Trading with Europe
You might not be able to afford a fortnight in the South of France anymore but the strength of the Euro has some advantages. EN investigates the options for exporters.
Rotterdam and Hamburg might not have the romance of, say, Shanghai, New York, Rio or St Petersburg but it’s through those cold, dreary ports that British exporters are likely to do the bulk of their business.
The EU, taken in aggregate, is the UK’s largest single trading partner – by a country kilometre. Last year it accounted for £139bn of UK exports and £177bn of imports. The comparable figures for the rest of the world were £108bn and £163bn respectively.
And, though also suffering from recession, our geographical neighbours in the eurozone have for some time enjoyed, if that is the right word, unprecedented strength in their currency against sterling. So, though overall demand has been dampened by the downturn (the World Trade Organisation predicts a massive nine per cent fall in global trade volumes this year), UK exporters are well-positioned – at least in the short- to medium-term – to capitalise on what
remains.
TAKING A POUNDING
Because of the general slowdown in demand, it is hard to quantify the extent to which sterling’s precipitous plunge against the euro has boosted exporters’ fortunes.
Andy Meadwell is sales director at invoice finance firm Bibby Financial Services, which has an international division dealing with clients that trade with Europe and elsewhere. He thinks we have yet to see a major impact on export volumes.
“I don’t think it’s washed through yet,” he says. “Because of the international downturn the demand side is not necessarily there. But we are seeing double-digit growth in client turnover, so it must be having an effect.”
This, however, could largely be due to the fact that the same volume of orders today, paid for in euros, yields a great deal more sterling than it did a year ago – no bad thing in itself.
Nonetheless, there must be some effect on demand, especially for those companies that supply commoditised products or services.
Damian Waters, North West regional director at the CBI, says his members are seeing the benefit. “We may see a further deterioration in the value of the pound. Lots of our members say the value of the pound has helped them in the last six months,” he explains.
Surprisingly, though, he says it’s not necessarily traditional manufacturing exporters for whom the best opportunities are emerging.
He says, “Those businesses that help other businesses to reduce costs and be more efficient are doing well – because it’s a world recession.”
BORROWED TIME
Unless you are in the fortunate position of having working capital coming out of your ears, any expansion of your business to fulfil export orders is going to need to be financed somehow.
Waters says that access to capital is a problem, as the credit crisis continues to play out. He says, “Our work and my conversations with members suggest that finance is still out there, but it’s a longer process, and more expensive than 12 months ago, so you need to factor in extra time and costs. It’s just harder to get and costs more.
“We’ve seen problems with invoice finance and trade credit insurance – but that’s also an issue for domestic suppliers.”
While Waters highlights a tightening up of invoice finance (about the only kind of debt funding widely available last year), Meadwell – whose company specialises in providing it – is keen to emphasise the “we’re still open for business” message.
He says, “A lot of UK banks have a blind spot for exporters – that’s not to say we’re the only ones doing it, but many of the others will restrict the amount of exports they will finance.”
But what impact has the withdrawal of credit insurance from many previously solidlooking companies had? Will Bibby only provide finance against invoices to firms for which credit insurance is available? Yes and no, it turns out.
He says, “We don’t insure everything we fund. But if a customer has a very high exposure to one client it would be imprudent not to. It’s the old eggs-inonebasket thing.
“Credit insurance is today more difficult to get on what would recently have been deemed safe risks. There’s a danger that you get a viable trade – someone can buy and someone can deliver – but you can’t support it with insurance, so the opportunity is lost. It becomes self-fulfilling.”
CASH CONVERTERS
The strength of the euro might be good news for exporters, but if you’re winning continental contracts by pricing keenly in the local currency the last thing you want is for your margin to be wiped out if Greece defaults on its national debt and the sterling/euro position is reversed. Or even if there’s just a mild market correction.
So, while there’s a cost involved, currency hedging should be considered. Waters says, “It’s a sensible way to plan a business. People also hedge energy costs and insurance costs. The problem is that, with the economy as it is, it’s a bit of a leap of faith. A good deal today might not be so good next week.”
But is it practical for an SME? Yes, says Andrew Wilde, an international tax partner with accountant Deloitte – though it will involve a conversation with your bank manager.
He says, “Smaller businesses will usually carry out hedging through their banking relationship, because they don’t have a treasurer and the finance director probably doesn’t have a great deal of understanding of hedging instruments. So they will usually use spot rates and forwards contracts.
“Bigger entities will use swaps, which are more complicated. You won’t see them using forwards, but they’ll have a complete suite of swaps.”
Such contracts all involve counterparties, and therefore costs. However, Wilde says, there is another way of dealing with currency risk, especially for larger, more complex entities, using financial engineering “The other approach is to remove it structurally from your profit and loss account,” he says.
“So if, for example, you have a loan in one territory, and structure it so it’s matched, it doesn’t go onto the P&L account. You can do this by engineering fund flows around the company.”
ESTABLISHMENT FIGURES
Working out your tax liability is bad enough in the domestic market. Start trading overseas – even within the “single market” – and it gets a whole lot worse.
Wilde says, “When a business first reaches out to trade in the eurozone, and its activities begin to grow, they need to watch carefully whether they are trading with the overseas country or trading in the overseas country. In the case of the latter scenario, there is a much greater compliance burden that a company should be aware of.”
Differentiation between trading “with” and “in” is more of a continuum than a clearcut absolute. When you first start to trade with an EU country, Wilde explains, an export sale is unlikely to cause a direct – and probably not an indirect – taxable presence in that country. But as your operations grow in that country, so does the likelihood that you will develop a “permanent establishment” there.
“A permanent establishment is more than just a rep office,” he says. “It’s a branch, a fixed presence with resource on the ground. And at that point it gets messier and more complicated.
“Most companies trading with Europe that are doing well will want to do this – probably through pressure from your sales staff. But as you go up to the curve you get closer to the point where you have a taxable presence and have to pay your share of tax. At that point the compliance burden goes up.
“Once you get to having a presence in a country, the boundary of whether or not you have a taxable presence is not clear cut. You may have a presence for VAT purposes but not for corporate taxes.
“It’s a scale, but if you have a fixed place of business in the country you will pay tax on the profits generated there. You’ll get a credit against that in the UK, so you aren’t doubling up, but it does mean extra compliance.”
And the bad news, according to Wilde, is that there is no cost benefit to being an SME: “Getting it right for a smaller operation is just as costly as getting it right for a larger one – the issues are the same regardless of the number of noughts on your contract.”
TOP FIVE EU MARKETS (UK EXPORTS 2008)
1. Germany £28bn
2. Netherlands £19bn
3. France £18.6bn
4. Republic of Ireland £18.5bn
5. Belgium £12.6bn
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