EMU - The other side of the Euro door

In the first of a two part feature on the European Monetary Union, PC Dealer examines how businesses should prepare to handle the changing trading conditions during the introduction of the euro.

Is your company ready for the euro? Do you even understand what it PC Dealer examines how businesses should prepare to handle the changing trading conditions during the introduction of the euro. could mean for you, your suppliers and your customers? If you can answer yes to both questions, you are in better shape than most UK businesses.

The Treasury conducted a survey in May among firms with fewer than 250 employees. It discovered that only 11 per cent were even aware that the single currency started on 1 January next year, and half of these - just five per cent of the total - had done anything about it. Half thought that because the UK was not joining the European Monetary Union (EMU), the euro would have no effect in this country.

Last week, KPMG published a pan-European survey of retailers, which found that only 42 per cent had established the cost of adapting to the euro and just 28 per cent were able to calculate the cost exactly. The figures for the UK, which is not committing to euro yet, are almost certainly lower.

Of course, the millennium bug, with its huge potential impact and immovable deadline, has received much more attention. The euro will be phased in over three-and-a-half years in what will be known as the euro zone (see box p35), but its impact will be felt a year earlier than the millennium, and businesses that are caught napping will be giving their competitors a head start.

Part of the problem is that the spotlight has been turned onto the political debate over whether the UK should join EMU. This has meant people have ignored the significant effects of the euro even while we remain distant from it.

Next week, PC Dealer will be joining the 'should we, shouldn't we' debate.

But this week, we are analysing what companies in the channel should be doing to cope with the initial phase of EMU - from 1999 to 2002 - when one of the most powerful currency blocs in the world will materialise.

The main effects of EMU will be three-fold:

Because there will be no charges for currency changing, the cost of doing business within the euro zone will be cheaper. Although UK firms will get some of this benefit (compared with those in the US or the Far East, for example), companies within the euro zone will benefit much more, putting extra competitive pressure on the UK.

There will also be more mergers and acquisitions, as firms within the zone find it easier to combine and as those outside seek to establish a bridgehead inside.

Once everything within the zone is priced in euros, it will be easy to compare prices, making national price variations much more obvious.

This could force prices down, although the UK would have the advantage of being able to buy more cheaply too.

'Markets are going to become much more competitive,' says Leslie Gunde, head of the EMU unit at KPMG. 'It will be just as though a PC dealer based in France is actually based in Brighton.'

Perhaps most significantly, from next year, exchange rates within the zone will be fixed, so there will be no currency fluctuation.

This will help businesses within the zone by removing the uncertainty of invoicing in a foreign currency and losing money if their own currency strengthens before the bill is paid, or buying in a foreign currency and finding their own currency has weakened before they pay up.

The euro will still be a foreign currency in the UK, so British firms will not have this advantage - although, by having only one currency to deal with instead of 11, it will simplify matters.

With fewer currencies in Europe, the exchange rates of those which are left, such as sterling may fluctuate more than before the introduction of the euro.

Volatility may be especially high during the next year or two as the euro beds down, and the UK's higher interest rates may attract foreign investors and make the pound even stronger.

But that could pose a problem, warns Martin Morgan, international business manager, north west region, for Lloyds Bank Commercial Service. 'I've seen hundreds of exporting companies that have been hit hard by the strong pound during the past 12 to 18 months,' he says.

More seriously, some firms in the UK will probably want to pay or be paid in euros, especially if they are multinationals or subsidiaries of Continental companies - Siemens Nixdorf and Hewlett Packard have already given indications of this and others are sure to follow. This could actually make things worse for UK firms, because transactions which used to be conducted entirely in sterling will now be under threat from exchange rate fluctuations.

'The main risk is the exchange rate exposure,' says Gunde. 'Suddenly, these businesses will be facing an exchange rate risk with their existing UK customers. By the end of the three-year transition period, a substantial minority of UK-based businesses will be using the euro as the basis of financial transactions.'

Morgan adds: 'Businesses are realising it's going to affect them more through the back door than they thought. Quite often, these are companies that have never dealt with foreign currencies in their lives and they panic.'

Of course, no UK firm will be obliged to trade in euros. But the effect of not complying will probably have the same impact as the introduction of EDI (electronic data interchange) in the 80s by some big supermarket chains and manufacturers. Suppliers that didn't toe the line were simply discarded.

So how do businesses judge what is the right option for them? The first step in preparing for the euro is to do an impact analysis to assess whether a business might be affected, how severely, how soon and in what respects - IT systems, tax and accounting practices, payroll, finance, products, pricing, marketing, training, business opportunities could all be influenced.

A management brainstorming session is also useful. It might be wise to carry out two assessments, one for the initial position with the UK outside EMU and another for if and when Britain joins. If a company is going to be faced with a huge bill in five years' time, it is as well to know now.

If businesses have no European dealings, there's probably very little to do at this stage, other than maintaining a watching brief. 'It would be foolish to invest excessively without knowing what is going to happen,' says Charles Brewer, managing director of EMU consultancy Namax. 'Most businesses aren't going to get much out of this, so they should make sure their investment is commensurate with the benefits.'

If action is needed, rate the elements in order of priority, price them up and then develop an action plan. Top of this list will probably be to talk to the supply chain about how it plans to use the euro and what difference this will make to trading practices. A millennium-style letter asking 'are you compliant?' will not be appropriate since, unlike the year 2000 issue, there is no such thing as euro compliance. By talking to suppliers and customers, a business may be able to arrange buying and selling the same proportion of goods or services in euros, thereby minimising the cost of exchange and the exchange risk.

Adrian Payne, head of the EMU unit at Price Waterhouse Coopers, says: 'Many companies may find it simpler to be paid in euros and that it matches quite well with the way their costs are profiled, because it helps hedge the cost of purchases from Europe.'

It may be necessary to look beyond immediate customers and suppliers, since events further along the supply chain could have a knock-on effect.

If, for example, vendors start demanding payment in euros, distributors may have no option but to pass on the risk. In a business such as PCs, where the main vendors are all multinationals, this 'creeping euro' effect is almost certain to apply. Even US and Far Eastern firms may prefer to deal in euros rather than sterling.

Price transparency within the euro zone is likely to increase competitive pressures quite soon, perhaps as early as next year, so pricing and marketing strategies have to be planned now.

The moment a business publishes a dual price list, it is at risk from exchange rate fluctuations. If the price list is valid for six months and the company is paid three months in arrears, it is effectively gambling on the currency market for a nine-month period. 'Tight profit margins can be eroded in no time,' warns Morgan.

Possible solutions include stating that if the rate moves by more than a certain amount - say two or three per cent - the price will vary accordingly; or stating that trading in euros is a viable option, but customers will have to contact the business to find out the current euro price. Alternatively, there's the the option of fixing the exchange rate in advance with a bank.

Companies don't have to have a euro bank account any more than they need an account in francs or deutschmarks to trade in Europe now. Nor will it protect them from exchange rate movements. But as they will be doing roughly the same amount of buying and selling in euros, having a euro account will save on the cost of converting to and from sterling - which costs even more when exchange rates are volatile.

The main UK banks are offering euro accounts now, so customers can circulate their account numbers, although they can't be used until next year. Existing ECU (European currency unit) accounts will be converted one-for-one into euros.

The government has promised to make it easier for UK firms to file accounts, submit tax returns, pay taxes and denominate share issues in euros from next year, so businesses could, in theory, cut over to euros when convenient and treat sterling transactions as foreign currency.

Existing contracts should pose no problems since the Maastricht Treaty allows for 'continuity of contract'. This means the fact that the currency in which payment was agreed, such as francs, no longer exists, does not invalidate the contract. The value in francs could be converted to euros at the fixed exchange rate and paid in euros.

As long as sterling remains the UK's principal currency, the euro can be treated just like any other foreign currency. Most accounting and order/invoicing systems cope well with foreign currencies and most are being upgraded to include the euro. Bespoke systems and user-written spreadsheets, data-bases and macros, may also need checking.

If the UK joins EMU, the IT upheaval will be much greater, so the biggest dilemma today is for businesses that are replacing their accounting systems, for example, because they do not have the multi-currency facilities necessary for phase-one euro transactions.

The choice is whether to implement a system that is compatible only with the 'UK outside EMU' scenario, or one which would still be adequate if the UK joined.

Next week: PC Dealer evaluates the pros and cons of the single currency for resellers.

COUNTDOWN TO EURO

Eleven of the 15 countries in the European Union are joining the single currency and these will form the euro zone. They are: Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, The Netherlands, Portugal and Spain. The other four EU countries - the UK, Denmark, Greece and Sweden - are not joining yet.

The euro, will be introduced in three phases:

On 1 January 1999, the euro will become a legal currency in the euro zone, with transactions by cheque and electronic funds transfer (though not cash). The old currencies of the 11 countries will remain in use, but the exchange rates between them will be fixed permanently. There will also be a single interest rate for the euro zone, fixed by the European Central Bank.

Sterling will continue to fluctuate against the euro, which will be treated in the UK as a foreign currency. UK firms will, if they wish, be able to trade in euros and hold euro bank accounts.

On 1 January 2002, euro coins and bank notes will become legal tender.

For the next six months, the old currencies and euros will both be in circulation within the euro zone. UK retailers and resellers may accept euros if they wish - for example if they have a lot of European customers.

On 1 July 2002, the 11 national currencies will be withdrawn and the euro will be the only legal currency within the euro zone.

THE CHANNEL VIEW

Europe's largest distributor Computer 2000 is further along the road to EMU than most others, having started its conversion project in March 1997.

C2000's UK arm will continue to operate in sterling after 1999 and will not have a dual price list, although it will trade in euros where necessary.

Hewlett Packard has already told C2000 it plans to switch to euros from next January, but it currently trades in deutschmarks, so there is already an exchange rate risk. Tony Taylor, director of finance at C2000, expects more vendors and customers to follow suit.

'I don't want to encourage customers to trade with us in euros because of the exchange rate risk,' he says. 'But if we need to do it to attract new business or to keep an account, then we will.'

Resellers have shown no interest in the euro as yet, says Taylor: 'I think the great proportion of our resellers are only interested in trading in the UK.' Taylor does not think price transparency will cause prices to fall across the Continent, believing that the language barrier, plus issues such as support and speed of delivery, will make UK buyers continue to buy from UK suppliers.

But he acknowledges that C2000's prices can vary by 30 per cent across Europe and believes cross-country trade will increase.

C2000's SAP accounting system is already euro-compliant, and its UK systems have a euro option for things such as catalogues and prices. The company has not changed its accounting practices yet, although it is in discussions with accountants and has opened a euro bank account.

The cost of conversion will be modest. 'I'd be surprised if it's much more than #50,000 per country - we're spending a lot less than that in the UK,' says Taylor.

'Our official stance is that EMU won't be either positive or negative for C2000. My view is there could be advantages for us.'