Preparations of Finnish industry for EMU

Simo Pinomaa*


 

There are two key issues in preparing for EMU from a company's standpoint. First, companies must decide how the changeover to the Euro should be made in the years 1999-2002 with respect to their administrative and financing functions. In this regard the information systems of companies are of key importance. In addition, an assessment must be made of how EMU will change the exchange rate risks of companies and competitiveness in the long run.

  

I CHANGEOVER TO EURO IN 1999-2002

 1. Governmental Decisions

 The points of departure for companies' practical preparations for EMU were laid out in Finland's national change over plan published in mid-April. It outlines how the government will accept the Euro in customer relations. The prompt publishing of the plan proves that preparations in Finland for adopting the Euro have progressed relatively far.

 There is a dire need in companies for concrete decisions by the government. From the standpoint of companies, the expectations are not focused on payment transactions, which the banks have already announced that they will take care of, but rather on the governmentís ability to receive Euro-denominated reports and declarations. Concrete decisions by the government give companies a clear target when undertaking preparations and they increase the credibility and popularity of the monetary union. In addition, flexibility would give Finnish companies a competitive edge.

 It is also justified for the government to take a flexible attitude toward the Euro, even if it uses the Markka as its own internal currency until the end of the transition phase. It is economically efficient for a centralised organisation to take care of the conversion, not numerous decentralised units. The adoption of the Euro will not require administrative use of a dual currency system if the conversion is carried out in the data input stage.

 According to the national changeover plan, which was published in April 1997, a significant portion of the Finnish public administration will accept Euro-denominated reports right from the beginning of 1999.

 This will be the case for the tax administration, Board of Customs, Statistics Finland, Ministry of Trade and Industry, special credit institutions, trade register as well as offices and institutions belonging to the Ministry of Transport and Communications.

 For instance the goal of the tax administration is to accept all Euro-denominated declarations and reports immediately from the beginning of the transition phase. According to the changeover plan companies can submit their reports on value added tax and forms related to corporate taxation denominated in Markka or Euro currency beginning immediately on January 1, 1999 or in the tax or fiscal year starting thereafter.

 According to the changeover plan Finnish banks will accept the Euro in payment transactions right from the beginning of 1999. The banks will build so-called conversion modules for the data input and output stages, that perform conversion of monetary units.

 The principle of the Finnish banks is that one and the same bank account will be expressed according to the wishes of the client, in Markka or Euro currency. This is in accordance with the legislation on the Euro, presuming that after January 1, 1999 the national currencies are components of the Euro.

 For example, companies can pay their taxes in either Markka or Euro currency. Banks carry out the necessary conversion of money in the Markka account of the tax authorities. If clients have agreed that they receive bank statements in Euro currency, then the refunds will appear in their accounts as Euro currency.

 

2. Euro Internal Currency of Companies

 The main choice related to adoption of the Euro is related to when the company adopts the Euro as an internal accounting currency and changes its company charter into Euro currency. It is likely that a great deal of the companies without foreign operations will keep their internal currency in Markka until the end of the transition phase. But many especially large multinational companies will change their bookkeeping, cost accounting and budgeting into Euro in the beginning of 1999.

 The following factors justify a quick changeover by multinational companies:

Internal reporting. The comparability of a company's subsidiaries located in different countries will be made easier in internal accounting. Furthermore, the personnel of a company will be able to compare the purchasing power of their salaries more easily in different countries.

Cash management. The accounts appearing in EMU currency can be combined so their liquidity increases. This will generate interest gains. (For example, a minus in DEM account and a plus in a FRF account)

External reporting. The shift to the Euro will simplify the picture of a company from the standpoint of financiers. The Euro will open up increasing possibilities for companies to raise equity capital and debt. The exploitation of this opportunity will require increasingly more open and clearer information about the financial situation of a company. The adoption of the Euro as a reporting currency will promote this goal.

Pricing. The changeover to the Euro will simplify the picture of a company also from the standpoint of customers, as sales prices in the common currency are easier to compare. The transparency of prices should be exploited as soon as possible, especially if competitors shift to the Euro.

Legislation. In long-term contracts, the maturity of which extends e.g. to the year 2003 and are concluded with non-EU parties, the use of the Euro should be adopted quickly because then there is no danger that for example an American counterparty would demand changes in the terms of the contract because of the discontinuation of the national currency.

Information technology. The changeover to the Euro is to take place at the same time as the change to the year 2000. For many companies it would be sensible to make the systems fit for the use of the Euro at the same time. In addition, the changes in the companies' information systems should be made in advance, in order for the company to avoid potential pitfalls of operating during the worst shortage of resources in computer services.

 If the company adopts the Euro as its internal currency during the transition phase, special attention must be paid to the payroll reporting systems since employees want their payslips in their cash currency. Among other things, companies must decide whether to convert their entire financial management into Euro currency at one time or whether payroll management will not be converted into Euro currency until later.

 In conjunction with the changeover to the Euro, the equity capital of companies must be expressed in Euro. The current Markka figures may appear unpleasant when expressed in Euro. Thus limited companies may change the amount of their equity capital. It will be decided later whether special rules are needed to change the equity capital.

 

3. Adoption of Euro Swift

 The use of the Euro will spread in Finnish business circles very quickly if Finland joins EMU in the first group of countries in 1999. About a fourth of large enterprises will adopt the Euro right from the beginning of 1999. About half of the companies will make the Euro their internal currency by the year 2000. (Table 1)

 

Table 1: Changeover to Euro in Enterprises

(Cumulative % share)

 

years

1999

2000

2001

2002

no opinion

purchases

24

49

60

69

31

sales

28

50

60

69

31

payments

35

55

62

69

31

internal reporting

23

44

58

68

30

external reporting

21

40

53

65

34

bookkeeping

26

46

59

71

30

budgeting

26

34

58

71

30

payroll

14

26

41

65

35

 

Source: Tipal, HKKK, KPTL

 

The results of the survey (*) are merely indicative, since about a third of the companies did not announce their stand on the timetable of the changeover to the Euro. This indicates that in many companies the preparation for adoption of the Euro are in the initial stage. According to the study, the EMU projects of Finnish companies and organisations have been started at the end of last year and beginning of this year.

 (*) The results are from a survey made in spring 1997 by the IT Services Association (Tipal), Association of Finnish Accounting Firms (KPTL) and the Helsinki School of Economic and Business Administration (HKKK). In the survey interviews were conducted among 500 largest Finnish companies. 55 % of them were manufacturing companies.

 A faster changeover to the Euro will appear in transaction payments, because the readiness to accept Euro currency is deemed a competitive advantage. Over a third of the companies will use the Euro right from the beginning of 1999 and considerably more than half will switch to the Euro during the following year.

 In the administration of enterprises the slowest switch to the Euro will prevail in payrolls. Only 14 per cent announced that they would use the Euro in payrolls the first year of the transition phase.

 In principle the payment of wages in Euro will be possible in the transition phase because banks will take care of the Euro/Markka conversion. The slow changeover in payrolls is understandable because employees want their pay slips in Markka in the transition phase. The effect of Euro/Markka conversion on bank service changes is still unclear.

  

4. Preparations for EMU by Companies: Information Is Just Now Being Collected

 

The preparation for EMU by Finnish companies at this stage is still in the information collection stage. Some 74 per cent of the companies responded that they have begun this stage. The assessment of the needs for change have been undertaken in two thirds of the companies, i.e. a third of the companies have not evaluated the impact of EMU on their activities at all. (Table 2)

 A third of the companies have set up a committee or designated persons as being responsible for evaluating the impact of EMU. Only a tenth of companies have started concrete work on the changeover.

 There were no significant differences in preparations across industrial sectors. The size of the company, on the other hand, affected preparations. In large enterprises even 90 per cent have evaluated the effects of EMU and 70 per cent have created an EMU organisation. The corresponding figures for small enterprises were 48 and 8 per cent, respectively. Practical actions have been undertaken rarely in large as well as small enterprises.

 It can be concluded that there would be reason to begin preparations as soon as possible because Finlandís participation in EMU right from the beginning appears increasingly likely. Furthermore, the postponement of preparations can be expensive if many companies simultaneously seek information technology as well as legal, management consulting services, pushing the prices of these services sky high.

  

Table 2: Preparations of Companies for EMU

(% of companies)

 

small

medium

large

average

Information collection

63

73

87

73

Assessment of needed changes

47

68

91

68

Establishment of EMU organisation

8

24

67

33

Practical applications

7

5

14

9

 

Small companiesí turnover is under FIM 500 mill (about 100 mill. Ecu). Medium-sized companiesí turnover is FIM 500 - 1 500 mill. (about 100 - 300 mill. Ecu). Large companiesí turnover is over FIM 1500 mill. (about 300 mill. Ecu)

 

Source: Tipal, HKKK, KPTL

 

5. Information Technology in Key Position

 

The study also evaluated the requirements EMU places on the information systems of companies. From the standpoint of the success in the transition phase, these changes are of key importance. Planning and implementation must be started well in advance. In Finland these changes are pivotal since use of electronic payment systems and other forms of information technology have become more common in Finland than in EU countries on average .(Table 3)

  

Table 3:

Preparations for EMU in Information Management (% of companies)

 

 

small

medium

large

average

Started projects

21

32

54

35

Contacted software suppliers

52

64

64

59

Made plans for updating software

24

36

36

32

 

Source: Tipal, HKKK, KPTL

 

For the time being most companies have already contacted software suppliers. This had been done in almost 60 per cent of the companies interviewed. About a third of the companies had already started projects or made plans to update software. About a third of the companies had not done anything yet regarding their information management.

 Large companies are on average better prepared. The greatest difference concerns the starting of projects, where large enterprises are more active than small ones.

 The areas of information systems needing changes because of EMU are not clear to all companies. In industrial circles, companies are nevertheless more aware of the changes brought by the Euro than companies in the trade or service sectors.

   

Table 4: Need to Change Information Systems , (% of Companies)

 

Sector

Databases

User look-ups

External & internal printouts

Control/ standard data

Guidance manuals

Hook-ups inside company

Hook-ups outside company

Software logic

Trade

64%

64%

73%

27%

27%

55%

82%

45%

Industry

95%

95%

100%

84%

63%

79%

89%

94%

Services

67%

58%

100%

92%

67%

58%

67%

33%

TOTAL

79%

76%

93%

71%

55%

67%

81%

63%

Source: Tipal, HKKK, KPTL

 

 According to the study the companies "need changes in all areas" presented in table 4, slightly less than a fourth of the companies were of the same opinion. In this respect it can be shown that companies have not given the matter much thought. On the other hand, it is possible that all companies do not employ all of these areas in their information systems.

 The areas regarded as least important by the companies were guidance manuals and software logic. The other areas were considered rather important. The most weight was given to the area of external and internal printouts. Company size did not affect the need for change in most cases. The most significant difference was only the internal and external hook-ups. Naturally small companies have fewer hook-ups than large companies.

 About 40 per cent of the companies saw problems in the follow areas: integration of systems, lack of documentation, hook-ups inside and outside the company, external availability of information system services as well as lack of software support.

 As regards the updating of ready-made software, about 40 per cent of the companies regarded problems as integration, hook-ups outside the company, availability of in-house and external personnel resources, lack of software support and hook-ups within the company. Lack of documentation and obsolescence of equipment were not regarded as great problems.

 As far as customized software is concerned, one problem rose above the others. About 60 per cent of the companies estimated that they would have difficulties in obtaining in-house personnel resources. This is regarded as a problem especially in large companies (table 5).

 

 Table 5: Problem of Availability of In-house Personnel Resources (% of companies)

 

Small problem

Medium-sized problem

Large problem

less than FIM 500 mill.

38

29

33

FIM 501 - 1500 mill.

6

18

76

over FIM 1500 mill.

20

5

75

 

Source: Tipal, HKKK, KPTL

 

According to the survey, the most desired service from information technology suppliers is updating of ready-made products. Some 76 per cent of the companies asked about these. About 70 per cent of the companies wanted design and preparation assistance. The companies will probably need a so-called "Euro helpdesk", where practical experiences can be gathered related to updating.

 The estimation of costs stemming from EMU information management changes was difficult for the companies. A majority of the companies nevertheless indicated that they would remain below half of their annual information systems' management budget.

  

II. EFFECTS ON COMPANIES' COMPETITIVENESS

 

The single currency provides great possibilities for a slumping Europe to respond to the competition from North America and the East Asia. It provides great opportunities for countries with sensible economic policies and efficient companies. On the other hand, it entails considerable risks in countries where economic policy including incomes policy is handled poorly and in inefficient companies.

 

 1. Impact on Exchange Rate Risk

Floating exchange rates are a problem for the companies and especially for SMEs. This is especially true of small countries like Finland with unstable currencies that almost always have to price and invoice their trade in foreign currency.

 Thus while trade could be invoiced in Markka, the uncertainty about the rate of the Markka has easily affected either trade prices or volumes. For multinational corporations with resources to manage foreign exchange and exchange rate risk the exchange rates are clearly much less of a problem.

 In this decade the highest exchange rate of the German mark against the Finnish Markka has been 57 % higher than its lowest rate. Correspondingly the highest exchange rate of the dollar has been 72 % higher than the lowest. Export activities have sometimes been unprofitable, sometimes very profitable. Companies, especially SMEs, cannot practice long-term profitable foreign trade under such unstable conditions.

 If exports have to be curtailed because of its unprofitability, the rebuilding of export contacts can take years and a lot of money. There is not much use in hedging against exchange rate movements when the contracts are generally settled within 2-3 months or an even shorter period.

 A floating rate is not problem for the US or EMU countries that can invoice their trade in the same currencies in which their costs and debt are denominated. EMU and the single currency facilitate longer-range trade and greater risk taking for example in investments also for SMEs than unstable floating rates. This is one of the greater benefits of EMU to companies and the entire economy.

 Exports can probably be invoiced and imports paid in Euro right from the beginning of EMU also in trade between Finland and many non-EMU countries. Even if, for example, Sweden remains outside EMU, many Swedish companies will probably accept the Euro even in retail trade.

 Even though currency policy is clearly a common matter of the EU, non-EMU countries cannot be forced to keep their currency stable. This is indicated by the decisions of EU officials regarding the exchange rate mechanism of EU countries remaining outside EMU..

 When Finland joins the monetary union, a Finnish company exporting outside the Euro region will be exposed, as it is nowadays, to currency fluctuations between the export country's currency and the company's internal currency. For example, for a company exporting from Finland to the United States facing competition with local producers there, the weakening of the dollar weakens the Finnish company's competitiveness relative to its US rivals.

 The changeover to the third stage of EMU does not eliminate but it does reduce and ease the currency risk management of companies. Of importance in the companies' currency risk management as regards operative activities is the ability to adjust and if necessary to shift purchasing, production and sales from one country to the next if exchange rate developments are unfavourable.

 The currency risk of companies' business activities is analysed by evaluating the currency distribution of revenues and costs. Furthermore when assessing the change in the risk, companies take into consideration in which currency the costs of competitors arise. Multinational companies also have balance sheet risks, the changes in which must be analysed.

 The impact of currency risk on a companyís business varies. If the prices of the companiesí products are determined and competitors operate in the common currency area, exchange rates do not affect the profitability of the company. On the other hand, a company with competitors outside the monetary union are exposed to variability between the single currency and the competitorís currency.

 For example, if Finland makes the switch to the Euro, but Sweden remains outside the EMU, there is a risk that the Swedish companies can capture market shares with a weak krona, for instance in German markets. This could happen despite the fact that an aggressive currency policy is in strict contradiction with EU treaties and can lead to EU sanctions.

 

2 Effects on Cost Management

 

The Euro-countries will have the same exchange rate, perhaps for decades ahead. This does not mean that the price competitiveness of companies will remain a constant. The cost and productivity development will affect price competitiveness in the future as well. The significance of these factors will be augmented in EMU.

 It should be possible to adjust wages and other labour costs to cyclical variations. This would require that wages can be determined increasingly on the enterprise or division level. Nowadays about 20 per cent of manufacturing workers receive bonuses. In terms of magnitude, it averages 5 per cent of annual earnings.

 In many cases the bonuses are nevertheless difficult to apply because of the strictly binding nature of collective agreements and because the sector-specific minimum wages can be too high to build a company based bonus- system above them. In principal it is possible to deviate from the stipulations of the collective agreements by applying the local bargaining model. The idea is to offer a possibility for both parties to "opt out" by mutual agreement. If an agreement cannot be reached, the terms of the collective agreement remain in force.

 The local agreement schemes are not new per se. The scheme was created and adopted in the 1993-1994 wage round. Several collective agreements provided the possibility for local divergence, for instance, about working time and holidays. In the Finnish metal and engineering industry the local agreement scheme is being applied on a trial basis also in setting wages.

 The growing use of the local agreements for wages does not require legislative changes. At issue is the willingness of the labour market organisations simply to include a clause in the annual collective agreements indicating that the possibilities to use local agreements are being expanded. In addition, the more common use of local agreements would require increasingly greater efforts to build the mutual trust between the companyís management and other personnel.

  13-06-1997


  

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