Every international trade transaction represents a currency exchange risk to either the exporter or importer and this has been more apparent than ever with the current weakness of sterling against the euro and US Dollar, which represents a benefit or challenge depending on which side of the fence you happen to be sitting.
Whilst many UK exporters consider that the most effective strategy to eliminate this risk is to invoice in pounds sterling, this approach merely transfers the foreign exchange risk to the overseas customer. A buyer based in Europe will generally prefer to pay in euros, whilst many other territories prefer to trade in the US Dollar. Such a policy therefore could result in the British exporter losing potential sales to competitors who will happily invoice in the buyers preferred currency.
On the other hand, UK based Importers should consider the potential cost of paying overseas suppliers in pounds sterling. It may well be that the supplier is significantly increasing the cost of the goods or services to account for potential adverse exchange rate moves.
Offering to invoice or pay in the currency of your overseas trading partner can therefore provide a strong competitive or cost advantage, however it must be remembered that trading in a foreign currency carries a significant financial risk. It is therefore vital that a company considers an active policy for managing exchange rate moves.
A case study.....
A UK manufacturing company exports worldwide and has won a contract to supply goods to a buyer in the Middle East. The contract value is US Dollars 1.5 million and will be payable in three stages:
+ Stage 1 – 30 per cent (USD 450,000) upfront
+ Stage 2 – 50 per cent (USD 750,000) following shipment of the goods approximately 60 days later
+ Stage 3 – 20 per cent (USD 300,000), 90 days after receipt and installation.
Today’s exchange rate is 1.5205, at which the initial USD 450,000 is converted = £295,955
If the remaining dollars were converted today at the same rate (1.5205), the exporter would receive a total outstanding balance (USD 1,050,000) of £690,562, however....
The actual exchange rates between today, and payment of the respective balances, will change.
What if …
1. On day 60, the second-stage payment of USD 750,000 is received and converted at the day’s rate: 1.6750 = £447,761
2. 90 days after receipt and installation, the final stage payment of USD 300,000 is received and converted at the day’s rate: 1.8525 = £161,943
Total outstanding balance received: £609,704, … which is
£80,858 LESS
than anticipated using the original exchange rate on day 1. This is due to the weakening of the US Dollar against sterling during the intervening period.*
(*This example is for illustrative purposes only and may not reflect current market movements.)
We can help you to:
• Establish an effective policy for managing exchange rate moves
• Obtain the most competitive exchange rate and transaction costs in respect of your overseas sales or purchases.
Call us today on 0800 043 4052 for an initial chat free of charge and without obligation. If you prefer, complete our contact form and we will get back to you.