Trading Internationally
For many companies, importing and exporting is (or is becoming) a key component of their businesses. But international trading brings with it many additional commercial and financial risks:
- The political and economic situation in specific countries
- Exchange rate volatility
- Terms of trade
- Risk of fraud
- Customs duties and national controls
Even if you are a seasoned practitioner in international trade it is always worth periodically reassessing both your exposure and attitude to risk. Be aware that we live in volatile times; in the last few months of 2008 the value of Sterling fell by c30% against major trading currencies, giving rise to windfall gains for some entities and business-threatening losses for others.
Do your homework
To reduce the risks to your business, spend time understanding political and economic trends in relevant marketsor sources of supply. Publications of research prepared by banks or your local Chamber of Commerce, for example are often widely available. In addition you should make the most of your professional network, speak to people ‘on the ground’ or indeed go out yourself.
Through our membership of the Leading Edge Alliance we can put you in touch with over 430 professional offices worldwide, whose 1500 partners can advise you on how business is done locally. They will be able to make introductions on your behalf and can also advise you on local customs and tax legislation.
Useful sources of information:
- Bank in-house economists
- Chamber of Commerce
- Trade fairs
- Customers & suppliers with international links
- Professional advisors
So what about the banking and accounting implications?
Your bank will be able to provide foreign currency accounts that facilitate the day to day management of foreign trade. Inevitably, however, balances have to be converted back into Sterling at some point, either physically for use in the business or else in accounting terms when drawing up your accounts. This conversion will present you with exchange gains and losses, which may have a considerable impact upon your financial statements (and cash flow) if exchange rates have fluctuated significantly between the dates you contract a purchase or sale and settlement day/period end. You have two basic options about how you deal with the issue of conversion and your decision depends upon your attitude to risk:
Option 1 – do nothing, essentially betting that the probability and impact of any potential upside will outweigh any associated potential downside. No direct cost, but higher risk.
Option 2 – enter into some form of hedging mechanism (see box below). Inevitably there will be a cost, either by way of a premium payable or else by a differential in rates offered, but these contracts provide some peace of mind regarding exchange rate risks.
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Hedging mechanisms Simple forward exchange contracts are commonplace but inflexible. A range of structured solutions are available, that offer protection whilst at the same time, allow you to walk away at maturity and instead transact at spot rate, if this is more favourable.
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So what should you do?
Firstly, it is essential to understand the trade cycle, related timelines and associated cashflows. From this you can determine your potential exposure to exchange rate risk. Ask yourself what losses you are prepared to accept, or your business can absorb, from exchange rate fluctuations. Check to see that whether there are any periods when you have a natural hedge, in that receipts from exports may broadly cover cash requirements for imports in the same currency. Assess your attitude to risk and weigh up the costs and benefits of the hedging products offered by your bank. You are then in a position to implement an appropriate strategy. Finally, you will need to determine how to account for your chosen strategy. Contact us now if you'd like to discuss this further.
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