Russia's invasion of Ukraine this week sent shock waves around the world. Accounting and finance professionals are now bracing themselves for economic shocks that are sure to follow.
It's too early to predict the human toll, the long-term severity of the crisis, or the duration of the hostilities, but the short-term implications are clear. Sanctions are being levied, and the value of the rouble has plunged.
And as Russia is one of the world's largest oil producers, fuel prices are expected to surge throughout the world.
Bob Sannerud, CPA, CGMA, is CFO of air ambulance company Life Link III, which operates in the US states of Minnesota and Wisconsin. His company is bracing for a fuel cost increase, which seems inevitable.
The price of Brent crude oil, which surpassed $100 a barrel on Thursday before receding somewhat on Friday, "is going to have a direct impact on fuel," Sannerud said Thursday. "Last year, we spent somewhere around $1.5 million on fuel. Prior year, we spent $1.1 million. We're going to see that going up. And it's our single largest variable cost."
It's also far from the only concern related to commodities in the region. Ukraine is one of the world's top grain producers, and the region is a major producer of precious metals such as aluminium, nickel, copper, palladium, and platinum.
The volume of commodities from those markets will not easily be replaced if they are unavailable due to the conflict, according to Mark D. Mishler, CPA, a principal at CFO Resource Management in New Jersey in the US and an adjunct professor of accounting, finance, and management at Seton Hall University and Rutgers University.
"This isn't something like a factory closing and now you're trying to replace that factory output," Mishler said. "When you consider the percentage of the global export market in metals from Russia and Ukraine and just food from Ukraine, there are no alternative replacement sources, which means somebody is going to do without. And, compounding this negative effect, costs for these key products will increase."
Supply chain woes continue
The upheaval related to Ukraine is especially difficult because it comes as businesses across the globe are still trying to regain their footing amidst the COVID-19 pandemic, which tested their continuity and resiliency.
From a big-picture perspective, those topics should remain top of mind, said Paul Walker, CPA, Ph.D., an enterprise risk management (ERM) expert who leads the Center for Excellence in ERM at St. John's University's Tobin College of Business in New York.
"The subject of resiliency has come up in the risk conversation more than ever, because of COVID," Walker said. "People should be thinking now about business continuity, resiliency, and global supply chain inputs."
Just as global supply chain woes related to the COVID-19 pandemic were starting to soften, the situation in Ukraine is likely to cause more supply chain slowdowns in Europe.
The pandemic-related supply chain problems were predominantly due to factors such as manufacturing facility shutdowns due to COVID, transportation constraints, port capacity, and container availability, said Ash Noah, CPA, FCMA, CGMA, vice-president and managing director–CGMA Learning, Education & Development for the Association of International Certified Professional Accountants, representing AICPA & CIMA. He said those factors won't necessarily get worse due to the Ukraine situation, but he said the ongoing shortages of semiconductor chips and raw materials will cause further disruption.
"Most companies have or would have taken steps to source alternate supply sources and had greater levels of inventory," Noah said. "Those that are directly impacted by the invasion of Ukraine, if not already, will be looking to re-route their supply chains or source new suppliers. Ultimate mitigation is that cost increases are passed on to the consumer, further fuelling inflation."
Forward-thinking company leaders who anticipated and planned for potential trouble in this area may have more options. For others, finding new suppliers may be difficult and costly at this stage because of the large percentage of the market occupied by Ukraine and Russia in the areas of fuel, food, and precious metals.
"When that much of the market disappears, it's not as simple as substituting a supplier," Mishler said. "This is an entire supply. Not a supplier, but supply."
In this environment, successful tactics for pricing and treasury management may include:
- Imaginative methods for passing on price increases: Noah said that when contract pricing commitments need to be met, companies will consider ways to raise prices whilst meeting service-level agreements. "One might see the re-emergence of fuel surcharges and other similar surcharges, especially in transportation and related verticals, as a vehicle to pass on price increases," he said.
- Halting capital investment projects that have marginal financial returns: Mishler said that cost structures are going to change unfavourably, which will reduce operating cash flow. At the same time, the increase in risk and uncertainty is going to increase discount rates. "Both of those combined will reduce the attractiveness of capital investment," he said.
- Investing in fixed assets: "The cost of capital goods will be facing upward pressure," Noah said. "In an inflationary cycle, holding on to cash is the wrong strategy. One will most probably see an uptick in replacement/replenishment of fixed assets and increased acquisition activity."
- Creating flexibility in contracts: "It's critical at this time," Mishler said, "for businesses to include raw material passthrough pricing clauses in their customer contracts. The cost of materials such as precious metals might rise dramatically at this time, and you don't want your company to take a loss because you are stuck paying for those increases without the ability to pass them along."
Cybersecurity remains a focus
Businesses have been warned for weeks that they needed to shore up their cyber defences in preparation for a potential Russian invasion of Ukraine. There is potential for cyberattacks that could threaten key government, infrastructure, and business assets connected to the internet throughout the world.
Cybersecurity expert Joel Lanz, CPA/CFF/CITP, CGMA, said that whilst business should have been working to strengthen their cyber defences before the invasion, there are several steps he was taking Thursday that businesses could also do:
- Make sure backups are up to date.
- Review incident response plans.
- Make sure patches are in place and up to date as much as possible.
- Monitor and review log activity.
- Send reminders to staff for the need to be aware of the heightened risk for malware and to avoid clicking links.
- Reread user control considerations from the System and Organization Controls (SOC) reports for cloud and third-party apps.
- Review insurance claim procedures and ensure the business has what it needs to file a claim.
- Change passwords for supervisory accounts, just in case.
Those recommendations are in line with guidance published by the UK's National Cyber Security Centre (NCSC).
ERM remains critical
Many of these strategies and tactics would have been anticipated in advance of the current crisis by organisations with ERM programs that are well designed and maintained.
"A challenging part of risk management, to many companies, is that you focus on what you can see," Mishler said. "By doing this, there is a great chance you will miss a key risk that you should identify. For example, if your company is dependent on copper, proper risk management asks what happens if 10% of the world's copper market goes away? Those are the things you need to be looking at. It's not country-specific to Ukraine; instead, it's what happens if this occurs in the global market."
If the pandemic didn't lead to a careful examination of the likelihood and impact of a wide range of risks to your organisation, the crisis in Ukraine should. Because risks are constantly shifting in an environment where change is constant, the examination of risks and how they can be mitigated is an ongoing process.
As organisations consider second- and third-level risks, the threat posed to the overall economy may be one of the top concerns.
"Is this something that could derail our recovery? Sure," Walker said. "For a lot of companies, their biggest risk is the economy."
With that in mind, the events that are occurring in Ukraine may require extra vigilance related to a wide range of risks. The world economy is changing rapidly.
In email exchanges with risk executives this week, Walker saw the word "monitor" a lot.
"We need to stay very tuned in to this," he said. "It could dramatically change tomorrow. What we think are the risks now might be accelerated or escalated. Staying on top of this from a risk perspective was a message I heard a lot."
— To comment on this article or to suggest an idea for another article, contact Ken Tysiac at Kenneth.Tysiac@aicpa-cima.com.