Your Ultimate Guide to Foreign Exchange Currency Risk

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Risk is a part of all ecommerce businesses. As they say, the higher the risk of your business is, the higher its income in the future.

However, while capital risk is common, there are other business risks that you should look out for, which commonly appear as you go along with your business. For eCommerce businesses this includes foreign exchange risk or currency risk.

Some business owners disregard the effect of currency risk on their income. While it may look small in hindsight, accumulated currency risk can be detrimental to your business. To help you with this, we’ve come up with an ultimate guide to foreign exchange currency risk.

What is foreign exchange risk or currency risk?

Going global is a common trend among business owners. To acquire more sales and revenue, you should reach out to more people, including going beyond your country.

Foreign exchange or currency risk happens when you’ve decided to go global. Foreign exchange rates directly affect your revenue, especially when international currencies don’t match your money. Your financial reports might reflect a discrepancy in your income without any allocation while you lost it due to foreign exchange rates.

Aside from selling your products globally, foreign exchange or currency risk might also happen if you plan on outsourcing your team members. They might want to get flexible rates depending on their local currency, which may cause confusion and inconsistencies on your end.

Why does currency risk exist?

Foreign exchange risk exists because of the volatility of the global market. A country’s local currency is entirely dependent on their economy, so should their economy improve, so is their local currency. 

For example, the Australian dollar is currently at 0.74 USD when an order is placed. Should Australia’s economy fluctuate because of various political, social, or business issues, the value of the Australian dollar may also fluctuate. Therefore, your revenue in USD during the order fulfillment might increase. 

Foreign exchange risk is higher when doing business with a country with more significant differences with your local economy. For example, the foreign exchange risk of Australian to US dollar is lower than the currency risk of Philippine Peso to US dollar.

Aside from this, non-fiat currencies are also affected by currency risk. The volatility of foreign exchange rates can cause an increase and decrease on all currencies independently or as a whole.

How does currency risk affect business?

Like any business risk, currency risk can have positive or negative outcomes.

If the currency of your target international market fluctuates, you will get higher revenue. But should the value of their currency increase, your income will decrease.

This phenomenon adds difficulty in setting predictions and forecasts for your business. You might not be able to fulfill your target revenue for the month, not because you couldn’t sell enough products and services, but because you lost a large portion of your income during currency exchange. 

Aside from these, the mere fact that a portion of your revenue isn’t allocated to other business areas is wasteful. It’s just lost to thin air without making something out of it. It may also cause mismatching and confusion in your financial reports.

How can you use foreign exchange risk to your advantage?

Fortunately, you can capitalize on foreign exchange risk by trading with a weaker currency.

As a business owner, you can buy your base products or workforce from countries with a weaker currency, and you will shell out the exact value of investment or even less. This will help you boost your profit, making your business competitive in your niche.

For example, a UK-based startup acquires a workforce from Malaysia. The current rate of an HR manager in Malaysia is currently at 3,000 Malaysian Ringgit. Due to the foreign exchange rate, this is equal to 500 GBP.

How to execute proper foreign exchange risk management?

Sure enough, you won’t be able to control the volatility of the foreign exchange rates. However, you can control the parts of your business that deal with your foreign market.

As we mentioned a while ago, you can try trading with a weaker currency. In addition, you should limit trading with countries with a stronger currency than your local currency.

It would be best to consider accepting non-fiat currencies on your business. They pose greater currency risk, and they are almost 3x more volatile than fiat currencies.

Lastly, it will help regularly assess and change your product’s prices based on your target market’s currencies. This way, you can be sure that you will get your target profit without losing so much during the foreign exchange process.

What we recommend is using banking which has the facility to recieve and store foreign currency buckets like revolut or Starling. This will allow you to match your USD income with USD suppliers and UK income with UK suppliers.

Ben Sztejka ACA

Ben Sztejka ACA

I am an ICAEW Chartered Accountant with one core belief, make accounting as pain free as possible and focus on adding value to businesses.

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