Export Finance

4. Foreign Currencies

Most customers will prefer you to quote and invoice them in their local currencies, rather than pounds sterling. Unless you are prepared to do so, they may choose alternative suppliers. However, invoicing in a foreign currency exposes you to additional risks and costs.

4.1 You have a foreign exchange risk for any amounts you hold or expect to receive in a foreign currency.

• You are at particular risk if the foreign currency is volatile or chronically weak, for example, in some middle Eastern or African currencies.
• Some currencies present extra difficulties.
• You will need a foreign currency bank account (see 4.5) to hold the funds until you convert them to sterling.

4.2 There will be an extra transaction cost and delay for converting the foreign currency into pounds sterling.

With a 'spot' foreign exchange transaction, you sell a bank foreign currency in return for pounds sterling.

• The cost of the transaction will be included in the rate you are quoted. For a £100,000 transaction in a widely traded currency (eg US dollars), the effective cost might be 0.1 to 0.5 per cent.
• A spot transaction usually takes effect two days after you agree the transaction price.

4.3 You can hedge against the risk of adverse exchange rate movements by using a forward foreign exchange contract.

You agree to sell the bank the foreign currency at a fixed future date for a price that is set now.

• The difference between the spot exchange rate and the forward exchange rate will reflect relative interest rates between the two currencies.The effective transaction cost of a forward contract is typically 0.2 to 0.6 per cent.
• You must fulfil the forward contract, even if your customer does not pay you.You will then be at risk for any adverse movement in the currency.

4.4 You can buy an option to sell the foreign currency.

This gives you the right, but not the obligation, to sell the foreign currency at an agreed rate on the specified date.

• If exchange rates move against you, you use the option; if they move in your favour, you allow the option to lapse.
• You pay a premium for the option, which depends on the volatility of the currencies involved, relative interest rates and how far into the future the option covers you. A three-month option at the current forward exchange rate might typically cost you 2 to 5 per cent.

4.5 It may be more convenient to maintain foreign currency accounts if you frequently issue foreign currency invoices.

• You will receive interest on the balance in each foreign currency account. For amounts less than the equivalent of £100,000, the interest rate is likely to be substantially below the interbank rate.
• You can convert foreign balances into pounds sterling when you choose. Fewer, larger transactions will be cheaper and involve less administration than converting every payment received.
• It can be useful to have a foreign currency account for any payments you need to make in that currency.