How the euro-shilling-dollar triangle affects exporters

 By MUNGAI KIHANYA

The Sunday Nation

Nairobi,

23 October 2011

After writing about the effect of the weak shilling on the export business two weeks ago, I read yet another newspaper report this week where an exporter was arguing that his industry was facing a peculiar problem. They sell their products in Europe and get paid in Euros. However, a significant portion of their expenses are incurred in US dollars. Thus, he explained, they are suffering as a result of strengthened dollar. I checked the veracity of this information and here is what I found.

Suppose you are the exporter selling your product in Europe at EUR10 each. In January of this year, the euro was exchanging at an average of KSh104.50, therefore you would have been paid KSh1,045 per piece.

Now let’s assume that your costs are KSh200 and US$5. In January, the dollar was exchanging at KSh80.80 thus your total costs were KSh200 + KSh404 = KSh604. This left a profit of KSh 441.

In October, the situation changes: the dollar has short up to KSh102. Therefore your dollar costs rise to KSh510. In addition, due to the inflation, your shilling costs also increase to about KSh226 – I have used the change in the average Consumer Price Index since January to get this.

Thus your total cost is now KSh226 + KSh510 = KSh736. This is quite a significant increase from the KSh604 in January; but has you profit declined?

Well, you are still selling the product at EUR10 and the euro has also appreciated against the shilling. It is currently exchanging for about KSh137. Therefore, you will get KSh1,370 per item exported to Europe. Thus your profit is now KSh1,370 – KSh736 = KSh634. Now this is higher than the KSh441 you were making in January.

Still, one might argue that you buy the dollars directly using the Euros; that is you don’t first change the Euros into shillings and then into dollars. If that were the case, then this is how the figures would change.

In January, one Euro was exchanging at an average of US$1.33 in the international markets. Thus the US$5 would have cost you about EUR3.76. Subtracting this from the EUR10 selling price would have left you with EUR6.24.

You would then change these Euros into shillings at the January rate of KSh104.5 and get Ksh652. Finally, you would pay the KSh200 local cost from this and be left with a KSh452 profit.

In October, the Euro is exchanging for US$1.37, thus the US$5 will cost EUR3.65. At this point, it is important to note that the Euro has actually strengthened against the dollar, therefore any exporter being paid in Euros and paying expenses in dollars must be happy. How happy?

Deducting the EUR3.65 from the EUR10 selling price leaves you with EUR6.35 (compare this to the EUR6.24 of January). At the current exchange rate, this converts to KSh870. Finally, you subtract the inflation adjusted local cost for October (KSh226) and you are left with a profit of KSh644 – much better than the KSh452 you made in January.

I rest my case.