Foreign Exchange risk or exchange rate risk, as it is sometimes called, and its mitigation is something that is often overlooked when searching for new suppliers. Price, documentation and delivery are the prime drivers of businesses decision-making process, but the makeup of the price eventually paid can have a serious effect on the whole process.
In many markets a letter of credit is a sensible precaution even for the importer who will generally pay the commission charged by the bank. While it guarantees the payment to the exporter, the importer benefits from quality and shipment assurances safe in the knowledge that he will get what he has paid for and the quality will be as desired. It is advisable, as an importer particularly in Europe, that any letter of credit confirmation fee is payable by the beneficiary (exporter) as having the L/C payable in his home country is a benefit to him.
In Trade Finance a letter of credit (L/C) is a document which guarantees payment by a bank provided the terms of the L/C are complied with. The advantages of this are that the importer is guaranteed to receive what he is paying for and the exporter is guaranteed payment.
In the past, banks’ trade finance teams took little notice of the currency risk being undertaken by their customers as most product sales were siloed. However, this has changed, and cross selling is now a vital part of their profitability. This isn’t necessarily beneficial to the customer who often feels either corralled into dealing with his bank for every financial product he requires or even if he decides to find a separate partner, is unable to decide if he is getting the best service available.
Once a supplier is found there are several questions that need to be answered. First, can we be invoiced in our local currency? If that is the case, then foreign currency risk can be put to one side and concentration can be centred on the commercial aspects of the contract. However, if the supplier wants to pay in theirhis home currency, then a partner, like CurrencyTransfer.com, needs to be found and a discussion should take place concerning the available options. Read more about invoicing when working with different currencies.
There are several ways to hedge the risk as part of an overall FX risk management proposition.
Is the new supplier a one-off or are there several suppliers in the same country (or region in the case of the eurozone) where it would be practical to calculate an overall requirement on, say, a monthly basis, or is this a single supplier? It doesn’t necessarily pay for a CFO to become any more aware of the financial markets than he needs to as he runs the risk of “second guessing” himself and losing the product’s competitive edge. Hedging is about mitigating risk, not trying to make extra profit from “gambling” on the movements of a currency.
About Alan Hill
Alan has been involved in the FX market for more than 25 years and brings a wealth of experience to his content. His knowledge has been gained while trading through some of the most volatile periods of recent history. His commentary relies on an understanding of past events and how they will affect future market performance.”