the influence of commodity and market rates on business decisions

1 January 2010

The credit crunch has led to some enormous moves in many market rates. To pick out two, let us take oil and sterling.

Oil (in US Dollars)

Sterling trade weighted index (Jan 2005 = 100)

Source: Bank of England

With regard to oil, leaving aside the enormous peak in 2008, the oil price has roughly doubled since 2005. It is likely to be in a secular trend of increase in the future. This has implications for firms where transport costs, for example, play a large part in the cost of production or distribution. In the long run, the increased cost of oil will feed into costs, even if shippers avoid price rises in the short term.

With regard to sterling, it now trades at about 80% of its long run value. Decisions taken over the last few years might now be reviewed. For example, any shifting of basic manufacture to the Far East or other destinations based on cost might now not reflect such a cost saving.

There is some evidence that manufacturers are looking at relocating some activities back to the UK. For further reading see this Sunday Times article.

The role of the treasurer and these market rates in these decisions is worth some review. Firstly, the market rate for oil or sterling or other commodity will be just one of many factors in a business decision. Other factors will include manufacturing quality, location of customers and suppliers, management and staff sourcing as well as the corporate finance aspects such as availability of capital, tax rates and remitability of profits. Against this context market rates may seem minor but might be a tipping point in a decision. Secondly the treasurer must indicate the risks surrounding any decision made on market rates. Rates do not stay stable and the trends seen may even be reversed. Nevertheless the treasurer must be involved in decisions of this nature.