Currency Risk Management Policy for a Secure Cash Flow
Running a business is no small task—identifying potential clients, winning them over, financing and growing the company, and effectively managing an operational cycle from start to finish. It is frustrating to think that a company’s profitability can be eroded by currency volatility, especially since currency risk management is controllable.
The current political and economic climate is more uncertain than ever, bringing currency movements back to the forefront. Simply looking at the disparities in bank forecasts for the next 12 months is enough to confirm that no one really knows what will happen in the short term.
In fact, it is fair to say that markets today are driven more by political events than by economic data. However, despite these uncertainties, too many businesses still consider currency risk management at the end of the process rather than at the beginning. A risk management strategy should be clear as soon as an international sale (or purchase) is considered.
The currency risk management is not a tool to enhance cash flow but to preserve it in order to support business growth. Speculation is the domain of hedge funds, not commercial enterprises.
Framing Currency Risk for a Defined Cash Flow
In this regard, D-Risk FX advocates an approach aimed at providing businesses with a defined cash flow. To achieve this, we frame currency risk within a tailored risk management policy.
Regardless of currency fluctuations, this policy ensures that the business has the necessary funds to meet its obligations and, of course, sustain long-term growth.
Too many businesses equate currency risk management solely with hedging instruments (such as options, forward contracts, etc.), when in reality, the use of these instruments is merely a consequence of a risk management process—not the management itself.
Using Hedging Instruments
Locking in a future exchange rate through the use of a forward contract, for example, has a direct impact on the pricing of goods sold and their profitability. The use of such instruments should therefore be seen as a tactical approach within the company’s pricing strategy. It is essential to frame this usage within a tailored policy, as the nature of the company’s operational cycle determines the sensitivity of its profitability to currency fluctuations.
Solutions to currency risk management do not lie in the foreign exchange market itself but rather in a detailed analysis of what makes each business unique—its operations. The foreign exchange market is the same for everyone, but your operational cycle is unique.
A Customized Approach to Currency Risk Management
Too often, the focus is placed on exchange rates, but exchange rates are the same for everyone. Instead, businesses should think in terms of profit margins—specifically, how those margins are constructed within the company’s operational cycle.
A “one-size-fits-all” approach to currency risk management is problematic at best and suboptimal at worst.
Only by deeply understanding a company’s operations can we provide meaningful advice on currency risk management.
Currency Risk Management Process
The currency risk management process must be established in relation to the company’s specific context so that decisions reflect how margins are created. The company’s individual context must be considered alongside market conditions, but ultimately, the company’s margin remains the key decision-making factor.
When exchange rates move favorably, it is often tempting to assume that the trend will continue. Conversely, when exchange rates move against the company, it is reassuring to believe that the trend will soon reverse, wiping out losses. Such dilemmas indicate either a flawed decision-making process or the absence of one altogether.
Importance of Currency Risk Management Policy
Being prepared rather than reactive by implementing a currency risk management policy allows businesses to manage exposure in an organized and structured way. A well-defined policy ensures protection against unfavorable market movements while maintaining the necessary flexibility for optimal use of the company’s operational cycle.
To reduce vulnerability to short-term trends and smooth the long-term impact of currency fluctuations, the use of hedging instruments must be integrated into a process closely linked to the company’s operational cycle. It is within this link that currency risk management becomes optimal, and it is precisely this synergy that a robust risk management policy should create.
SME managers are well-equipped to handle complex business opportunities. With D-Risk FX, they can navigate currency risk using solid and profitable benchmarks.
See the article titled: Currency Risk Management: Incidence and Velocity for more information.
For additional insights on currency risk management, visit: Bank of Canada – Currency Risk Management.
International Markets: A World of Opportunities
Growing your business abroad can drive growth — but it also comes with risks for SMEs. Tracking the ongoing impact of exchange rates on forecasted performance is complex.
D-Risk FX provides SMEs with performance, risk, and scenario analyses by market, currency, and business line—leading to a tailored hedging strategy and real-time visibility on projected financial performance.
Gain autonomy, automate your processes, and approach foreign markets with the confidence of a clear currency risk strategy and the tracking tools to support your ambitions.