The effects of exchange rates on businesses

 

Many UK businesses have been profoundly affected by currency volatility brought about by the Covid-19 pandemic and the fall-out from the UK’s withdrawal from the EU.

Exchange rates have an impact on budgets, logistics, cashflow, revenue and even international business relations. Although fluctuating currency values will always carry a degree of unpredictability, understanding the effect it can have on business initiatives and operations at a granular level can help mitigate significant risk and loss.  

How do changes in currency exchange rates affect international businesses?

Fluctuating currency values present significant risk for the exporting of goods. The fast-moving market can force businesses to sell at a loss or could price them out of the market entirely. A strong pound also poses the potential for products or services to become more expensive to overseas buyers.

A hedging strategy could provide protection against market movements. This is done using forward contracts, which give you the option to secure a current rate for future overseas payments (this may require a deposit). In some cases, a favourable rate can be secured for up to two years, providing the stability needed for effective budgeting.

How do exchange rates affect business transactions? 

Constantly-moving exchange rates will inevitably cause supply chain expenses to shift, especially when using external logistics providers. Costs can stack up across multiple currencies depending on the location of goods or the type of supply chain being used. The complexity of managing these payments could put a strain on relationships with clients, distributors or suppliers.

To help manage this, businesses can choose to exchange immediately using a spot contract. This is particularly useful when the exchange rate moves in your favour and an ad-hoc, urgent overseas payment is needed. Although there’s no guarantee the target rate will be reached, it does give a more accurate picture of the costs and currency exposure of the payment. Some of the complexity of the process can be managed with the right FX software. This allows payments to be scheduled and automated across multiple currencies in one central hub.

Inflated import prices

It’s not uncommon for overseas suppliers to add a margin to the cost of goods, causing import costs to soar and your own prices to go up. Businesses also face the risk of the market moving against them between the process of receiving a quote and paying the final invoice.

If a supplier has longer payment terms on invoicing, businesses can attempt to manage currency changes using an FX order. FX orders allow you to automatically trigger trades if your desired rate is achieved, thereby limiting your currency exposure. If the pound should trend downward, a stop loss order can be used to prevent further losses. This can also be used for large future orders which have the potential to damage your financial standing significantly in the event of an unfavourable market shift.

A plunge in overseas office profitability

Localised sales teams overseas can be incredibly advantageous for operating within international markets, but the profitability of these offices can be impacted by market downturns. The resourcing costs of multi-currency payment administration can erode your margin and increase your risk, as can payroll and the cost of running the office.

Going direct to a foreign exchange specialist will usually give you access to much better rates, as well as the option of using a forward contract to stabilise your operational costs. You could also automate payments, reducing time spent arranging regular payments manually.

Businesses can potentially shield themselves from the effects of changing exchange rates by working with a currency specialist to develop a risk strategy and leverage expert tools and knowledge. Get in touch today and find out how we can help.

The impact of recent developments on exchange rates

The last five years have seen considerable fluctuations in the value of currencies around the world. Brexit has had a lasting impact on the value of the pound: the immediate aftermath of the referendum led to a sharp decline in the value of sterling, and news of a Brexit trade deal saw sterling rise by as much as 1.7% in October 2020.

Whilst the UK’s manufacturing export sector benefitted to a small degree from the fall in value of the sterling, most UK businesses saw a rise in costs as a result of the weaker pound. Indeed, the UK’s export services sector shrank post-2016. Research undertaken by the Aston University in Birmingham, however, has found that UK services exports from 2016 to 2019 were £113bn lower than they would have been had the UK not voted to quit the EU in June 2016. This figure was calculated by looking at how the export sector would have grown had the referendum not been held.

Whilst it is the case that exchange rates have an important impact on businesses’ profitability, the wider business environment is also very important. Ireland’s frictionless access to the Single Market and low tax regime made it an attractive destination for large numbers of UK businesses.

The Coronavirus outbreak has also had a profound impact on the global economy and the value of the pound sterling, which fell to its lowest level against the dollar since 1985 in March 2020. The effect that COVID has had on UK businesses has been far-reaching: the number of private sector businesses fell by 389,600 in 2020, bringing the number of British firms in operation at the beginning of 2021 to its lowest level since 2016.

It seems likely that, whilst currency fluctuations made matters more difficult for British firms, the wider business environment was again the main cause of this change. Whilst there is no question, then, that recent events have seen wild swings in the value of currencies, the extent of the impact that these shifts have had on UK businesses is harder to evaluate.

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