With uncertain markets, what seems today like a good international business deal could turn into a major loss tomorrow.
To protect your business against volatile currency markets, consider hedging, says Jeannie Kao, executive vice president/division manager, International Banking Division at Bridge Bank.
“When negotiating with a foreign buyer or vendor, what is on the table now might make you money today,” says Kao. “But the only way to guarantee that profit is to lock in the exchange rate so you know that when you do get paid, your margin is protected.”
Smart Business spoke with Kao about how hedging can impact your business and how doing business with an EX-IM-affiliated bank can help you gain access to capital.
What is the first thing to consider when thinking about doing business overseas?
Think about where you are in this trading relationship. Are you a buyer or a seller? Do you have more negotiating power when compared to your counterpart, or do you not really have a say? If you are a small company dealing with a large company, your negotiating power is weak. But if you are a bigger company dealing with a smaller vendor, you’ll have a lot more say.
You also need to evaluate yourself. Look at what you are selling. Are you buying offshore, as well? What currencies will you be dealing with? Do you need financing? What kind of instrument will you use to conclude the sales transaction? Your banker can point out things you may not have thought of and suggest instruments to help you secure and protect yourself.
How can hedging help a business protect itself?
Due to recent volatility in currency markets, the U.S. dollar is no longer the king of currency. Ten years ago, companies didn’t want to deal in foreign currency because the risk was too great, so they only dealt with companies that would take U.S. dollars. But today, when you want to get a good deal, sometimes you have to pay, or buy, in the local currency of the market you’re dealing in.
A simple hedging scenario is a forward contract. Let’s say, today, pricing per unit on your foreign transaction is $1.41. But you won’t be paying for 90 days. Today, you may be getting a good deal, but if the exchange rate goes up to $1.45 in this scenario, your margin has suddenly diminished, and you may now be losing money. To protect your costs on transactions like this, get a forward contract to ensure that your costs are locked in
So your strategy should be to manage this process closely, rather than to take what could be costly chances. Many businesses choose the latter, and if by chance the market swings in their favor their profit margin will widen. But if the market goes against them, their margins could disappear completely. It’s not worth the risk.
How can the Export-Import Bank of the United States help a company do business overseas?
The EX-IM Bank is the official export credit agency for the U.S. Its primary aim is to promote export activities, but it is a small agency.
Commercial lenders in the market, however, have contacts with exporters. So the EX-IM Bank names certain commercial banks as delegated authority lenders to provide lending to exporters, with the EX-IM Bank providing a 90 percent guarantee on loans that these particular commercial banks make.
For example, if a commercial bank is not a delegated authority lender, it wouldn’t even look at using international receivables as collateral for lending because those receivables represent a higher risk. So they only want to consider domestic receivables as potential collateral.
A company that is heavily into exporting doesn’t have much in domestic receivables but does have foreign receivables, making it difficult to get working capital from a regular commercial bank. So the EX-IM Bank designed this program in which, if commercial banks are willing to lend to exporters, it will guarantee the lender 90 percent of the loan, and the commercial bank is only exposed to 10 percent of the risk. That makes it easier for the commercial lender to help the exporter. And the exporter still deals with its own bank; EX-IM only comes into play if the loan goes into default.
What should a business look for when doing business with a bank?
Look at the banking relationship. Businesses tend to think that, if they’re importing or exporting, they have to go to a global bank. There’s nothing wrong with that, but if a business is small, it may not get the attention it needs to help it structure deals. At a bigger bank, smaller companies tend to get lost.
By going to a bank that caters to smaller companies, you can get the attention that you need to move your business forward. Your bank can do so much more than just provide you with a loan. Look for a bank that really wants to help you and that can ask the right questions to urge you to think through the details of what needs to be in place to achieve your business objectives.
Find a bank that will get to know your company. It should really understand what your business model is, and what kinds of products you do and don’t need, and provide you with an honest assessment.
By finding the right bank to partner with, your business can take advantage of the growing opportunities in international markets.
Jeannie Kao is executive vice president/division manager, International Banking Division at Bridge Bank. Reach her at (408) 556-8375 or [email protected]