Foreign Exchange Risk (FX Risk)
Or is it is more commonly referred to, FX risk.
For most businesses FX risk arises when you have one currency and need to convert it to another, either now or in the future. The risk being that the exchange rate will move and you could end up losing.
The common risk is that the movement in FX rates will wipe out your margin, making your business, or at least that transaction unprofitable.
But what if you don’t trade like that?
FX Risk Can Still Apply
Take this example. Your business owns a property abroad or has assets in another territory. These assets are valued on your balance sheet. You know the asset is safe and is not losing value, indeed you probably own it because it will appreciate in value.
So what happens when you come to draw up your balance sheet at the year end and you work the exchange rate out, only to find you need to devalue the asset?
In today’s more sensitive credit world, the following could easily happen;
- Your asset is valued down, your balance sheet weakens
- Your bankers review their covenants
- Your balance sheet now fails to cover the covenant even though trading is actually pretty good
- The bank renegotiate
So through no fault of your own you are now in breach of lending covenants. Ouch…
The FX Answer
The really simple thing is that there is commonly a cost free way to mitigate this risk, Which begs the question of why so many businesses fail to do anything about it.
Our opinion is that this boils down to a simple lack of appreciation for the risk.
Why Does This Happen?
We look at the dangers of using an on-line trading portal for your currency elsewhere. Have a look at this post as it goes into more detail, click here.
The other reason is that we instantly think of FX risk as being about sending money, whereas in reality FX risk goes much deeper.
What About My FX Risk
The easier answer is that every case is different and the best answer is to run your scenario past an expert. You may be all OK, you may need to put a few things in place. Either way the FX solution will be quite simple, you just need to know it exists.
If you have any comments about this article, or want to discuss your FX position then either add your comments above, contact us on 01293 541333 or email via the website here.
By Lime Consutlancy