Financial management and Brexit
Director of Artemis Consulting Moira Creedon is working with Enterprise Ireland advising companies on financial management and Brexit.
“Irish businesses need to assess how Brexit could impact their business and how bad that impact might be if there is no free trade agreement between the EU and the UK at the end of the transition period. That conversation usually triggers immediate action though responses range widely depending on the degree of exposure. For some companies this conversation kickstarts a general upgrade in financial and operational management to drive better profitability and reduce risk, which is always a good idea. For other companies Brexit demands root and branch strategic change”.
The most obvious Brexit exposure where financial management can help is currency volatility. For a company with a cost base primarily in euro, and revenues primarily in £, negative movements in Sterling will quickly erode profit margins. In a tight margin business this can easily trigger losses.
Use the Currency Impact Calculator to estimate the impact an adverse change in exchange rates would have on your business profitability.
Use a simple strategy if possible
There are several ways of addressing this. Moira advises starting, if possible, with the simplest strategy – invoicing clients in Euro. Not all UK clients will accept this, but many will be exporting to Europe and may even need to increase their percentage of euro costs, in which case they will be more than happy to oblige.
Is it possible to increase price to the UK market to cover the drop in sterling?
Companies are often afraid to raise this with UK clients on the assumption that they will end up uncompetitive compared to UK competitors. Whether this can work or not depends on the sector. In many sectors such as food and construction materials, your UK competition are buying the raw materials in a global market place and their costs in £ have increased.
Keep a tight eye on your sector dynamics, you may find your UK competition are also forced to increase price.
Natural hedging means getting the percentage of Sterling costs in line with the percentage of Sterling revenues by purchasing more in the UK, for example outsourcing manufacturing to the UK, paying UK based staff in sterling or buying materials in the UK.
Moira worked recently with a company with 90% of their revenues in the UK: “Initially, I was naturally concerned, but then realised that roughly 90% of their cost base is in UK pounds. So they are automatically, naturally hedged. If the pound crashes, their costs and revenues crash so the margin is maintained. Equally any increase in sterling will increase the cost base but will be compensated by the revenue increase”.
Hedging – Forwards and Options
Hedging using financial contracts is basically an insurance policy so your business will not be adversely impacted by a collapse in Sterling.
Banks and other specialist FX risk management companies offer forward contracts so you get a guaranteed exchange rate now for sterling inflows in the future. These contracts are relatively simple and cheap, so apart from the initial set up paperwork, the main downside is that if the UK £ shoots up you are locked in at the agreed rate.
This creates a market demand for ‘options’. These contracts are similar in that you agree an exchange rate in advance but very different in that if currency values move in your favour you can tear up the contract. So you can “have your cake and eat it” – you are covered against a drop in Sterling but you can still benefit if sterling shoots up. But of course there is no free lunch, these contracts are more expensive. Talk to your bank – explain your exposures and see what they can offer.
It is important to understand that setting up good hedging cover means you have to have accurate forecasting in place so you can see what is coming in and going out by currency – so you may need to improve your financial forecasting processes.
Application processes and deposits required to set up hedging cover can be onerous. It is well worth approaching one of the Foreign Exchange risk management services companies, for example Irish providers gaining traction in this space include AssureHedge, Fexco, Transfermate and CurrencyFair.
Long term competitiveness and the impact of a drop in sterling
Financial contract based hedging is only a short-term insurance policy: “If the competitiveness of your product is being eroded in the long run, hedging alone is not going to save you”.
For example Moira is working with an ROI based client near the border in the hospitality sector who is experiencing a collapse in cross border guest trade from Northern Ireland. Weaker sterling means overnight ROI hotel prices in euro seem very high so guests are staying put in Northern Ireland. No hedging contract can help in this scenario. Market diversification is critical, you need to offer a clearly differentiated offering and get out to reach your target market segment in other markets.
Wider financial risks
There are many other financial Brexit exposures facing Irish companies, from tariff imposition, cashflow impacts from border VAT, border delays and the need to stockpile, regulatory impacts facilitating cheaper competition in UK, sourcing exposures and the sheer cost of the paperwork required to get goods through customs. Dealing with these may often require a full rethink on strategy, for example opening new markets outside of the UK, transferring manufacturing facilities to or from the UK.
Moira advises that no matter what changes a company makes in response to Brexit it is critical that it improves its overall financial management for example to get better visibility on which products are delivering profits. Businesses should also forecast the full financial impact of their chosen Brexit strategy to make sure it adds up and that support is available from all stakeholders.
Enterprise Ireland support
Enterprise Ireland has developed a range of supports to assist companies in their preparations for Brexit.
Before meeting with a company, Enterprise Ireland experts will request information in advance to make the engagement more worthwhile and to have a better idea of what to discuss with the business. Moira says: “We ask for information in advance and this gives us a pretty clear handle on to what extent the company’s revenue is exposed to the UK”.