Business Irish

Friday 24 January 2020

'People underestimate what Brexit would mean to Ireland'

He's at the coalface of Ireland's hard-pressed SME sector. Michael Costello tells Colm Kelpie currency fears and wage demands could create the perfect storm for Irish firms

Michael Costello at the BDO HQ in Dublin. Photo: Frank McGrath
Michael Costello at the BDO HQ in Dublin. Photo: Frank McGrath

Growing client numbers by 10pc isn't good enough for Michael Costello. He's hungry for more. BDO Ireland's managing partner wants to build the firm's expertise in financial services and technology in particular, through mergers and high level hires.

"That's something we're interested in doing," he says. "I think the growth story is good at 10pc, but we'd like to add to that and make this grow even faster."

BDO pushes itself as being a different beast to the bigger consultancy players. "We're not trying to be all things to all people. We're focused on that mid-market, and that's pretty unique. We're not trying to do multinational stuff one minute, and then owner-managed businesses next. We're focused. Our DNA is owner-manged business and we understand the entrepreneur, and the family business."

BDO's core market is largely home-grown companies focused on export and international opportunities.

Although some of the firm's clients are domestically focused, particularly in the hospitality sector, almost all are exporting firms, targeting growth internationally.

And the big risk to their business over the coming 12 months? Take a guess. Yep, Brexit.

For small and medium-sized firms, the impact is already clear to see. Sterling has taken a dent since November, with the value of the UK currency weakening from 69 pence per €1, to around 79 pence. It's recovered a little in recent days, as the momentum seems to be leaning toward the remain camp. But with just under two months to go until polling day, that could swing again.

Those currency fluctuations impact on Irish exporting firms' margins. "In September, hardly anyone was worried about it, and now about 80pc [of businesses] are," Costello says.

"This is very real for them. The issue about trade barriers and all that is less immediate. But the currency issue is hitting people now. It is a big thing for our clients."

If British voters opt to pull out of the European Union on June 23, sterling will take a much heavier battering. Investment giant Goldman Sachs has predicted the value of the UK currency could plummet by as much as a fifth.

That could push the euro up into the 90 pence range. Some analysts fear it could even reach parity.

But what can businesses do? If the Government can't implement a fully worked contingency plan because of the unknowns, how can a medium or small business? That's the problem, says Costello. "They are struggling to contingency [plan]. That's the reality," he says.

"People are focused on the fact that they may not be able to count on profit margins, they may have more volatility on the currency as well. So they are talking to their banks about hedging, although the figures are very difficult to commit yourself to. A lot of businesses are fearful, and know that this is going to hit their business, but are a little on the side-lines in terms of what they should actually do."

And of course, there's the impact on businesses in Northern Ireland, where BDO also has a base.

For those firms, there is a fear of being isolated, both from Europe and the Republic, both of which are key markets for many northern-based businesses.

"People keep asking what are businesses doing about it [Brexit], and that's a really tricky question," Costello adds. "Contingency planning can only go so far. There are too many unknowns. People probably underestimate what it would mean to Ireland overall, in terms of the level of income and profitability of a lot of businesses." Costello says companies need to primarily hedge, and outside of that, remain as competitive as possible.

But in that sphere he sees some tough times ahead. Wage demands are increasing rapidly, he says. And that is going to put considerable pressure on companies. "We have increasing pressure on wages and I think that's not going to go away when we form a government. That snowball is rolling down the hill now already and won't stop, regardless of Brexit," he says.

"That could put pressure on Irish businesses for three or four years now, because there's a pent-up demand within some sectors and ultimately that will put pressure on profitability, on competitiveness and on the other side the revenues could be dropping."

Trinity economist Sean Barrett, in a recent article, questioned why, after having talked up the recovery, Government is so surprised about the wage demands.

It's a view shared by Costello. With talk of growth rates at 6pc and 7pc, he says calls for pay rises are to be expected. But employment is rising at a much slower pace. "So there's a bit of a squeeze coming for a lot of businesses, and people that are clued in are looking very carefully at that. Sometimes, they are looking at other sources of manufacturing and labour. Businesses that previously didn't look to go abroad in terms of production are starting to look at that," he says.

And then there's the perennial issue of SME funding. Access to credit is regularly cited as the biggest obstacle to growth for Ireland's small businesses. Although the statistics are improving, nearly a third of SMEs who apply for credit from banks are refused.

"I would say that the banks get wrongly beaten up about not being willing to lend," Costello says. "The reality is that they want to lend on the right terms. They don't want to over gear and they don't want to put too much pressure on a business.

"They will lend up to a sensible point. That usually means there's a bit of a gap, there's a bit of an equity gap. So the theory is that they [the business] should bring in outside equity. But there's a reluctance to do that. And I think there is also a reticence to deal with venture capitalists or people that they see as not culturally fitting their business."

And he says there's still the problem of loan applications not being properly prepared.

But change is afoot. More and more businesses, having secured external advice, are now gradually turning to other sources of finance, he says.

And the other cultural change Costello sees occurring is in the level of ambition. Traditionally, Irish entrepreneurs would sell on their business after hitting the €100m mark, he says. Now he's seeing a younger, much more ambitious breed emerging, who are more eager to see their firms expand and grow.

Costello knows small and mid-sized firms well. He used to run one. In 2004, his advisory firm, Costello McElroy, merged with BDO.

"We were doing well but wanted supports that went with a bigger firm," he says.

BDO offers a range of services, from tax and audit, to business services, recruitment and advisory. Costello says it has the largest tax department for mid-sized firms. And there are many tax-related changes and challenges coming down the road that businesses must grapple with, most notably the Base Erosion and Profit Shifting project from the Paris-based Organisation for Economic Cooperation and Development.

The advisory firm was quick to argue last autumn, when the Beps measures were announced, that although designed to combat corporate tax avoidance among multinationals, they will also impact small and medium-sized businesses looking to internationalise, or have already done so.

Tax is also a big issue both in the US and Europe, with the former taking issue with both inversions to Ireland, and what it views as unfair targeting of US firms by the European Commission. The issue has come up on the election trail in the US, with Donald Trump in particular decrying the fact that too many US Companies are leaving America for lower tax jurisdictions.

The US Treasury earlier this month moved to curb corporate "inversion" deals in which US firms buy foreign rivals to move their tax jurisdictions offshore.

Those changes were cited as scuttling a $160bn merger between US drug maker Pfizer and Dublin-based Allergan that would have shifted the combined company headquarters to Ireland.

Costello believes that move may finally have shut off the inversion route. "They've called time on the inversions now, so I don't think there's any more to be done there," he says.

"I think every US election tends to throw up an attack on the Irish tax system. Obama attacked it before, and then didn't do very much when he got in.

"I don't fear hugely a Trump presidency from an Irish tax point of view. The change that they needed to make was a US legislative change, and they've made it, in terms of inversions."

Costello is a fan of accountancy in terms of a business qualification. He speaks passionately about it, especially the varied and broad-based nature of the work. But students, he says, should consider doing the degree with IT, rather than say with a language, arguing that more and more of the work is computer based.

With five kids of his own, most of whom are in their teenage years, would he recommend the career?

"My father did accountancy before and he discouraged me as much as he could, and then I decided to do it.

"I'll probably do the same and discourage mine."

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