Growing your Business in Europe

I. European market

Europe remains an important market and a safe and profitable area to establish your business. The main benefit of trading in the European Union (EU) is the European single market. It is the largest international single market in the world characterised by:

  • harmonisation of regulations;
  • great competition in products and services;
  • few trade barriers;
  • reduction of business costs;
  • great business efficiency; and
  • elimination of anti-competitive practices

Once you have established a local enterprise in a member state of the EU, you have free access to the markets of all 27 other member states. This guide addresses some of the considerations you should look at when planning your activities.

II. Cultural differences

1. Introduction

When you plan to take your business to another country, you should carefully take into account the cultural differences and how to deal with them. The motto “Think globally, act locally” is as valid as ever. The various levels of culture (from macro to micro) within Europe can be broken down as follows:

  • European culture/identity
  • European cultural clusters (e.g. Anglo-Saxon Europe, Scandinavia, Northern Europe Southern Europe, Central Europe and Eastern Europe)
  • National culture (e.g. the Italian culture)
  • Regional culture (e.g. the specifics of Northern Italy)

In the section below we shall look at differences at the level of cultural clusters.

2. Time

Using time well means different things in different European countries. In most of Northern Europe and in Scandinavia, people try to organize their time so that they can focus on one thing, complete it, and then move onto the next. When the activity involves other people, it is important to plan how time will be used and to follow the plan. The characteristics are:

  • Timetables
  • Schedules
  • Time commitment
  • Privacy
  • Avoidance of interruptions
  • Separation of areas of life (for example: private/professional, work/family)
  • Punctuality
  • Implementation of plans
  • Prioritization
  • Lists

In Southern, Central and Eastern Europe, people try to be more effective by doing many things at once. They are usually comfortable with interruptions and distractions because it adds to the number of things they can link together at one time; in other words multi-tasking. Here are some characteristics:

  • Distractions
  • Interruptions
  • Personal commitments
  • Multitasking
  • Multiple conversations
  • Starting activities
  • Flexible implementation of schedules and plans
  • Spontaneity
  • Overlaps

3. Business implications

The difference in the way we use time can become a source of frustration. You may find it difficult to manage your schedule. You may find that the people you are meeting are late, or that they interrupt your meeting to deal with something else. They may become frustrated if you try to package time into neatly planned periods and they may see you as being inflexible. Inflexibility is often seen negatively because it suggests disrespect and a lack of cooperativeness.

When everything operates according to schedule, it can seem soulless, disregarding the personalities and not allowing for special situations. The timetable may not accommodate creative momentum: when people generate a creative atmosphere, it can suddenly be abandoned, because the next task is due. You may be judged according to your punctuality and be seen as unreliable if you are late, even if the delay is caused by your fulfilling personal commitments. However, both approaches exist to help people squeeze more out of a limited chunk of time. Both structure and flexibility can be used as ways of creating freedom and achieving success.

Meetings are a fantastic opportunity to get closer to your market and it is therefore important to get them right. Given the scope for cultural misunderstandings – as outlined above – when meeting your European partner you should seek to clarify what the mutual expectations are in relation to both the ultimate goal of the meeting and the process of getting there.

When setting deadlines clearly explain what it means to you to in terms of meeting the deadline and being on time.

4. Rules

The importance of “rules” and whether they are applied consistently is interpreted differently within European Cultures. In most of the Germanic countries and in Scandinavia, people believe that if a rule, law or procedure is in place, it will apply to all, irrespective of their status or occupation, consistently and without exception. The characteristics are:

  • Respect for existing rules and regulations
  • Clear, unchangeable contracts
  • Small print important
  • Rules more important than relationships
  • Trustworthiness depends on reliable facts and figures
  • Specifics are important

In Southern, Central and Eastern European countries people tend to trust relationships first before the exactness of the written word. Here the characteristics are:

  • The demands of the specific situation
  • Open, flexible contracts
  • Relationships more important than rules
  • The circumstances surrounding the contract or rule are more important than the substance
  • Situational interpretation

5. Business implications

The difference in the way we view rules can create frustration and conflicts in a range of situations: the degree of “certainty” of the written contract, the application of environmental, health and safety procedures across sites, or the standardization of human resource policies.

In general, the more literal, Germanic and English-speaking countries consider rules to be binding as written. This also assumes that the written word can capture facts and figures and all the “what if” scenarios – effectively imagining future possibilities and anchoring them in a written contract that anticipates changing circumstances. This assumes an ability to control our lives and destinies.

Southern European and Central European countries can interpret the written word more flexibly. A contract is a starting point; it is a snapshot of a particular moment with a particular set of circumstances. We cannot control all the variables in our lives, and a contract at best can only capture what we know as “given” for the moment. What may be viewed as “illegal” by some is viewed as “creative” by others.

“Rules” also affect the way in which hiring policies procedures are respected and followed in different countries and regions. Human resources departments establish job descriptions, competencies, hiring procedures and performance measures. These will be well-respected by “rule-abiding” cultures. Cultures that are more situational and relationship based may interpret “the best person” as “someone I know well”.

6. Power and responsibility

Power and the way in which is distributed and used is fundamental to understanding how to “get things done” in different cultural contexts.

In most of Northern Europe and Scandinavia power is distributed equally among members of society. This social egalitarianism is mirrored in company structures. Though there are different levels of responsibility, information is shared by going directly to the source. Power and information are contained within the role, not the person, and are accessible to all. The characteristics of “low power distance” are:

  • Power is distributed equally within society; equality is a value
  • Status is a result of merit
  • Privileges are earned, a combination of talent and hard work
  • Decision makers are approachable and available
  • Involvement of juniors in important decisions; consensus seeking
  • Authorities serve rather than direct people
  • What you have accomplished is important
  • Paternalistic style of management

In Southern, Central and Eastern Europe the more traditional model of power distribution has been hierarchical with centralized authority and decision making. The characteristics of “high power distance” are:

  • The power is in the hands of a few
  • Power is inherited and those in power are considered “elite”
  • Privileges are devolved to the powerful because of their high position
  • Hierarchic structure, with decisions made at the top
  • Resistance to authority not tolerated
  • Deference expected to people of higher rank and position
  • Who you know is important
  • Empowering style of management

7. Conclusion

We have discussed some of the cultural differences on a European level. Diversity creates possibilities and opportunities but you should at least consider the following:

  • Use of time: is a culture more linear in its time management and does it have a great respect for deadlines, or is it more multitasking with overlapping priorities and a flexible attitude to time?
  • Rules: what is a country’s attitude towards rules? Are they applied to all in the same way or are they more circumstantially determined according to time, place and who is involved.
  • Power and responsibility: does the power of decisions rest at the top of a pyramid in a centralized manner, or is power distributed more equally among individuals. Is the management style authoritarian or paternalistic, or one of empowering others to own and take responsibility?
III. Planning your expansion

1. Introduction

One of the most difficult strategic decisions for any growing business to make is if and when to start trading overseas. In the first instance, simply selling good to an overseas customer might create significant issues in terms of increased credit risk, possible duties and tariffs and adherence to local laws. Nevertheless, a business with a sound product or service would be neglecting its true potential if it did not look overseas for different markets. Many businesses will be dependent upon third-party sales agents in the first instance, where a high degree of trust may need to be established before an effective working relationship is created. If adequate market research has already shown potential sufficient to justify you creating your own overseas office, the business will be brought into a web of local labour law and commercial and real estate issues. In tax terms alone, compliance costs can easily add significantly overheads. The purpose of this section is to examine some of the potential pitfalls and opportunities inherent in overseas expansion and to provide some guidance.

2. Legal differences

For businesses setting up abroad, one of the biggest differences to come to terms with is local legal codes. Most, if not all, of continental Europe is founded on a civil law system based on written legal codes, rather than the British or Anglo-Saxon common law system based essentially on precedents created by judicial decisions over time. Whilst the impact of EU law has diluted this fundamental difference to some extent, certain concepts such as trusts and ideas such as separation of legal and beneficial ownership are often alien concepts in civil law countries. In addition, many continental European countries are quite protective of their workforce, offering a comfort blanket for employees, but at a heavy social cost in terms of payroll taxes and redundancy packages. In certain countries it is not uncommon for employers’ national insurance to be around 40 per cent on top of basic salary and for compensation for loss of employment to be up to a year’s salary.

3. Taxable presence

In the first instance it is important, in tax terms at least, to draw a distinction between trading with and trading in a country. In tax terms, it is only the latter scenario that will normally create a taxable presence. However, for VAT purposes it is often the case that an obligation to register will come about well in advance of direct tax reporting, for example, under the distance selling regulations. Failure to register at the correct time can lead to substantial penalties in certain countries. In theory, a taxable presence can be created by the same travelling salesperson with no fixed base, if he or she can conclude contracts on behalf of his or her employer. In the same way, if a third-party agent acts exclusively for the home state business, although he or she may be part of a completely distinct enterprise, he or she can unwittingly create a tax charge for the principal.

4. Corporate structures

Once a decision is taken to set up a more permanent presence, you need to decide on your choice of vehicle. Often this is tax-driven, but it also depends heavily on how the entity concerned will be perceived in the local market by the end consumer of the product or service. In most countries, customers will feel more comfortable dealing with a locally established, recognized entity rather than with an unknown branch of an overseas parent whose identity they cannot easily verify. Even choosing a type of company can create unexpected tax and commercial consequences. Each entity needs to be scrutinized to determine its tax and legal status, both locally and in the home state. Setting up a company can sometimes take quite a long time and may bind resources financially; a minimum paid in share capital of around EUR10.000 is not unusual.

5. Financial considerations

Building a business in a new market is likely to have a significant impact on working capital. Local banks will often be wary of new start-ups from overseas asking for credit facilities, even with a parent company guarantee, and may be less flexible than your own bank. It will therefore usually fall to the parent company to fund the new overseas business through an inter-company account. If the loan is to exist for any length of time, the home tax authorities will usually ask for interest to be charges or make a corresponding adjustment to the parent company’s tax computation. Moreover, if the subsidiary is inadequately capitalized, the local tax authority may seek to re-characterize some of the loan as equity and thereby deny a tax deduction for the part of the interest. Therefore, while loan finance is often the first port call, businesses will often find that they are called upon to inject a significant proportion of equity to create a third-party lending scenario. Unlike a loan, this equity is often rather difficult to repatriate if funds are needed domestically. The same third-party test applies to inter-company pricing. Most tax authorities around the world will insist that prices charged between parents and subsidiaries are demonstrably at arm’s length, with often onerous documentation requirements and draconian penalty regimes.

6. Repatriation of funds

The key issue for any outward investor is successful repatriation of cash for use in the next venture. In order to do this, however, our successful entrepreneur may have to negotiate a myriad of exchange controls and withholding taxes, each of which is a potential cost of capital. With some careful planning, a holding company structure may have been put in place that permits a free flow of funds back to the ultimate parent without withholding taxes.

7. Conclusion

Investing time in planning and research early on is likely to produce significant savings further down the line. Following these rules should facilitate your expansion overseas:

  • Draw a line and establish your modus operandi overseas in advance.
  • Think about your outward investment structure at the earliest possible stage. It may seem expensive early on, but the investment is usually worthwhile in order to avoid future tax costs that might impact on profits at a later date.
  • Don’t just accept the first corporate form that is offered to you. Make sure it meets your requirements both in the United Kingdom and the local jurisdiction.
  • Plan for culture changes and carefully calculate the on-costs of both setting up and closing down if needed.
  • Look at your financing plans in advance. Do not be fearful of injecting too much equity.
IV. Structuring your expansion

1. Introduction

As mentioned above, a number of considerations are to be taken into account when planning your expansion. This chapter will examine some of the ways you can structure the marketing of your products or services in a European country from a legal point of view. Most of the points below would also be applicable to an expansion outside Europe. The main distinction when looking at your business structure is whether you do business with the country or in the country. We have termed the first category Export and the second Outward Investment. In essence the difference is based on the level of your physical presence (not tax presence) in your chosen country. Issues such as applicable law (i.e. which country’s or countries law(s) shall govern the relationship) and jurisdiction (i.e. which country’s courts shall decide a dispute) will also be relevant but are outside the scope of this section.

2. Export

This is international trade in the traditional sense where a business is marketing its products or services across the borders without being directly present. It is a good way of dipping your toe in the market before you potentially commit to setting up there. The main options available are as:

  • Traditional export. The main issues to address are your contractual documentation and getting to know your customers. In international relationships it is even more important to clarify the parties’ rights and obligations in writing. This can be done by operating with a set up tailor-made terms and conditions but do make sure that they are agreed with your customer. And if the value of your export is significant do obtain a credit search on your customer.
  • Appointing a local agent or a distributor. These terms are often used interchangeably. The distinction from a legal point of view is that an agent is paid a commission based on the sales generated by it to the principal whereas a distributor’s remuneration is based on the profits made from buying the products from the manufacturer and selling them on at a margin. Agency in Europe is highly regulated by an EU directive on commercial agents. As for distributors there is generally freedom of contract to agree what you like. Having said this some European countries also regulate distributors so beware.
  • Franchising. If you have a product with a service concept you may also appoint a local franchisor. Generally, you should enter into a detailed franchising agreement setting out the obligations and responsibilities of the parties.

3. Outward Investment

  • Representative office. A representative office is normally a simple way of creating an initial presence in a country in order to ascertain what the possibilities are for your products locally. Typically a few people are employed to test the market. The main characteristic is that you cannot carry out business through the rep. office. If you do you will have to register your activities locally. In most countries it is possible to set up a representative office without too much red tape.
  • Branch office. Establishing a branch office of an overseas corporate is also a possibility. Basically, the overseas corporate registers an office locally by filing its constitutional documents translated (and certified) into the local language. This type of set up is generally only advisable if it is driven by tax considerations. In our view the costs of setting up and annual compliance are often higher than setting up a proper subsidiary.
  • Subsidiary. Establishing a separate local legal entity is often advisable in order to ring fence any liability emanating from the activities of the local subsidiary to that company. Please note that in many European countries there are minimum capital requirements of typically EUR10.000 and that it may take some time to form a company locally than what you might be used to.
  • Joint venture. You may also enter into a co-operation with a local company which could have its benefits as it may add to your local capabilities in the market place and thus assist you in entering the market place quicker; the co-operation is often done in a separate vehicle via a local company but could also be undertaken through a branch office. In any event it is important to identify the parties’ obligations in a joint venture agreement or shareholders’ agreement.

The material contained in this article is provided for general purposes only and does not constitute legal or other professional advice. Appropriate legal advice should be sought for specific circumstances and before action is taken.

© Miller Rosenfalck LLP, March 2016

 

 

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Steen Rosenfalck

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