HEFCE : Publications : 1999 : 99/15 - Implications of the euro for higher education institutions

1. This guide has been written by Price Waterhouse Coopers, and was commissioned jointly by the HEFCE, the Committee for Vice-Chancellors and Principals (CVCP) and the British Universities Finance Directors' Group (BUFDG).

2. It is designed to help managers of higher education institutions identify the likely impact of the euro on their institution. It sets out the actions that may be required to react to the opportunities and threats created by this key change to the European business environment.

Key points

3. On 1 January 1999, 11 European Union countries formed an economic and monetary union (EMU) and introduced a single currency (the euro). Member countries will share a single interest rate, set by the European Central Bank, and a single foreign exchange rate policy.

4. The United Kingdom is not currently a member of the EMU.

5. Most higher education institutions are likely to be affected by the introduction of the euro, at both a transactional level and in relation to their overall business environment.

6. Institutions must consider the strategic implications of the euro. These include the impact on their pricing strategies and ability to attract 'eurozone' students; their position in the international marketplace; their relationships with students, research sponsors and other customers, and suppliers.

7. There are a number of operational implications for institutions. These include accounting for the euro, taxation issues, treasury management and banking implications, legal issues, staffing issues, fraud risks and systems implications.

Introduction

Background

8. On 1 January 1999, 11 of the 15 European Union (EU) countries formed an economic and monetary union (EMU) and introduced a single currency (the euro). The 11 countries which joined (referred to as the eurozone) are: Austria, Belgium, Finland, France, Germany, Ireland, Italy, Luxembourg, Netherlands, Portugal and Spain.

9. Member countries locked the exchange rates of their existing national currency to the euro, using rates set on 31 December 1998. However, euro notes and coins will not be issued until January 2002. Until then the old national currency notes will continue to circulate, with their value in euros completely fixed. These will cease to be legal tender on 30 June 2002.

10. The 11 member countries will share a single interest rate, set by the new European Central Bank (ECB) and a single foreign exchange rate policy. The ECB also assumed responsibility for the monetary policy of member countries.

11. The United Kingdom (UK) opted not to join the eurozone at its formation. Arrangements for joining the single currency after 1 January 1999 will be negotiated at the time of application; although, as the euro will already be in operation, the timetable for changeover may be shortened.

12. The UK, together with three other EU member states remains outside the new eurozone. The other states are listed below with the reasons for their decision:

Sweden - Sweden has no formal opt-out from the EMU. Its decision not to join is largely attributed to a perceived lack of support for membership among the Swedish people
Denmark - like the UK, Denmark has negotiated a formal opt-out from EMU, contained in the Maastricht Treaty. This opt-out can only be removed by a referendum, so entry is unlikely to occur until a majority of the Danish people are perceived to support such a decision
Greece - Greece wished to join the EMU in the first wave but its economy fell some way short of achieving the criteria for EMU membership. The government is following economic policies intended to ensure that it meets the criteria and thereby achieves membership as soon as possible.

Implications of the euro for higher education institutions

13. Although the UK is not participating in the first wave of 11 member countries adopting the euro, most higher education institutions (HEIs) are likely to be affected. How they are affected will vary, depending on the range and nature of their transactions with countries in the first wave.

14. Examples of transactions which may be affected by the introduction of the euro in the short-term are:

transactions with the European Commission
recruitment of students from the 15 EU member countries (even those not participating in the euro will be able to use it if they wish)
research contracts with, or based in, those countries
other operations or joint ventures based in the 15 EU member countries.

15. The euro will also have a wider impact upon the overall business environment:

cheaper transaction costs - countries in the eurozone will no longer have to change currencies when conducting business with one another
certainty of exchange rates - currency fluctuations will no longer affect eurozone countries when trading with one another
transparent prices - different charges for the same goods and services in different eurozone countries will become obvious.

16. In the short term, most institutions will be able to account for the euro as they do currently for other foreign currencies.

17. In the longer term, all institutions will have to consider the possibility that the UK will join the EMU, and should reflect both options in their strategic planning.

Strategic implications

18. The full economic impact of the introduction of the euro will not be known for some years. The move towards a single European economy may lead to institutions increasingly recruiting students from across the whole of the EU. Similarly, employers might increasingly recruit graduates from across the whole of the EU, rather than mainly from the home country. Increased labour mobility is being encouraged.

19. This presents an opportunity for HEIs:

to consider whether they meet the needs of potential students and employers across Europe
to decide, for the purpose of strategic planning, where they wish to position themselves in the European higher education sector and how to achieve this, for example by the formation of new international links.

20. The introduction of the euro will also have considerable impact upon internal strategies for:

pricing services
handling relations with customers, including students, research sponsors, European grant providers, and customers for commercial services such as conference provision
dealing with suppliers.

Key questions

21. The following table contains a number of key questions, intended to identify areas of significant activity where institutions may need to take action to address the implications of the euro.

Question¹	Significance²			Paragraph references
	High	Medium	Low
To what extent is demand for your services price sensitive?				22- 29
How much competition do you face from eurozone institutions?				30- 31
To what extent is demand for your services driven by economic growth?				32- 33
What proportion of your supplies is purchased from eurozone companies or imported from Europe?				34-35
What are your European franchise partners' expectations?				34-35

Notes

1. These questions should be answered for each of the institution's main services, for example teaching, research and consultancy. Some institutions may also need to consider the questions for different subject groups: the price sensitivity for some courses is considerably less than for others, where there is less competition.

High:	should be incorporated into planning
Medium:	consider when planning
Low:	move onto next question

Pricing services

22. By creating price transparency, the eurozone will allow potential students and purchasers of research to compare prices between institutions in member countries with little difficulty. The price-sensitivity of a particular course at an institution will vary depending on its profile and that of competitors. Depending on the price sensitivity and the prices charged by the institution relative to those of its competitors, the introduction of the euro brings either an increased risk or an opportunity, as consumers may be drawn towards the cheaper courses.

23. Where HEIs have the ability to set prices for tuition fees, research and other services, these prices should be reviewed at an early stage, regardless of whether the UK joins the eurozone or remains outside.

24. The review of institutions' pricing strategies could reach one of three, broad conclusions:

cut prices to gain a competitive advantage
maintain prices as the market for the service has not been significantly affected
increase prices and aim to maintain business by stressing the quality of the research and education being provided.

25. Institutions that offer services at different prices throughout the eurozone will need to evaluate the implications of any significant differences that become apparent.

26. Institutions that have little direct business with member countries will still be affected indirectly by the introduction of the euro, as changes to prices are likely to be made by their suppliers.

27. Increased transparency of prices, which may provide an opportunity to achieve reductions in non-pay costs, and the need to reposition the price of services, are of such importance that many private sector companies have decided to undertake a full review of their pricing strategies. This involves considering wider issues relating to product positioning within a market. Some organisations may attempt to maintain different prices across the eurozone by differentiating between the services being offered in individual countries.

28. Any such reviews will need to recognise that the EMU will provide competitors based within the eurozone with certain advantages:

UK institutions will still be facing exchange rate risks when dealing with European customers
eurozone members will be dealing in the same currency when trading with one another, and this will eliminate the cost of converting from one currency to another.

29. It has been suggested that some organisations within the eurozone may want to carry out all their trade in the euro from 1 January 1999. They will plan to operate with no exchange rate risks and will opt to buy and sell services only in euros. This may put pressure on UK HEIs to price research and tuition fees in euros rather than sterling, thereby accepting the exchange rate risk.

Impact on customer relations

30. Price transparency creates both an opportunity and a threat for UK institutions:

it will make it easier for students and research sponsors to shop around. If a UK institution finds that its competitors offer cheaper prices, it may have to review its marketing strategy accordingly
alternatively, it could reveal that an institution's services offer good value for money. This may create an opportunity to expand existing services or offer new ones. Such a strategy will create new marketing needs, such as for time to develop courses and products, or for staff to develop the new language skills required to exploit new markets.

31. Institutions with a small number of large value contracts in the eurozone will be highly dependent upon changes to customers' needs as a result of the EMU. It is essential that such institutions are proactive and communicate at an early stage to establish customers' needs and expectations post 1 January 1999, and also to outline their own proposals for dealing with the changes resulting from the EMU. There is a danger that institutions may become too focussed on internal processes for adapting to the euro, and might overlook the interests and expectations of key customers.

Opportunities for expansion

32. The introduction of the euro will also present opportunities for expanding services. The reduction in transaction costs, such as the cost of converting from one currency to another and hedging to reduce foreign exchange rate exposure, should increase the profitability of companies in the private sector at a micro-economic level, boosting the macro-economies of member states.

33. Increased economic growth should create opportunities for HEIs to offer more services, for instance research and consultancy provided directly to individual companies.

Impact on suppliers and procurement

34. HEIs will need to consider the effects of the EMU upon their suppliers - of consumables, equipment and franchised provision. Suppliers operating within the eurozone may want to amend payment arrangements to move from sterling to the euro and thus transfer the exchange rate risk to the institution. Such a change would also require new systems to process euro transactions.

35. HEIs will also have an opportunity to review procurement arrangements to establish whether value for money is being achieved. Increased price transparency may enable more meaningful comparisons to be made between suppliers in different eurozone countries, and may also allow institutions to negotiate lower prices, as suppliers will be benefiting from the cheaper cost of transactions and stable exchange rates.

Conclusion

36. The EMU will lead to increased competition, not just within the eurozone, but also for all transactions involving one eurozone party. The changes may force institutions to develop more defensive strategies or they provide opportunities for expansion. Given that the changes are so wide reaching, many organisations are seeing the EMU as an opportunity to undertake a wider review of European strategy, which takes into account other issues such as EU enlargement and single market development. Similarly, organisations are also using the EMU as the catalyst to undertake other changes, such as procurement reviews and rationalisation of treasury operations.

Operational implications

37. The EMU will lead to a number of important changes that will affect individual support departments and systems in institutions. These include:

accounting for the euro
taxation matters
treasury management, including the cost of finance and banking arrangements
contractual and legal issues
staffing issues
fraud risks
amendments to systems.

Key questions

38. The table below summarises the main questions relating to operational issues:

Question	Significance¹			Paragraph references
	High	Medium	Low
To what extent are you aware of the correct method of accounting for the costs relating to preparing for the euro?				39- 40
To what extent do you know how to convert sterling and other currencies into the euro and vice-versa?				41- 44
How significant are any subsidiaries or joint ventures in the eurozone, which will prepare financial statements n the euro?				45- 46
To what extent are you aware of the implications on tax payments?				47- 48
To what extent does the institution incur significant bank charges relating to overseas transactions?				49- 55
How many foreign currency contracts are likely to be affected?				56- 60
How many staff will require training?				60-61
What volume of cash transactions is in European currencies other than sterling?				64-66
To what extent have systems been reviewed for euro compliance?				67-73
To what extent can euro compliance work be combined with Year 2000 preparations?				74

Notes

High:	should be incorporated into planning
Medium:	consider when planning
Low:	move onto next question

Accounting for the euro

Costs of systems changes

39. The European Commission issued the authoritative guide on accounting for the euro, in July 1997. This was intended to standardise accounting treatments across the EU, although a number of issues are subject to interpretation by individual member states.

40. It should be noted that existing UK legislation and accounting practices generally provide a sound framework for accommodating the introduction of the euro. 'Urgent Issues Task Force Abstract No 21: Accounting issues arising from the proposed introduction of the euro' details the main relevant accounting rules. The Institute of Chartered Accountants in England and Wales (ICAEW) has also produced a 'Euro Guide - Accounting Implications' which gives detailed advice. The most significant issues identified are discussed below.

Any expenditure relating to modifications to systems and assets to accommodate the euro should be written off to the income and expenditure account as incurred. This includes the costs of staff training, software modifications and providing information to customers.
The cost of modifying assets should only be capitalised when an institution already has an accounting policy to capitalise assets of the relevant type, and only to the extent that the expenditure incurred has resulted in a clear enhancement of the asset's capabilities.
The more stringent definition of a provision established by FRS 12 'Provisions, contingent liabilities and contingent assets' states that a provision should only be recognised when 'an entity has an obligation (legal or constructive) to transfer economic benefits as a result of past events. In relation to the euro, this has been interpreted as indicating that any general provision for the costs of introduction would be inappropriate.

Conversion between the euro and other currencies

41. The process of conversion between the euro and national currencies is another key accounting issue. The rules on conversion and rounding between the euro and the 11 members' national currencies apply to all 15 EU states, not just the members. Conversion rates were adopted as one euro expressed in terms of the national currencies of member countries, to six significant figures. For example, using purely illustrative exchange rates: EUR1 = DM1.84763 or EUR1 = BF40.7937.

42. Conversion rates between member states' currencies were established using the existing bilateral central European Exchange Rate Mechanism (ERM) rates on 31 December 1998. These rates are permanent, as the former national currencies and the euro will effectively be forms of the same currency. The initial exchange rate between the euro and non-members' currencies was also established at midnight on 31 December 1998.

43. The exchange rate between sterling and the euro will continue to fluctuate as it does already for exchanges between sterling and foreign currencies. Institutions will be able to exchange directly between sterling and national currencies, or exchange sterling for the euro and then convert that euro amount into the national currency (referred to as the triangulation conversion rules).

44. The ICAEW Euro Guide provides worked examples of conversions and rounding involving the euro, national currencies of members, and currencies of non-members. Should any institution have to perform such calculations itself, this provides useful guidance.

Impact on institutions' financial statements

45. Where HEIs have subsidiaries or joint ventures in eurozone states, the financial statements of such bodies will be prepared under local rules and then restated according to UK principles for inclusion in institutions' accounts.

46. The introduction of fixed exchange rates may result in the realisation of exchange rate differences in the financial records of institutions. This should not impact upon UK institutions, but European ones will have to recognise any gains and losses on exchange rate conversion. The concept of prudence should be applied here: losses should be recognised as they occur, while positive gains should be deferred until realised as cash.

Taxation

47. The Inland Revenue and Customs & Excise have accepted that many UK organisations will use the euro in business dealings and have agreed to accept tax payments in the new currency. The Government will bear any administration costs and the payment will be converted into sterling at the prevailing exchange rate at the date of receipt of the fund by the Inland Revenue or Customs & Excise, rather than the rate at the time payment was raised by the taxpayer.

48. Tax invoices must continue to show sterling equivalents after 1 January 1999 to preserve the relationship between input and output VAT. The majority of tax returns will also have to be completed in sterling.

Treasury management and banking

49. Although the UK did not join the EMU on 1 January 1999, some institutions may be asked to make or receive payments in the euro from trading partners in member states. While there is no legal obligation upon UK organisations to agree to payments in other currencies, competitive pressure may well start a gradual acceptance of such payments. If a decision is made to trade in the euro, treasury plans will need to be based on expected patterns of income and expenditure, pricing strategies, and the requirements of suppliers and customers.

50. After this analysis has been completed, institutions will then need to establish banking arrangements that:

allow for exchange risk
enable liquidity to be managed most effectively
minimise banking and finance charges.

51. Banks will be competing in this area, and institutions should be able to get a good deal by shopping around. When considering services on offer from banks, the following issues need to be considered:

Banking arrangements - institutions with accounts in the currencies of member states may want to consolidate them. Existing ecu accounts will automatically become euro accounts on a 'one-to-one' basis.
Holding surpluses - the merits of holding cash deposits in euros. Depending on the volume of transactions, receipts in euros should be held in that currency and used to make euro payments in the future. Alternatively it might be better treasury management to convert them into sterling.
Money transmission - CHAPS Euro, a same-day payment system, will become operational in January 1999. Most major banks will be members of this system. CHAPS Euro will also link into TARGET, the European Central Bank's system that links European countries' payment systems. BACS operates an automated system for credits denominated in euros. However, a system for euro direct debits will not initially be available.
Cross-border payment systems - when considering the most appropriate payment system, institutions will need to consider the urgency of the payment, whether electronic means or paper should be used, and the price of the services on offer.
Banks will now process cheques denominated in euros. Euro cheques will look different from sterling cheques and will be subject to the same rules as cross-border cheque payments are now.
Euro credit cards will also become available and operate in the same way that foreign currency credit cards do now.

52. Institutions will retain the right to expect payment in the same currency as that used to invoice students and research sponsors. There is no obligation to accept payment in euros if an invoice was issued in sterling. Banks will convert one-off payments, but if euro payments become regular, other options may need to be considered.

53. Borrowing in the euro will be possible. Institutions may be tempted by the lower interest rates likely to be on offer within the eurozone. However, this should be approached with caution, as the borrower will become exposed to exchange rate fluctuations, which can be particularly damaging when an institution has no euro income stream.

54. The strength of the euro in relation to non-member currencies will be of key importance when considering the merits of becoming involved in European projects.

55. National government bonds of member states will continue to bear different interest rates to reflect country risks. Treasury management functions will need to be able to separately identify instruments in euros in order to track country risk.

Contractual and legal issues

56. Most institutions are unlikely to face legal problems as a result of the euro's introduction. A number of straightforward rules apply for contracts that refer to national currencies that are due for replacement by the euro:

the contract will continue, with the payment due in euros converted at the fixed conversion rate
fixed interest rates will not change, even if the currency that the loan or investment is denominated in has been replaced
the vast majority of other commercial contract terms will be unaffected.

57. These rules should apply to ecu contracts with the European Commission, such as those for European Social Fund grants or for research. The conversion rate between the ecu and euros will be 1:1. However, this area is complicated by the fact that the ecu is based on a slightly different group of national currencies to the 11 members of the eurozone. Institutions should check to see how the ecu is defined in contracts, as this will determine whether the 1:1 conversion is applied or not.

58. However, as a new currency, the euro may behave differently in world financial markets from existing national currencies. This will have a commercial impact upon contracts denominated in national currencies after 1 January 1999, as they will be locked to the euro.

59. During the transitional period from 1 January 1999 to 31 December 2001, payments under contracts in the national currency unit will continue to be made in that unit, while contracts under the euro will be made in euros. Banks will convert between the two units at the fixed conversion rate.

60. Institutions should identify any contracts that refer to currencies due to be replaced by the euro. There are unlikely to be legal implications arising from this change, but the economic and commercial implications of switching to the euro need to be considered. However, there are certain areas of business where specific legal advice may be needed:

contracts which refer to currencies replaced by the euro and governed by the legal systems of countries outside the EU, and particularly outside the major industrial states
financing contracts using currencies due for replacement, or interest rates linked to those currencies
buying or selling of systems or other products specified as 'euro-compliant'. There is no generally accepted definition of what this means, so it should be specified in the contract.

Staffing issues

61. If institutions employ staff in the eurozone, they will have to be paid in euros by 30 June 2002 at the latest. However, a policy of making payment in euros may be adopted from January 1999 onwards. Any policy on payment will need to take into account the following:

local staff may not want to receive payments in euros until all goods and services are priced in them
cash payments cannot be made in euros until 2002 as euro notes and coins will not be available
institutions must decide whether staff in states outside the eurozone should be paid in euros.

62. The euro will highlight wage differences in the same way as price differences. The establishment of works councils at many organisations within the eurozone will provide a forum to discuss such issues.

63. Staff training needs should also be considered. This may include being able to understand institutional policies on the use of the euro, dealing with customer inquiries, or merely being able to recognise the new notes and coins in circulation.

Fraud risks

64. The transition to a new currency will create new opportunities to commit fraud, due to the change itself and the scope for confusion during the dual currency period.

65. The counterfeiting of notes has been identified as a particular problem, as people will not be familiar with the new notes when they first come into circulation.

66. Institutions need to consider the risks of fraud in their cash transactions involving the euro and, where these are considered to be substantial, to develop appropriate prevention strategies.

Amendments to systems

67. Any amendments to systems should be driven by the business requirements of the institution. Any institution changing its accounting system should consider, as part of the specification of the new system, whether it could meet the accounting requirements if the UK adopts the euro, that is, whether it could process dual currencies and apply the triangulation conversion rules.

68. Software is available that applies the euro conversion and rounding rules. In the short-term, however, unless an institution is likely to process a large volume of transactions in euros, the costs of purchasing such software may well outweigh the benefits.

69. The euro keyboard symbol can be added easily to most software applications by downloading it from the worldwide web onto the font database in the operating system.

70. Institutions will need to develop their own policies on pricing, competition, and treasury management before considering an IT strategy, as these requirements will drive the technical specification.

71. In the short term, institutions may want to follow the option of making no changes to existing financial systems, and paying banks to deal with isolated euro payments. However, if the level of transactions is higher than expected, there may be excessive handling costs.

72. A compromise may be to convert systems' inputs and outputs to acceptable formats. This is a cheap option that preserves the reliability of existing systems. However, there is a danger of confusion if the system stores numbers without a currency marker. Data entry screens will need to be clearly currency labelled.

73. Full multi-currency software may prove attractive if existing systems are due for replacement. However, this may be expensive, and extra functions may not add to business efficiency, particularly in the short term.

74. It has been suggested in some quarters that work on the euro can be combined with that on the date change for the year 2000. However, it should be noted that the year 2000 is a purely technical IT issue, while the introduction of the euro is also a strategic challenge that will impact upon pricing decisions and competition policy.

Conclusion

75. A wide range of operational factors need to be considered by institutions when preparing for the euro. Before any action plans can be developed, the following questions need to be answered:

when will accounting in euros be implemented?
will services be priced in euros?
how much information do staff need?
what communication is required with customers and suppliers?

Bibliography

76. There are some useful short guides to the introduction of the euro:

Euro guide - Accounting Implications (ICAEW 1998)
Practical issues arising from the introduction of the euro - Bank of England quarterly pamphlet.

77. The most up to date information can be obtained from the Internet. There is useful reference material on the following web sites:

HM Treasury: http://www.euro.gov.uk
Institute of Chartered Accountants in England and Wales (ICAEW): http://www.icaew.co.uk
EC DG Information Society: http://europa.eu.int/information_society/index_en.htm

78. The Treasury and Bank of England web sites contain links to English language sites in most EU states which provide details of local preparations.

Implications of the euro for higher education institutions