Any business that makes international payments needs to be aware of currency fluctuations. Unfortunately, it is all too common for the profitability of an overseas deal to be negatively affected by unexpected movements in the currency market. All the careful planning in the world is worth nothing if one vital element of the process is overlooked, and that’s making sure that you buy and sell at the best rate possible.
The need for a business to manage its foreign exchange requirement and risk is increasingly crucial. But despite this, the Department of Trade and Industry estimated that between 600,000 to 850,000 UK SMEs still pay no attention to this essential part of the business and without knowing it are leaving themselves open to currency movements that can rapidly erode profits.
Part of the problem is the fact that many SMEs still use their traditional banking arrangements to service all their business requirements, including the purchase of foreign exchange. This is not always the best choice because the margins the banks impose and the extra charges levied when using their facilities to make international payments is unacceptable in today’s business environment.
Currency movements are an accepted risk when making international payments and can have a real and significant impact on profitability and cash flow. The risks created need pro-active management, which in turn requires a certain level of expertise. The largest institutions have the scale to employ their own economists, analysts and dealers, and resources to invest heavily in market information, data, and risk management systems. It is unrealistic to expect SMEs to have access to such resources.
The traditional routes SMEs go through to execute international payments often involve dealing with local banks who have been with the company since the inception of the business. However, many banks still do not place enough importance on listening to and understanding the individual client’s foreign exchange requirements. Then, when they do price them, there is often a hefty margin involved that can again detrimentally affect a business’s profit.
The potential effects of currency fluctuation on a business can be demonstrated if you look back at the currency markets since the start of 2006. A UK company receiving US dollars as payment would have witnessed the value of the dollar to the pound fall from 1.7250 to 1.9000 – a move of over 9%. These fluctuations are plain to see and can be greatly reduced with a proactive service.
Products such as ‘forwards contracts’ can protect against a company’s exposure. The forward contract ensures that a rate is agreed at the time of the contract for a delivery date in the future, as stipulated by the client. Effectively protecting against fluctuations that could seriously impinge on the profitability of an otherwise successful overseas deal.
While it is possible to agree a rate option with your bank to fix an exchange rate, it can be a costly service with charges of anything up to £20,000. For example, one high-street bank charges 2% of the transfer sum for three-month currency protection and lets customers choose between the guaranteed rate and the daily rate. However, some exchange specialists do not charge a fee to fix a rate meaning that savings can be driven straight back to the company bottom line.
At a time when businesses are feeling the pinch due to rising costs, such as the increasing price of energy, the need to examine every option to manage costs while increasing profit is critical. In this respect, the pricing of international payments is of paramount importance, as they have a direct bearing on the bottomline profits of a company.