FX Risk is the hidden tax on all cross border business. FX Risk: The hidden tax on all cross border business. The real cost to companies of doing business with currency across borders is currency exposure. This is exactly where FX risk comes in, but a more sophisticated payout system can be used to help today’s modern businesses actively manage the risk.
Discuss any founder who operates a business on a global scale, and you’ll get a lot of instant answers about customer churn, fierce competition or recruitment issues. Now ask a Chief Financial Officer (CFO) the same question, and FX risk will be a very prominent business concern almost invariably.
Currency exposure does not ring an alarm as it would with a sudden security breach or huge system outage. Rather, it gradually and quietly takes away profit margins over time. When leadership becomes aware of the impact, exchange rates could have eroded margins in an unanticipated manner.
Business owners are constantly exposed to FX risk. FX risk is present in the business as well.
How FX Risk Appears in Everyday Business
Consider a digital business where the customer’s invoice is in Euros (EUR), the payment is made in Indian Rupees (INR) and the business pays its daily operational costs in several different global currencies. Exchange rates move continuously between the time of the sales invoice and payment is made.
If each and every single transaction is done perfectly, volatility in currency value can cause a decrease in the potential profit of that transaction or even eliminate it completely. If the negative FX movement has taken place prior to final settlement of the invoice, then it is a straight loss of margin.
For businesses with thin profit margins, price fluctuations in emerging markets can be even more extreme, making this challenge even greater. Payment processing on a payout platform in a country such as Argentina, Nigeria, or Turkey isn’t just about facilitating payments; it’s about delivering authentic experiences.
Payment processing on a payout platform in a country like Argentina, Nigeria or Turkey is not just about facilitating payments, it’s about delivering real experiences. It incurs financial risk every single day for funds to be converted.
Why Most Companies Are Unable to Control Currency Exposure
Many fast growing businesses take currency risk as a part of doing business and expect that the market movements will even out over time. They sometimes do, but not always when there’s a lot of volatility in the markets.
To overcome this, companies generally resort to traditional bank-issued forward contracts that are manually negotiated. These can help minimize exposure, but have three significant drawbacks:
- Slow execution: They need to be negotiated manually and on paper.
- Hard forecasting: They require businesses to make a precise prediction on the payment volume weeks or months ahead of time.
- Locked rates: They fix the exchange rate, which can be different from the current market rate by the time they are paid.
The underlying problem is structural – where payment systems and treasury management systems are typically run in silos. Payment teams use completely different payment rails to get money between parties, while the Treasury teams negotiate payout agreements with one bank.
It’s a challenge to effectively manage FX risk without a single source of exposure visibility across the corridors.
The Core Concept Behind Smarter FX Risk Management
The basic concept of Smarter FX risk management is risk avoidance. Risk avoidance is the basic concept of Smarter FX risk management.
Smarter FX risk management is not only about financial hedging, but also data problem. By enabling real-time visibility of the data, modern platforms can detect losses in currency at the moment, and automatically initiate mitigation.
A modern platform can automate the detection of losses in currency and trigger mitigation as soon as they are detected, rather than waiting until the end of the month to do financial reconciliation.
Automated mitigation strategies are extremely powerful with real-time visibility. These strategies include:
- Programmatic Forward Contracts: Buying rates automatically as a function of the volume of their transactions.
- Natural Hedging: If a payment is received in one currency, and a payment is paid in the same currency, then the conversion fee is avoided.
- Dynamic Rate Locking: Providing a guaranteed exchange rate right at the moment that a transaction is started.
The goal isn’t to completely remove the currency volatility, as any business dealing with international affairs will always be exposed to some currency volatility. The aim is to make FX risk tangible, measurable and a controllable risk.
Finally there is no such thing as predicting which way the market is going to go next. It is in regard to minimizing the time lag between the time an exchange rate is published and the funds are actually exchanged.
The Bottom Line
FX risk is something that is always there for all businesses that work across borders. It should not, however, be seen as a necessary expense of the business. Real-time visibility and a modern pay-out system make it possible to see and predict the currency exposure and to make it very manageable.
Proactive businesses are designed to safeguard their margins and stay stable on their financial lines. The ones that do not pay attention to it typically find out the genuine cost later on, frequently when they require it the most, in the very same quarter that they have lost significant amounts.
