Last year, Wells Fargo surveyed CFOs and treasury executives and more half (55 percent) of the respondents identified foreign exchange (FX) as a primary concern.
This concern stems – at least in part – from the fact that most CFOs now operate in environments where their MBOs (management objectives) are directly tied to corporate earnings – and corporate earnings are directly impacted by currency volatility.
CFOs cannot control currency volatility, but they can ensure their teams understand and address how changes in global currencies impact an organization.
Earnings per share (EPS) is a key example. Even a slight currency surprise can alter EPS, which can send ripples through a corporation. By mitigating how currency impact EPS, you protect the bottom line – and ensure MBOs are attained.
The good news is advanced data analytics and evolving technology make this an achievable benchmark. In fact, in many cases, corporate earnings (and MBOs) can be aligned so that currency impacts EPS at a rate of less-than-a-penny per share.
A new normal for CFOs
A decade ago, achieving a less-than-penny benchmark would have been implausible. That is because corporations operated with an understanding their data was not timely or accurate, meaning an accurate picture of an organisation’s true currency risk was nearly unimaginable.
Now, with the availability of real-time data and cloud-based analytics, CFOs and their FP&A and treasury teams can access accurate, complete and timely institutional data. This data, in turn, empowers them with fast, bottom-line insights, enabling them to improve cash flow predictability and reduce the impact currency exposures have on EPS.
This has become the new normal. Organisations can now seek a currency risk management program that is at least 95 percent effective because stakeholders can now take confidence in their data.
This is important because, when it comes to currency impacts, a lack of confidence in the data is no longer an option. In Q1, 2017 alone, quantified negative currency impacts cost North American and European corporations $6.7 billion. Impacts of this magnitude are common because most corporations routinely operate with a host of global exposures – and global currencies are also far more volatile than they were a decade ago.
Achieving a currency impact of less than 1-cent of EPS
Against this backdrop of volatility, it becomes clear why corporates need to achieve the highest efficiencies possible in managing currency risk.
At the outset of this article, I mentioned corporations attaining a currency impact of 1-cent EPS. Why does a penny matter when discussing EPS?
Jeopardizing earnings per share is ill advised in today’s market environment where analysts can downgrade stocks and investors can unload them in nanoseconds. Lower EPS triggers these sorts of ripples, which in turn bring about a drop in stock value, reduced dividends and lower stock prices going forward.
This is why CFOs are prioritising currency exposure management. Today’s sophisticated investors recognize when FX impact EPS by more than a penny, it may be indicative of a company not adequately managing overall risk. This sends signals to shareholders and analysts that more FX surprises are likely and uncertainty will continue to shape share price.
The “three M’s” in currency management
Without an effective currency risk management program in place, a corporation’s EPS is at risk. To ensure your organization is managing currency impacts to a target of 1-cent of EPS (or lower), your organization should adopt a “Three M” approach.
First: measure. This begins when an entire enterprise commits to becoming more currency aware, proactively understanding currency risk across an organisation’s entire portfolio. Accurate and timely data concerning all currencies must be analysed (ten years ago, timely data was measured by days; it is now defined in minutes).
Second: manage. Determine what level of risk is acceptable enterprise-wide, and manage to that benchmark. This requires decision makers to think of a currency portfolio the same way they do any investment portfolio – with an eye on establishing an acceptable level risk and return (or, in risk management terms, cost-adjusted risk).
Finally: monitor. Continuously monitor the currency analytics. This may sound labor intensive, but it can now be easily done via readily available and employable cloud-based technologies that, in some cases, are available at the push of a button.
Achieving a “less than penny” EPS benchmark not only gives treasurers and others the confidence they need to manage currency risk to a preset threshold, it also enables CFOs to attain FX-related MBOs.
I can attest this three-prong methodology works. At FiREapps, we have been helping CFOs identify and manage currency risk for nearly two decades. We have helped companies with hedge efficiencies of 65 percent transition to efficiencies of 99 percent. Best of all, once they attained this benchmark, CFOs no longer needed to focus on currency volatility; they were positioned to withstand short-term shifts.