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Keep a close eye on UK trade agreements

Brian Peccarelli  Chief Operating Officer, Customer Markets

Brian Peccarelli  Chief Operating Officer, Customer Markets

United States tax reform is on everyone's mind, but Brexit should be, too.

Amid all of the fanfare surrounding the recent United States tax reform deal, Chief Financial Officers (CFOs) — particularly those from U.S.-based companies — could be forgiven for forgetting about that other big question mark on the corporate balance sheet. But when it comes to forecasting future earnings, navigating global trade requirements, and, of course, tax, Brexit is still a very big elephant in the room.

Based on the most recent discussions on the issue, it doesn’t look like one that will be resolved any time soon, leaving multinational corporations with substantial operations in the UK in a state of limbo.

At the heart of the matter is the pending trade deal that the UK still needs to hammer out with EU leaders. The problem is, few can agree on exactly what kind of trade agreement the UK wants.

Some think the country should make a clean break from the EU, cutting taxes and regulation and setting itself up as sort of an ultra-business friendly, European version of Singapore. Others have argued for more of a Norwegian model whereby the UK is technically outside of the EU but still tightly linked to its economic standards and policies. Still others have proposed a hybrid middle ground between the two, sometimes referred to as a Canada-type free trade agreement.

The negotiations are anticipated to be so difficult that British Prime Minister Theresa May has proposed a transition period, during which the UK would retain current trade terms with the EU for two years after its March 2019 exit.

What that means, of course, is that the UK government will also be unable to ink new trade deals with other countries until at least 2021.

Perhaps that’s why Thomson Reuters recent CFO Brexit Survey found that, when it comes to Brexit planning, the majority of UK businesses are adopting a “wait-and-see” attitude. Among those who have started to do some type of strategic planning, the most common “what if” scenario being evaluated is what to do if the UK simply cannot reach a deal with the EU. Among the CFOs throughout the UK and Europe who responded to our survey, 38 percent already have planning in place for the “no deal” scenario.

That’s a tricky balance for multinational CFOs, who must weigh future profit forecasts against a range of different potential trade scenarios that could range from ultra-low tax, laissez-faire economics, to middle-of-the-road reform, to absolutely no change at all.

As we’ve seen with the U.S. tax reforms, a swift, clear-cut policy change typically has a rapid-fire, direct impact on large corporations. In the case of this specific legislation in the U.S., which was decidedly pro-big business, the response was an immediate surge in the stock market, companies granting big employee bonuses with their tax savings, and immediate impacts to public company earnings forecasts.

A big part of those moves, of course, was driven by prospect of a lower corporate income tax rate. But there was also a psychological component built into the simple fact that there is now certainty on U.S. tax policy after years of indecision.

Businesses do not like uncertainty. That’s why Brexit caused such immediate tumult in stock and currency markets when the initial vote results were counted. Shortly thereafter, a Reuters survey found that 10,000 finance jobs are likely to be shifted out of the UK as a result of Brexit.

The fact that this uncertainty will now be a predictable part of doing business in the UK until at least 2021 is not great news for CFOs and other business leaders. But the real linchpin in all of this is the UK/EU trade deal. If Brexit negotiators can quickly reach an agreement on how their future relationship will be structured, that would go a long way toward allowing business leaders to adjust their plans accordingly.

For his part, the EU chief Brexit negotiator, Michel Barnier, has said he hopes to conclude negotiations on the transition period by March of this year and reach a final plan for the future of trade relations between the UK and EU by October.

During that time, big company CFOs would be wise to keep a close eye on the negotiations for indications of whether the UK is on track to become the EU island of economic freedom or something closer to Canada. The results will have a huge impact on the strategic decisions global businesses will need to make in the coming months.

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