In the first installation of our new series on “The impact of foreign exchange on small to mid-sized companies" we look at how these sized businesses can effectively manage FX volatility.
Depending on the country, small and mid-sized companies, or SMBs) are usually defined as having between 1-999 employees, which means that competing in the global marketplace can be a challenge. These businesses have enough on their plates conducting business overseas, without worrying about foreign exchange risk issues - but there are a few actions you can take to mitigate FX volatility.
That's especially the case without a seasoned and experienced treasury or accounting team on board, making the FX risk and volatility issue even more an uphill climb. Foreign exchange volatility can derail even the most ambitious company's overseas business campaign, leading directly to the following downside scenarios:
· Increased foreign currency risk exposure: No small company C-level executive wants to complete a foreign currency transaction, only to see the company's profit compromised by a weak foreign currency exchange rate. Yet without proper FX risk management, that risk is all too real for small companies.
· Problematic profit outlook: FX markets are complex and opaque. With currency markets frequently volatile, it's difficult for smaller companies to accurately gauge the business and profit potential of an overseas market.
· Understaffing a problem: Overwhelmed finance and accounting staffers tasked with solving thorny foreign exchange volatility problems can wilt under the pressure of accurately assessing foreign currency movements. That could result in a company missing out on a lucrative foreign exchange transaction.
Balancing Opportunity with Foreign Currency Risk
Still, the opportunity to engage foreign customers overseas is too good an opportunity to pass up. Currently, $5.3 trillion dollars per are traded every day in the forex market, while the Forex overall trading volume is four-times the size of global gross domestic product.
With that kind of profit potential on the table it's imperative that small and medium-sized businesses don't overlook foreign exchange as a risk factor when operating commercially in foreign markets.
For example, some global markets may not wish to pay in U.S. dollars. Instead, many foreign customers, suppliers, and local governments want to pay in their local currencies, thus risking financial losses to foreign currency devaluations versus the U.S. dollar.
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Using effective and creative foreign exchange risk management strategies, however, SMBs can minimize FX risk exposure, tamp down foreign currency losses, and better manage the unpredictability of FX markets.
Five FX Risk Strategy Steps to Take
Where to begin engaging in the foreign currency market? Take these five steps to get your FX campaign up and running overseas:
1. Calculate risk exposure against profit potential: As a small or mid-sized company decision-maker, is it worth your while to expose your firm to foreign exchange risk? That's a fair question to ask. If you're primarily making smaller payments overseas, the need for a substantial FX risk program is relatively low. Yet if foreign exchange transaction activity is high, you'll need a strong risk and volatility FX campaign in place, if only to accurately gauge the downside of rates decline against your currency position.
2. Mitigate risk outside the FX market: Smaller companies can reduce FX rate risk and volatility by hiking costs for their goods and services in foreign markets. They can also curb downside risk potential by reaching out to international business partners and customers and ask to transact in a different currency.
3. Get accurate information: Given that information is paramount when conducting business overseas, you'll want to connect with accurate and reliable foreign exchange data sets. OANDA, for example, offers an Exchange Rate API so rates automated with the exact data companies need, when they need it. Make sure your Forex data provider offers a reliable flow of accurate FX rates, with the option of real-time, and with everything you need to make an effective FX trading decision. This will not only make it much easier to track and transfer foreign currencies, but level the FX playing field so that you’ll be able to benefit from currency swings in your favor.
4. Keep transactions in widely-used currencies: To reduce risk, SMBs should invoice overseas business partners, suppliers, and customers in larger currencies, like the U.S. dollar or the euro. This both reduces currency volatility and paves the way for overseas clients to grow more accustomed to dealing with major global currencies, which further eases the FX risk burden for smaller-sized companies.
5. Get aggressive about FX hedging: Working in tandem with foreign exchange specialists, small and medium-size domestic businesses should seek out opportunities to purchase foreign currencies when rates are in their favor. This gives companies a valuable hedge against weaker foreign exchange rates.
Take a “Big Picture" Approach to FX Risk Management
Even though your company might be smaller than a Fortune 500 company, the strategies you need to succeed in foreign markets are the same - no matter the size of your company.
For example, keep close track of political and economic indicators. Key political, market, and economic indicators can trigger a big shift in foreign currency fluctuations. In the U.S., on the first Friday of each month, the employment report (NFP) is released and indicates the overall health of the U.S. jobs market. Gross domestic product (GDP), issued quarterly, points to the stability of the economy. Additionally, the Federal Reserve's Open Markets Committee meets quarterly to discuss interest rate positions – any move, in either direction, can steer global currencies in different directions. In small companies, a finance staffer should have tabs on indicators like these, and can potentially leverage and any currency changes to their advantage.
SMBs will want to create an early blueprint that focuses on what foreign currency risk means to your company, with an accurate assessment of both positive and negative FX rate outcomes. Establish crystal-clear risk management goals and guidelines, and seek out experienced financial service providers who are accustomed to dealing with FX rate issues overseas.
With proper strategies in place to mitigate foreign exchange risk, SMBs can open up a wide world of business opportunities overseas, with the security of knowing you have a plan to better manage, and even profit from FX volatility.
In a global marketplace where trillions of dollars are up for grabs, that opportunity is too good to pass up. Smart companies of any size will act to capitalize on that opportunity, for years to come.