Waking up to the challenges of EMU

Eric Hall, director of marketing services at Bull Information Systems, has a neat way of illustrating the problems posed by European Monetary Union. “If a trading partner pays your invoice in euros, what will you do?” he asks, “refuse to take the money?”

Hall’s example shows the euro is not a subject that companies can afford to ignore even if EMU starts without Britain as a member. Indeed, with the projected start date of January 1, 1999 just 18 months away, the need to face up to the transitional problems posed by EMU becomes more urgent by the day.

There are signs that British business is awakening to the issue. Yet those in the front-line of this campaign also report that few businesses have yet recognised the extent of the problem posed by the transitional period – let alone the completion of EMU by 2002.

In fact, the transitional period raises a complex mesh of both strategic and operational issues which Britain’s businesses need to address, often irrespective of whether the UK signs on the dotted line to become one of the founders of the new currency. As Mike Littlechild, the partner in charge of KPMG Management Consulting’s EMU unit, points out, EMU raises strategic questions such as competitiveness, costs, investment and marketing which range way beyond the traditional tactical focus on changes to IT systems. “We often find companies start by looking at the problem from the systems perspective but soon realise there are much wider implications,” he says.

But before examining both strategic and operational issues, just what is the transitional period? And why does it pose problems?

Seemingly, the transitional introduction of EMU falls into three main phases:

January 1, 1999 to January 1, 2002 when the exchange rates of the participating currencies are fixed and companies in EMU countries may operate in dual currencies or the euro.

January 1, 2002 to June 30, 2002 when euro notes and coins circulate alongside national currencies.

July 1, 2002 when national notes and coins are withdrawn and the euro stands alone as the sole currency in the participating countries.

But, in reality, business is already in a preliminary transitional phase when it needs to start taking decisions about what it is going to do during the three later phases.

As far as British business is concerned, it must make its decisions based on one of four scenarios – EMU goes ahead on time with Britain in, EMU goes ahead on time with Britain out, EMU is delayed, EMU is abandoned.

Although Germany and France are both struggling to meet the Maastricht criteria for EMU membership, the best bet is still that EMU will go ahead on time, such is the political will in these countries to see it succeed.

Despite the change of government in Britain, it looks likely that EMU will start without Britain in the first wave. Foreign secretary Robin Cook has admitted as much in one of his earlier statements. But he has not ruled out Britain joining at a later stage. Indeed, it is conceivable that Britain could still become a full member of EMU in July 2002 without participating fully in all of the transitional phases.

It is important to understand these scenarios because it colours the way business ought to prepare for EMU. Put it this way: the only companies that need not bother about EMU at all are those who don’t currently trade with Europe, have no intention of doing so and are confident Britain will never join the single currency.

So just what kinds of issues does business need to address during these transitional phases? They fall into two main areas – strategic issues which impact on the business success of the enterprise and system issues which impact on how successfully it is able to trade with its customers and partners.

There is a range of strategic questions, such as price transparency, which ought to be on the FD’s agenda – and the board’s – right now. As Littlechild points out, many companies charge different prices for the same product in different European countries.

“Some businesses we talk to say their prices are, for example, 30% higher in Germany than in Spain. It’s quite a common story despite the fact we already have a single European market. Some markets bear a higher price than others.

“But just imagine what happens when everybody is dealing in the same currency. Suddenly differences in prices become very apparent. You won’t be able to maintain those price differentials any more because it simply won’t be possible to sell something for seven euros in France and 10 in Germany. Customers will rumble price differences more easily.”

Littlechild argues the problem could be especially acute for companies selling consumer goods such as televisions, videos and washing machines.

The pressure for more common pricing across national boundaries will come from wholesalers who supply continental markets, Littlechild suggests.

Indeed, it is already happening. And, most worryingly, as prices equalise between markets the pressures will all be downward.”

So how to handle it? “We find solutions are very specific to the individual company even within the same sector. You have to look at whether there are likely to be pressures for downward levelling of prices in your sector and then decide what actions you can take to anticipate that.”

It is possible there may be sharper competition in some European markets as the transitional period progresses as some companies try to improve market share by lowering prices in former “higher price” markets. Others may try to develop more channels to market through, for example, mail order, cable television and the internet.

More broadly, companies need to take a long, hard look at how they can take cost out of their supply chain, advises Littlechild. “It’s important to remember that you are a buyer as well as a seller and you need to look at the cost of your inputs.”

This raises a second strategic question: how far the implementation of EMU will help companies cut costs. “At the moment, if you try to shop around Europe, you come up against the risk element caused by different currencies and the currency transaction costs of trading across national boundaries. The euro removes both those elements of risk and makes the search for lower-cost suppliers a simpler task.”

But Littlechild warns there is both good and bad news about costs. “Anybody who is not exploiting the cost advantages on the input side is in danger of getting all the bad news and none of the good news,” he says. The result of this could be an initial period of volatility as companies search for new suppliers within the single currency area. But it could lead to more longer-term relationships.

“Long-term contracts across borders have always carried problems of what to do about the exchange rates. You either have a complicated formula built in or you take the risk. With EMU removing this problem, I think there could well be a lot of change in people’s purchasing policy.

They will cast their net widely across Europe,” Littlechild says.

Another potential problem arises for those companies heavily reliant on government contracts. As some governments struggle to meet convergence criteria for EMU membership – which often means reining back public expenditure – there could be lean years ahead. Especially as the Maastricht agreement provides for heavy fines for those countries whose public sector deficit exceeds an agreed maximum.

Littlechild recommends companies need to consider the implications of being outside EMU at the start. “Most British companies have most of their production inside the UK. But the 200 largest companies have just as much of a market outside the UK,” he says. Indeed, many of these companies sell more in Europe than they do in Britain – and this applies to many smaller companies as well.

Companies with most of their costs outside EMU and most of their sales inside EMU could face a vicious double whammy. Costs outside could prove to be higher – partly because the continuing transaction costs of dealing with the EMU trade areas – while pressure on prices within EMU may be downwards. The impact on the bottom line is potentially devastating in some companies.

What to do? “I think you have to look at the structure of your business and what your options are,” says Littlechild. “It’s a question of analysing your exposure.” For example, there may be a case for siting new production facilities inside the EMU trade area.

The strategic agenda in itself is pretty daunting but alongside it runs a parallel range of operational IT issues. But Hall says the EMU problem is a resources problem rather than a significant technical conundrum.

He draws a parallel with the Year 2000 issue – the so-called “Millennium timebomb”. “The people who identify the Year 2000 problem in your systems are probably the people with the right skills to identify and make EMU changes too,” he says.

The first step, Hall argues, is to complete an IT systems audit to evaluate the extent of the problem. Then it is possible to develop an approach to deal with it. As Hall notes, “there is nothing clever or difficult in this”, but it does mean finding the resources.

Hall reckons many organisations could be short of resources – essentially skilled programmers – to make the needed changes. He points to Gartner Group research which suggests there is only 20% of the resources needed to make all the changes. His conclusions: one, those among the 20% who start early will have the chance to sell their expertise at a premium price to the other 80%; and, two, there will be a last minute scramble for resources which will push up the price of services even higher.

Hall argues an EMU conversion project ought to run through seven main stages: first, the company should appoint managers with areas of responsibility.

That may mean casting the net widely as there can be systems repercussions in many different parts of the company.

Secondly, the company needs to allocate a budget for the work. And in some companies it won’t be pleasant. Hall estimates, for example, that conversion costs in a major retailer such as Marks & Spencer or Tesco could be as high as $45m.

Thirdly comes the audit of systems and functions already mentioned. This determines the hardware and software baselines and configurations. Following on from this, the company needs to identify all areas potentially needing correction. Only when this is done is it possible to take the results of the audit for each area and measure the scale of the problem to be tackled.

Next, the company needs to consider alternative strategies for tackling the problem areas. In some cases it might be possible to make changes using in-house resources. In other cases, consultancy help or agency staff may be needed. Finally, managers must select the most suitable strategy.

They need to define and agree a plan and budget to complete the project – and implement it.

Hall warns: “My concern is that people are not doing the initial audits and are going to make decisions based on, at best, partial information.” Looking at the strategic questions, Littlechild, adds: “People haven’t been thinking widely enough.”

These are sober warnings as business faces probably its biggest single challenge this century.

Peter Bartram is a freelance journalist.

EMU POSER 1: THE KEYBOARD CONUNDRUM

All computer keyboards have keys for # and $ – but which key will be used for the euro? So far, nobody knows. The European Union has not defined it. So how will the problem be solved? Will you buy new keyboards with euros on them or designate a key to represent the euro – and, if so, which?

EMU POSER 2: THE PRICE POINT PUZZLE

Many companies use price points to define their prices – for example #199 or #9.99. What happens during the transitional period, when companies in the participating EMU countries and some outside, may provide prices in euro and local currency? Do they price point in the euro or the local currency? Or do they try to do both? Few, if any, companies seem to have answered this question. Have you?

EMU POSER 3: THE STRETCHING SUPPLY CHAIN

Many companies pride themselves on the tight integration of some administrative processes – for example, purchase orders or invoicing – with supply chain partners. But what happens when a supply chain stretches across national borders with some partners in EMU participating countries and some outside?

How do partners agree changes so that their systems continue to work effectively together, especially where technologies such as electronic data interchange (EDI) are used? Few companies have started to explore the detailed implications with their trading partners.