you're looking at trying to hedge against unforeseen events.

Business as usual, that's a little bit different, right? But it's justifying that cost in terms of, and I'm not saying go back to your Board and say, oh, this is what happened in Iran. See, we should have taken out insurance contracts. Nobody could have foreseen that would happen, but it is thinking a bit more strategically, looking into the future and making sure that the tools that finance teams have are utilised in terms of anticipating what's going to happen. Potentially. Look, it's not a crystal ball, nobody knows, but it's casting your mind forward, looking for those kind of things that potentially could happen.

Gavan Ord:
I'd just say, I think, I really liked this question because since the second World War we've spoken about just in time, running businesses lean, which means there's very little capacity to deal with a global crisis like this. And I just thought it was a really good question that maybe have we got ourselves into this situation by actually promoting being overly lean and overly focusing on just in time.

And then we sort of respond to these situations by looking to government to try and get ourselves out of it. And maybe there is a little bit more that businesses can do to build in a little bit more fat. But as Patrick said, that's very hard to justify to boards that we have to plan for a global oil shock. Yeah, last time it happened was in the 70s.

So you're talking about a 50 to 60 year gap between oil shocks. So global pandemics once in a century, so you can over plan. But I think the normal shocks that come through the system such as a drought or something like that is a little bit more foreseeable and maybe we should have a little bit more fat in the system to help the business sector cope with these issues.

Elinor Kasapidis:
The Black Swans do seem to be breeding. And the point is really right about when you turn to government to carry things through where they haven't got the fat in the system to be able to, especially to satisfy short-term investor expectations, perhaps there are businesses that are over-leveraged or their marketing or pricing strategies are very dependent on a certain set of circumstances that are then disrupted. You mentioned insurance as well.

There's insurance and that can be very expensive and premiums are getting higher. So how do we evolve this conversation? So where is the fair balance perhaps or the right balance between having these lean efficient supply chains that maximise investor returns while maintaining sustainability of the balance sheet, for example, for the future, going to government as the first call rather than the last resort in situations like this. And that burdens future taxpayers as well. It creates an inability for reform and change in nation-building activities. How do we approach this going forward? What do we learn?

Patrick Viljoen:
I think first and foremost, it's looking at risk management and realising that if we look at risks more broadly, so whether that's sustainability risks, whether that's cyber, whether that's AI, I say risks, you also need to view the opportunities, right? It's actually two sides of the same coin. But if we're looking at the broader kind of risks that organisations and governments are facing, if you are still thinking about risks in a linear fashion in as much as risk A, step one, two, three, risk gone, that doesn't work anymore.

So a lot of these risks are actually interrelated. So if you think about climate, for example, climate has got impact on nature. Nature's got impact on food security. Food security has got impact on pricing. So we need to start thinking about risk, I think a bit more different in terms of thinking it in an integrated fashion.

So if we think about CPA Australia, for example, we're a very firm proponent of integrated reporting. Now that's only the reporting side of things, but that's underpinned by holistic systems or integrated thinking, which means you need to view it more broadly. And I know it's going to place more difficulty on boards to move into that space of a lot of these problems are going to be pernicious.

They're going to be very difficult to solve. They're going to be quite complex, but it's learning to lean into complexity and understanding that linear approaches will not necessarily work into the future. So that's a completely new... I say new, but a lot of people are already in that space, but for some boards, they'll need to flex into that uncomfortable space of needing to deal with that. On the back of that, once you've got that risk kind of approach, then it becomes an issue of how do you mitigate the risk.

And for some things, it could be a complex problem, or as we refer to it in the sustainability space, a wicked problem. It could also be an impossible problem. And then you need to live with that risk in terms of your own risk appetite as a Board and an organisation that certain things you cannot solve and you just need to ride it out, certain things you can ensure, but other things you just need to ride out.

Gavan Ord:
I mean, you spoke about risk management, and for most crises, there's pretty standard risk management practices you should have in place. So on supply side, you should be looking to have alternate suppliers in case something goes wrong. So I remember the Fukushima tsunami where that really stuffed the ball bearing manufacturing, which then had a huge impact on global car industry, but you could foresee that all that manufacturing centred in one location is a risk.

So you should have had some supply chain resilience built in. Now that doesn't mean you have a potential supplier in the box ready to come. You do need to occasionally buy stuff off that potential supplier so that if something does happen, you know the supplier, you know the quality of what they supply and you know the pricing. So there are things you can and should be doing to prepare for crises. But as I said, most crises are not global crises. Most crises are limited to a natural disaster like drought or fire or earthquakes or political.

Elinor Kasapidis:
And that's a really interesting thread to pull because like you said, having multiple suppliers, it's almost a collectivist mindset, which stands in a lot of contrast to some of the winner takes all profit at all costs situation that we do sometimes see in particular markets. We've talked about how boards, leaders and businesses need to think about these events and prepare for the changing environment. How do these issues create flow on impacts and affect the longer-term vision?

Patrick Viljoen:
I've already alluded to the kind of medium to long-term impacts if we think about, and I use the example of agri, but it's also, if you look at the kind of conversations that are coming out in the market at the moment, there's a lot of conversations about onshoring, there's a lot of conversations about realignment and all these kind of things. And I think it would just be prudent to stop and just reevaluate where we're at at this point in time, because government made the point of switching value chain out or trying to hedge it one way by moving into another jurisdiction.

The issue with that is that another jurisdiction has got its own unique set of issues that you need to understand and appreciate. So I would advise caution at this point in terms of just having these knee-jerk reactions to what is potentially going to be a short to medium, I hope, issue that we're facing, and sort of view it on balance in terms of how you can find solutions to that into the future.

I think in terms of regional cooperation, this has, to my mind, given that new impetus for broader kind of collaboration of Australia, with places like ASEAN and APAC, I think it just makes sense for us in terms of our own trade routes are quite closely connected. We're much closer to each other. Now that comes with its own risks, of course, but it just means that you can decouple to a certain degree from broader kind of risks that you face, which is impacted by distance.

I think my dad always used to say, "Far from your goods close to your damage." And it's that whole concept of the further you are, the more risk is embedded into that whole kind of supply chain. So are we just there on the side of saying, "Don't panic now, ride it out for the short term and then reevaluate once everything has settled down to a mild panic."

Gavan Ord:
What we see is risk aversion grows during these periods, and that could have longer-term flow on effects for investments. But yeah, I think panicking, let's not over panic. We can get through this, but just have a look at your risk management processes. But if you look longer term, so these sort of global crises will have an impact. So you just look at COVID and how working from home has now become pretty entrenched in many workplaces, that COVID actually made that happen. It was happening, but not to the extent.

Then if you look back into the '70s with the oil shocks and you saw the rise of Japanese car manufacturers because they had four cylinder cars. So in the West, we moved from six and eight cylinder cars to four cylinder cars. So there will be things that'll happen, but we don't know exactly what's going to happen, but there will be changes in how we approach issues, and global crises are often the turning point that shifts our mindset on an issue.

Elinor Kasapidis:
Crises accelerators have changed towards something that was occurring already, which is a great way to frame our net-zero target and sustainability aspirations. So prior to the past few months, many, many governments around the world, many businesses were leaning into net-zero targets and sustainability. How does this actually help move towards that state or what are some of the considerations that now need to be taken into account as a result of this conflict?

Patrick Viljoen:
Yeah, look, I think in terms of this crisis, it's highlighted our dependence on oil. By and large, if you look at the quantum of impact it's actually had across Asia Pacific, I think it becomes a really difficult balance for the federal government in terms of how they need to think about this. So do we drive harder on net-zero kind of targets? I probably would say no. It's maintaining the level of aspiration we have.

We actually have a massive level of aspiration built in. If you look at our 2030 targets, for example, so maintain that. The balance, I think, which government would need to strike at the minute is decarbonization. So making sure that we move into that kind of electrical grid space, decoupling from carbon and coal and oil as an input into that particular system. But we are going to have this unhappy marriage in the short to medium term where we will still be dependent on fossil fuels.

And until we forgo economy and scale in terms of sustainable energy, there's no way we can actually just flip the switch and say, "Okay, fine. Now we are 100% renewable." That's just not the way that the structure and the infrastructure is actually set up at the minute. So that's something I think they'll need to balance in terms of how do you keep the aspiration alive? And if you look at reporting under AASBS 2 at the moment, a group one in their first year of reporting, organisations get this.

They know what they need to do to decarbonise, right? But it is striking that balance and not leaning into it, I think blindly, but realising that we've got structural and infrastructure issues that we need to address in Australia, and these are tough questions to answer, but in the absence of that, I would advise not to ride the hubris of net-zero in isolation of viewing the reality of the kind of costing and what we need to do to actually change into that space. And this has just amplified that in terms of our own dependencies.

Gavan Ord:
I was just going to add to Patrick's comment around, we might hear governments use terminology more like energy sovereignty, so frame net-zero in terms of energy sovereignty. So renewables, you're not reliant on or you're less reliant on foreign supply. So we might see that terminology used more as a reason or one of the justifications for heading towards our net-zero. But as Patrick said, it's an infrastructure change. I mentioned about the eight cylinder to four cylinder cars, but they're still using oil. We didn't actually need to have different infrastructure, whereas moving to net-zero requires a huge change in infrastructure, not just in Australia, but many other jurisdictions as well.

Elinor Kasapidis:
For me, the shock of oil prices and the supply issues that have come to the fore really highlighted to me what you were saying, Patrick, which is it's a lot more complicated than an aspirational target set for four years’ time can necessarily practically achieve because there is so much unwinding, there's a lack of substitutes, there's massive infrastructure investment.

And the more that we are spending of government money taxpayer money to support providers of fertiliser, farming, fuel through these crises, the less there is necessarily to invest in the transition. And those trade-offs are actually quite complicated. So perhaps this is a moment to take a step back and from a policy point of view, the aspiration remains there, but practically, what does it take?

And the other comment I'd make is that it has highlighted that when you're in times of trouble, you do rely on your friends and the need for us across... We've reached out to our Asian neighbours and the good ties and economic relationships that we've built up with them over time have really helped Australia be part of that community and help us with those dependencies on overseas imports for a lot of our things, so...

Gavan Ord:
I was just going to say, it does help that we have some leverage over them. We're a major supply of gas, which is critical to their energy needs as well. So it's not just a long-term good relationship that we're leveraging. We do also have some economic leverage in there as well.

Elinor Kasapidis:
And again, so that's that interdependency, isn't it? It's the quid pro quo. How do we maintain those relationships where the things that Australia digs out of the ground and exports overseas, we start to reduce reliance and globally, reliance on that starts to reduce how then do those relationships evolve for these sorts of things?

Patrick Viljoen:
But it's also in terms of the opportunities that come with that. So if you look at oil, for example, or gas, Gavan, you highlighted our exporting of gas. These are things we get out of the ground. So for oil, you need to drill for oil. Some people are more passionate about drilling than others, but that's how you get their oil. With gas, it's a completely different way of doing it.

But if we look at renewables, renewables aren't just good intentions. They need materials to go into that. So whether that is solar panels, whether that is wind turbines, they do need that input. Australia is a rich country when it comes to what we have, and it's identifying those new minerals and materials that are required for the renewables kind of industry and making sure that instead of us sourcing from another jurisdiction, do we actually have the capacity to do that onshore?

Because at least then we are driving down the cost, we're making sure that unemployment is kept at a low level, and we can actively use what we find in our backyard to actually fuel that transition piece. So it's thinking creatively as well about the opportunities that we can eke out. So it's one thing to say decouple from oil. It's another thing to say, okay, if I'm decoupling, what am I actually hitching onto? And that's the other kind of thing. So obviously certain deposits are highly specific to specific jurisdictions, South Africa, for example, but that's not true for all. So it's really re-imagining what we have, wealth for toil that we have and how we can exploit that.

Elinor Kasapidis:
That was a really great summary, Patrick, of where we've got the opportunities as a nation, and how we keep our eyes on the prize, where are the opportunities for us to reimagine? Really love that word. The government does play a critical role in supporting that rather than necessarily creating a bridge of financing through crisis. Gavan, we've got the federal budget coming up. Where do you think some of these deliberations should sit given some of the constraints that the government is facing at the moment?

Gavan Ord:
That's definitely a more challenging environment for the government than what it was eight weeks ago. So it is more challenging for them that they are a little bit more fiscally constrained and they already were quite fiscally constrained. One concern I have, and we mentioned in the previous podcast, is in times of crisis, government tend to focus in on the problem in front of them and pushback reforms and other ideas.

Net-zero could be one of them. And sometimes we have things that are sacrificed in this time when they focus on one thing. And I have this image of 2008, Ross Garnaut is presenting his climate change report to then Prime Minister Rudd, and that was on the day that the global financial crisis really broke. Lehman Brothers had collapsed overnight. And you can see Rudd totally disinterested in the report because he'd moved on, he was focused in on another crisis.

We have so many things to fix in Australia and our other countries. We have to improve our productivity. We have to lift our productivity. We have to reduce our regulation burden. We have to make Australia a more attractive place to invest and do business. This budget shouldn't miss the opportunity to grasp that problem. The government should continue to address our productivity crisis, not just the fuel crisis. And I'm just concerned that that will happen now.

The treasurer has said, no, we're still going to push that issue. But if the crisis becomes worse and evolves in other unexpected ways, I can see some of those necessary reforms pushback that's a problem for down the road. The other thing I see, and this is a maybe more cynical observation, is crisis is also a good cover for bad policy to get a run. And we as CPA Australia have to be on the ball in terms of bad policy ideas getting a run.

And we're just hearing, not going to call out any particular policies, but I'm just very cautious that bad ideas seem to get a better hearing during times of crisis than what they would normally do.

Elinor Kasapidis:
Thanks, Gavan. And Patrick, you've done a lot of work in the sustainability space, setting up the standards, helping reporters start to shift how they report on these things. What do you see from a federal budget or a federal government perspective in the sustainability space?

Patrick Viljoen:
Yeah, look, I'll start by making a comment. I do not want to be the treasurer at this point. I think it's a very, very tough job and it's a set of polycrises that we need to navigate and address over duration and time. The one thing I will say is in my line of work, we talk about climate, we talk about nature, but the often-neglected component in that is social impact and the way that we address social impact.

My ask from the government would actually be, forget about the oil crisis, forget about net-zero, forget about all these kind of things that we're trying to address and come back to the first principles of why you're in government. And that is to uplift the welfare of Australians. So if that could be the starting point in terms of how can we meaningfully uplift the standard of living for Australians, now that could then manifest in terms of driving down cost of living, it could manifest in terms of onshoring of production.

To Gavan's point, driving that productivity kind of perspective, just come back to first principles, and use that as a focus point for policy setting. It's not really about the macro kind of things. And I know I'm dumbing down politics to ABCs, but I think that's what resonates with the average Australian is where they can see policy that actually impacts on their lives directly and is not so wrapped in fluff that it doesn't really resonate with them. And if we can start from that, so how do we secure welfare for the average Australian and how do we actually make life easier for them? And that becomes your standing or your starting point. I think you're set for success in that sense if you follow that approach. And that's only my opinion.

Elinor Kasapidis:
Great insights. Thank you so much, Gavan and Patrick for sharing your thoughts today. There's no doubt that business leaders, governments, finance, and accounting professionals are wrestling with a proverbial kraken of problems at the moment. Check out our YouTube live webinar series on the CPA Australia Channel, where you'll find a three-part ESG webinar series, as well as our upcoming live webinar for the federal budget. We also have insights from the small business survey and a range of other interesting webinars coming up. Subscribe to With Interest as well to stay up to date, share this episode with your colleagues and friends in the business community. Until next time, thanks for listening.

Garreth Hanley:
To find out more about our other podcasts and CPA Australia, check the show notes for this episode, and we hope you can join us again for another episode of With Interest.