'The future of global trade' report from Money Week explores what the biggest threats and opportunities facing the global economy are, and how businesses should respond. Download it here.
What’s next for Brexit?
The reality is that no one knows. The language used by politicians and newspapers – the words “countdown”, “deadline” and “cliff-edge” all feature prominently – suggests that Brexit is an event – a revolution that will (or won’t) happen on a set date. And immediately after the vote to leave in June 2016, it did feel to many people and businesses as though the world had changed overnight. The pound collapsed as the results came in: in May 2016, a month before the referendum, £1 would have bought you €1.31; a little over a year later, the rate had slipped to a low of €1.08. In other words, any business that had to buy euros – to purchase materials from suppliers, perhaps – had to spend almost 18% more to secure the same amount. But almost three years on and counting, it’s becoming ever more apparent that Brexit is not, in fact, an event. It’s a protracted process of negotiation – one which will continue for some time.
What might our trading relationship with the EU look like?
The precise nature of the end relationship is yet to be determined. But amid all the talk of artificial deadlines (the latest being October 31st), it’s easy to forget that it was always going to take far more than a single vote in the House of Commons to finalise any deal. Even if (as appears increasingly unlikely) prime minister Theresa May manages to drive her withdrawal agreement through parliament, that would merely represent the final stage of this phase, before moving onto a long ongoing negotiation process. Or say that Britain was to revoke Article 50 somehow, and cancel Brexit altogether. That might please “Remain” voters, but it would kickstart a long period of painful and disruptive soul-searching about the nature of democracy in the UK. And even if Britain was to opt for the much-feared “no-deal” or “cliff-edge” Brexit, it wouldn’t speed the process up by much. We would still need to come to some sort of trade agreement with our nearest neighbours. In short, business will have to get used to Brexit uncertainty – and global political uncertainty in general – being part of the background music for the foreseeable future.
What impact is this uncertainty having on British businesses?
This uncertainty is particularly significant for any UK company sourcing goods or services from the EU as part of its supply chain, or selling its wares to customers in the EU, but almost any company with a global presence is being affected in some way. Stockpiling has been widely reported in various sectors, from pharmaceuticals to car manufacturing, as manufacturers and distributors have tried to build up stocks of critical components or end goods, in order to provide a buffer against disruption to the free movement of goods in the event of “no deal”. For example, early in the year, consumer goods giant Unilever said it was holding extra supplies of ice cream and packaging material, while multinational drinks giant Coca-Cola’s first quarter sales were given a boost by a decision to stockpile ingredients in the UK. Meanwhile some British manufacturers have seen their sales boom this year as a result of stockpiling by EU customers – the risk being, of course, that the extra demand seen in the first half of the year translates into a drop-off in the second half.
What about currency fluctuations?
Then of course, there’s the impact on the pound. Sterling has rallied from its post-2016 nadir somewhat, but it’s still significantly lower against both the euro and the dollar than at any point prior to the EU referendum. These exchange rate fluctuations have very significant implications for costs, sales and profitability. That said, it’s important to remember that for every business that suffers when the exchange rate goes one way, there’s another that will rejoice as its costs go down or its selling prices become more competitive.
So where are the opportunities?
The current state of flux represents a good opportunity for businesses to re-evaluate existing supplier relationships and to look at potential for expanding into new markets that might become more easily accessible, depending on the form that Brexit takes. But the clearest impacts so far have resulted from the aforementioned currency movements. On the one hand, the weak pound makes imports more expensive, but on the other, it makes British exports more appealing. Or consider the impact on tourism. Holidays in Britain now look cheap to foreign tourists – data from the Office for National Statistics shows that American tourists spent 30% more on British goods in March this year than in March 2018, for example. Of course, if the current delays in Brexit stretch on, or lead to a “softer” Brexit, the pound could rally, reversing the current situation. Equally, the threat of a general election and more political upheaval could send the pound even lower.
How can businesses plan for currency fluctuations?
The first step is to map out your exposure to exchange rate movements. Look at your budgets, including sales and costs, quantifying those elements that are affected by currency movements. Then start to think about how much movement you could cope with: how much would rates have to move by before you would begin to struggle with competitiveness? And at what stage would there be real damage to your bottom line? This exercise gives you better visibility of your business’s exposure to currency fluctuations, which in turn gives you a basis for deciding which risks are non-negotiable – those are the scenarios you hedge against – and which you can afford to take.
What specific currency risks might arise from Brexit?
There are a wide range of scenarios that could result from Brexit, with a range of potential impacts on sterling. For example, if you’re really concerned that we’re going to end up with a no-deal Brexit, which would be most damaging to the value of the pound, you may want to move more aggressively to protect your business. On the other hand, if you’re sure we will muddle through somehow, perhaps with one of the different types of deal already on the table, you may take a more relaxed view. The important thing is to make an informed decision, based on analysis of the risks your business faces and what it can deal with. Decide when your pain points would become unacceptable and take action accordingly.
How should businesses tackle currency volatility?
Once you have a clear picture of your exposure, and a set of scenarios in mind, you have a decision to make. You can bypass exchange rate uncertainty (known as “hedging” your exposure) by locking into fixed rates today, using a forward contract. In doing so, you’re agreeing to buy a certain amount of foreign currency at an agreed price on a set date in the future, up to one year ahead. There’s a potential opportunity cost, of course: if exchange rates move in your favour – a stronger pound rewards those sourcing from overseas while weaker sterling helps exporters – you’ll miss out if you’re hedged. However, you don’t have to go “all-in” on one option. If you really can’t accept any uncertainty, hedging 100% of your exposure makes sense, but many businesses prefer to take less of the risk off the table – perhaps hedging half or three-quarters of their position.
What are the benefits of hedging?
Good customer service is always critical, but at a time of upheaval like the present, when clients may be considering whether they need to switch suppliers, it can be a very real competitive advantage. By managing its exposure to exchange risk, a forward-thinking business avoids the risk of having to increase costs or cut service levels due to adverse currency movements. In turn, that means they can deliver consistently on their promises to clients, which should pay off in terms of customer loyalty – and on attracting new business.
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