Many companies expand internationally or source products globally without really understanding what foreign exchange is, and how foreign exchange can affect their business. This is a practical explanation of what FX is, how it is set, how it affects companies, and a simple overview of some of the tools that companies can use to better manage this expense.

1. Doris Nagel
Blue Sky Consulting Services
+1 847 984 2816
www.blueskyconsultingservices.com
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2. • Franica Harris, Partner, Bannockburn Global
Forex
– Market leader in currency exchange
– Dealing in all foreign currencies
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3. • What is foreign exchange, and how does it
arise?
• Who sets FX rates?
• What are some common tools for managing
FX?
• Common mistakes companies make in dealing
with FX
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4. • Also called Forex or FX
• Simply the conversion of one country’s
currency into another country’s currency
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5. • Person or company from one country:
– Earns money in one country, but buys something in
another country
– Earns money in one country, but also earns money in
another country
– Needs to consolidate holdings held in another country (for
financial reporting or tax returns, e.g.)
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6. • U.S. Manufacturer exports products to
Europe
– Products priced in euros
– Customer pays manufacturer in euros
– Manufacturer needs to convert euros to USD$
to calculate profit
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7. • Varies depending on whether exchange rates
fixed or floating
– Fixed: (example: China)
• Government committed to buy/sell currency at a fixed rate
– Floating: most countries (examples: U.S., Canada,
Japan)
• Set by supply & demand
• Still is often manipulated by countries
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8. • Supply and demand
• What or who is this market?
– LOTS of participants
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Examples
Pension funds Hedge funds
Private banks Non-bank financial institutions
Central banks Currency trading firms
Corporations Individuals

9. • Government-controlled entity responsible for
overseeing a country’s monetary system
• In U.S.: the Federal Reserve System (FRS)
• All countries have at least one central bank
• Essential tool for managing inflation, money
supply, export pricing, etc.
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10. • Direct Method
– In U.S., quoted with the US$ vis-a vis the Euro,
Australian$, New Zealand$, and British £
• Indirect Method
– All other currencies quoted this way
– i.e., foreign currency per US$
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11. • Floating vs. Pegged Currencies
• Fixed (China, e.g.) – exchange rate set by
government
• Floating (most countries) – exchange rates set
by supply & demand
• Even with floating FX, central banks
manipulate exchange rates
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12. • Every second of the day
• Market closes on Friday in New York
• Opens in New Zealand on Monday
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13. • Most people do not realize the size of the market
• US$ 5 TRILLION traded DAILY
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14. • There is NONE
• It is a pure “over the counter” (OTC) market
• Buyer beware!
• Largest UNREGULATED financial market in the
world
• This is NOT like a stock – when a bank executes a
trade, the bank does NOT reveal how much it
takes from the exchange
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15. • LIBOR = London Interbank Offer Rate
• Bank borrowing rate among the largest London banks
• Used as common borrowing reference rate around the world
• Banks found to be manipulating rates to skim more
profit from trades
• LIBOR supposed to be a collective measure of bank
confidence; instead, a pattern of collusion and fraud
among banks
• At stake: trillions of dollars
• Demonstrates risks of unregulated currency markets
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16. • Everything & anything!
– Economic reports & indicators (e.g. jobless rate)
• Can swing if better than expected
• Can swing if worse than expected
– Central bank policies
– M & A transactions
– Anything that catches market off-guard
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17. U.S. Federal Reserve Board in 2013
• FRB was buying a lot of bonds (“Quantatitive Easing Program”) as a
way to stimulate economy and pump $ into the US economy
• FRB hinted mid-2013 it was ending this & would begin to “taper”
this bond purchasing
• FRB announced on 2014 that it would NOT taper or end this
program
• Market assumed this meant U.S. economy was in trouble
• US$/euro exchange rate before announcement: 1 euro = 1.32 USD
• After the announcement: 1 euro = 1.35 USD
• This was a HUGE 1-day swing
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18. • Public perception as stable FX
• But actually quite unstable
• Stability of FX rates aren’t always an
indicator of how stable a
government is
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19. • US $ vs. Brazilian real in early 2000s
– FX rates fluctuating wildly
– Inflation as high as 3000%
– Payment in cash demanded
• US $ vs. Iraqi dinar
– From FX perspective, it is “worthless”
– Means it has lost significant value
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20. • Exchange rate devaluation coincides closely with
inflationary pressure
• High inflation means large currency fluctuations
• Currency becomes more difficult to accurately
predict, and exchange rates become more
unfavorable
• Can also be affected by interest rates,
government debt, etc.
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21. • Are significant even on “purely” domestic operations
– Iraqi earns salary in dinari, pays rent and food in dinari
• But…
– Any imported goods because much more expensive to buy or use in
local manufacturing process
– End result is that it becomes extremely expensive to produce and
imports become unattractive
– May mean that purely domestic Iraqi goods are effectively
cheaper/more attractive
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22. Japan:
* long-term manipulation of ¥
* Pumping money into economy
to make Japanese goods less
expensive to foreign buyers
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23. There are tools to manage FX
Can make FX rates more predictable
Allow companies to plan
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24. Common tools to manage FX:
Spot transactions
Forward contracts (90% of companies use this)
Outright forward
Forward window
Swaps
Options
Let’s look at each of these in more detail.
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25. Spot Transaction:
Immediate delivery of a currency at the current
market exchange rate
Average settlement takes 2 business days
i.e., You lock in a rate & your supplier receives the
funds at that exchange rate in 2 days
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26. Forward Contract:
Several types
Most common (90% of companies use these)
Most common types:
Outright forward: Allows a company to lock in a rate on
a specific date
Window forward: Allows a company to lock in a rate or
over a range of dates
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27. Outright forward:
Use when you know the exact date you need to pay someone in a foreign
currency, or that you’ll be receiving foreign currency
Example: You are a U.S. company and you are acquiring a Canadian company.
You know the close date is December 31st, and you will need a specific
amount of Canadian $ to purchase this company
This removes any exchange uncertainty out of the amount of Canadian $ you
will need to do the transaction.
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28. Forward window:
Use when you know the you will need to pay a foreign
currency or be receiving a foreign currency during a range
of dates (a “window” of time)
Example: You are a U.S. company and you are selling
products into Canada, and receiving monthly payments
from customers in Canadian $.
A forward window will provide much less volatility
than a spot rate.
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29. Forward window:
Use when you know the you will need to pay a foreign
currency or be receiving a foreign currency during a range
of dates (a “window” of time)
Example: You are a U.S. company and you are selling
products into Canada, and receiving monthly payments
from customers in Canadian $.
A forward window will provide much less volatility than a
spot rate.
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30. Currency Swap:
Simultaneous buying and selling a fixed amount
of the same currency on 2 different dates
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31. Currency Option:
Gives you the right, but not the obligation, to
buy a foreign currency on a specific day or range
of days at a pre-determined rate
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32. FX Order:
You can order to buy a specific foreign currency
at a specifically-agree exchange rate
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33. • Virtually ANY company who buys or sells
products or services from another country
• Forward contracts very simple
– Spot rate +/- “forward points”
– Derived from the interest rate differential between
the 2 countries involved
– Rates tend to be fairly predictable
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34. • Supply & distribution contracts
– Often multi-year agreements
– Exchange rates will vary over that time
– Deal may not be as good for 1 company as
originally envisioned
– Before you sign, do a 3-year look-back
– Mark up that risk into the contract
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35. • Companies making acquisitions
– Even small FX shifts can kill a deal
– Termination payments
• Companies sourcing from overseas
• Companies exporting products or services
• FX should always be part of the planning
process
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36. • There is ALWAYS FX when dealing with 2 currencies
• Refusing to address exchange rate volatility is not
realistic – you are just pushing all of it onto your
business partner
• Are you an attractive partner if you continually do
this?
• FX is a REAL cost of business, just like transportation
• How many sales are you losing to competitors?
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37. • Global competition increasing
• You can still sell in US$, but accept foreign payables
• You can also be billed in both currencies
– There can be significant advantages to do this
– The rate your supplier/distributor is quoted may be VERY
different, so you can take advantage of that
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38. • YES!
– Depends on your bank expertise
– Depends on currencies involved
• BUT…
– Be sure your bank has direct experience
– Make sure they truly have this capability & aren’t just
using “middleman” or ignoring the issues because
they don’t have the expertise
– Is transparent
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39. • Companies SHOULD:
– Consider pricing in foreign currency
– Understand competitive advantage/disadvantage
– Hedge at least part of their exchange risks
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40. • Financial Times
• Bloomberg (app)
• Wall Street Journal
• Get an FX forensic study/audit
(often free)
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41. • Analysis of past trades
• Look back at high/low
• If the rate you paid is outside the
range, you’ve paid too much!
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42. Doris Nagel
Principal
Blue Sky Consulting Services
+1 847 984 2816
doris.nagel@blueskyconsultingservic
es.com
www.blueskyconsultingservices.com
Francia Harris
Partner
O. 312.757.6459
M. 513.748.1690
Francia.Harris@bbgfx.com
www.bbgfx.com
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