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All the factors of an international trade deal were analyzed and worked out, terms were set and now the payments start rolling in. It would seem like the international credit professional's job is done and the risk to the company is abated as the payments come in on time. However, regardless of how promptly the foreign buyer pays for the goods or services, the financial risk to the seller may not be over if those payments are made in the currency of the buyer's country. Fluctuations in the value of the U.S. dollar compared to foreign currencies can work against the seller leading to a lesser amount of proceeds than anticipated at the time of the sale. While much international commerce is done in U.S. dollars, global competition sometimes forces a company to accept payment in a foreign currency. When selling on terms of weeks and even months, the volatility of the FX market may erode or even eliminate the profit margin built into an international sale at the time the sale was consummated. In addition, even if an overseas sale is denominated in U.S. dollars, the currency risk exposure is transferred to the buyer, who may be looking at competitor prices denominated in the buyer's own currency.
Don't Be Helpless in the Face of Foreign Exchange Risk
Foreign exchange rates fluctuate continuously. Ed Sauve, Sr. Advisor, Global Financial Services for SVB Silicon Valley Bank, said the FX market is borderless and is the largest free market in the world. "It's based on the market forces of supply and demand. The continuous interaction of buyers and sellers determines the rate of exchange between currencies." The online version of The Wall Street Journal lists hourly exchange rates between pairs of currencies. The "current" exchange rate between any two currencies at any given point in time is known as the spot rate. It is the volatility of these spot rates that underlie the risk involved in accepting payment in foreign currency. Companies can mitigate this risk by employing various FX management techniques to reduce their currency risk exposure. Financial and other hedging strategies can be used to protect a selling company's financial interest in the event the U.S. dollar appreciates over time in relationship to the...