Risk & Opportunity: An Old Mill 'Virtual' Roundtable Discussion
8 May 2018
Old Mill presents a ‘virtual’ roundtable discussion on some of the key issues impacting West Country businesses during 2018.
Trevor Charsley A Senior Advisory Consultant at Associated Foreign Exchange Ltd (“AFEX”) based in London. Trevor has over 20 years’ commercial FX trading experience and is regularly quoted in the financial press.
Paul Szymanski A Senior Business Development Manager at AFEX based in the West Country with 20 years’ experience within the corporate forex financial sector working with SMEs & corporates.
Steve Bolt A Director at BCR Associates (“BCR”) based in Exeter but with a UK-wide client base. Prior to joining BCR in 2013, Steve had over 30 years’ experience in financial services having worked as a senior director within the insurance sector.
Mark Neath Joined Old Mill in 2006 and leads the Exeter office. Mark works with owner-managed businesses across Devon and the South West, helping with growth, acquisition and succession planning. His specialism is corporate finance.
It can sometimes be challenging for business owners to attend local events – we understand that you’re busy working ‘in’ the business.
Old Mill is keen to leverage technology as an enabler and one way we can achieve this is through web-based ‘virtual’ meetings where participants talk through the key day-to-day issues and challenges facing their businesses with experts and thought leaders.
Mark Neath: Let’s start with you providing a little bit of background on your respective businesses.
Paul Szymanski: AFEX works with owner-managed businesses and larger treasury functions on mitigating currency losses, establishing clear currency management policies when it comes to hedging, achieving better margins as well as making international payments – whether they’re receipts for exporters or payments for importers.
Steve Bolt: BCR is a cost management consultancy business operating primarily in the energy and utilities space, essentially looking after the energy and telecommunications infrastructure spend of owner managed businesses. Our role is to help business owners cut through the complexity and get them the best possible deal.
Mark Neath: So the thing we have in common is that we all work closely with clients, we advise them and help them manage their risks. That seems like a good start point for our discussion.
What are the current sources of uncertainty you are encountering in your discussions with clients?
There are a number of drivers at play here, thinking in particular about Brexit, which direction monetary policy is heading etc… With all of this uncertainty, how does this manifest itself as risks to businesses?
Trevor Charsley: Clearly Brexit is the headline source of uncertainty… we’ve endured a sustained period of uncertainty for businesses and markets and we’re also impacted by media headlines in whichever way they want to slant opinion around hard or soft Brexit.
Until we get clarity, there will inevitably be this huge cloud of uncertainty overhanging us which makes it challenging to manage the currency risk.
That said, the pound hasn’t been exceptionally volatile against the euro and whilst we saw a 20% fall in sterling after the initial vote, we’ve recovered to the levels we saw before the referendum.
Arguably, the economy is also doing better than people expected which is reflected in the monetary policy being set by the Bank of England; we estimate that there’s a 70% probability that we’ll see a rate hike of 25 basis points in May.
Steve Bolt: One of the issues at the moment is that certain businesses (particularly in the services sector) are operating on very small margins, so one of the challenges we have, from a utilities perspective, is that the UK doesn’t produce most of its own energy requirements. Gas is from Russia and the Ukraine predominantly… our electricity is mainly German and French sponsored with China featuring more and more.
There are lots of issues in terms of the grid infrastructure with the government trying to recoup costs by building in ‘non commodity costs’ which for electricity, for instance, comprises of just over 50% of the price that businesses pay in the same way consumers pay hidden tariffs at the fuel pump or on a pint of beer. What’s worrying is that this will rise by 65% over the next five years due to indexation.
So, irrespective of what happens around Brexit, energy prices are set to rise quite significantly and businesses will have to budget for that.
We’ve seen an increase of 15-20% on what businesses were paying just a couple of years ago and inevitably any future price increases will be passed straight on which makes it difficult to plan ahead and contain costs.
Paul Szymanski: From a risk management perspective, most of the verticals we work with are also very competitive with really tight margins. Some of our clients who are exporting say they’re pulled in every direction trying to manage the complexities of running a business on a day-to-day basis so it’s really difficult for them to get it right all of the time.
Rather than dealing at spot, maybe it’s worth considering hedging where we work together on designing a blended strategy using options and forward contracts. The kind of things we would typically discuss would be questions around:
• Are they able to forecast 3-6 months ahead?
• What are the costing levels they’re looking to protect
as a business?
• Do they require an element of upside opportunity?
It’s all about getting a deep-seated understanding of their specific business requirements, their appetite for risk and creating a bespoke solution.
Steve Bolt: In general terms, with utilities people tend to buy on the headline rate – but not really understanding what they’re actually buying. The risk is that businesses often end up spending a lot more than they anticipated compared against the price they were quoted.
Often the headline rate looks great on paper. We had a situation recently where, with additions, the business was facing another 30-40% on top. These additional tariffs just appeared on their bill.
We tend to find that larger organisations have a better handle on this type of thing because they’ll have procurement people in-house but many SMEs just don’t have the time or expertise.
The other problem we encounter is that businesses only tend to review their utilities arrangements every two years; they’re too busy so when the renewal reminder comes in they often carry on with their existing supplier because they just don’t have the time to think about it.
Paul Szymanski: I agree. It’s very similar when we speak to certain owner-managers who say they get a fantastic spot rate that’s very close to the interbank rate. That’s great but not necessarily the best strategy.
If you’ve secured a hedge to sensibly mitigate against currency movements this could save you 2%, 3% or even 4% over a six month period rather than getting a few basis points better on a spot rate. It’s about trying to educate people that having the right strategy in place will often completely outweigh any half-decent spot rate.
Trevor Charsley: Just to underline what Steve and Paul have both said about risks; if clients have tight margins… say they’re on a 10-20% profit margin, the Brexit move in sterling was a 20% decline and, if that’s against you, you’ve essentially lost all of your profit margin!
So this type of forward management of risk is really important for businesses whether we’re talking about energy prices or currency fluctuations.
Mark Neath: Moving on to opportunities; what do we see as positives for local businesses in 2018 or things they need to be thinking about in the current climate?
Paul Szymanski: There are definitely some great opportunities around exporting, particularly within the food and drink sector which is very strong regionally.
As we come into April, many companies are seeking to secure their hedging strategies for the rest of this year and into 2019. Now is a good time to lock in favourable rates… there is opportunity to build in margin in case exchange rates move in the opposite direction.
Steve Bolt: Similarly, you can purchase energy 12 months in advance and typically springtime is a good time because prices are soft in gas and electricity at times of lower usage. Now is a good time to buy if you’re securing a contract for the winter months. Forward pricing works really well.
Trevor Charsley: For the remainder of 2018 I believe it will be prudent for business owners to hope for the best but prepare for the worst as we still need to see how Brexit plays out.
The economy is performing better than anticipated and sterling is supported reasonably well but if the UK isn’t seen to get a reasonable deal from Brexit then we may see the pound slide quite quickly. It all depends on how the negotiations proceed over the coming months.
Paul Szymanski: I would caution people not to put all their eggs in one basket when it comes to hedging – things can change very quickly so have a blended strategy in place.
Steve Bolt: Looking at utilities, the time not to be buying is next year. You want to lock in a fixed price and straddle the next year at least.
A lot of businesses will buy one year contracts but you want to straddle Brexit so you’re not in the market at a time when there’s uncertainty. Our advice is to go much further out – the price difference between one and three year deals is minimal… maybe an extra 1%, this will give you the ‘peace of mind’ and budget certainty.
If you would like to know more about the topics of this article, or perhaps you would like to feature in one of our Roundtable Discussions in the future, please get in contact.