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For any company doing business across international borders, mitigating foreign exchange risk is important for maintaining cash flow consistency and a healthy bottom line.
Depending on the amount of money involved, an unfavorable fluctuation in currency value can be costly. While a publicly traded company can absorb millions of dollars in losses, a small business that loses out on $10,000 or $50,000 due to currency fluctuation could go out of business, says Victor Hinojosa, director of North American partnerships at Western Union Business Solutions.
That's why some international businesses use bids to help gain control over foreign payment pricing. Bids enable an international business owner to stipulate the specific price or price range at which he or she is willing to purchase a foreign currency, along with the amount needed.
— Brendan McGrath, CFA, corporate risk manager for Western Union Business Solutions
Here are a few ways businesses can use bids to their advantage.
Business owners can make the forex market work in their favor by using a bid to purchase foreign currency at a reasonable price. For example, if a small business owner in the U.S. wants to purchase goods from a European company at a rate of EUR/USD 1.264, he can use his online foreign exchange service to obtain his ideal rate or "ask" price. With online foreign exchange services, business owners can place bids any time using their computers, tablets or any number of mobile devices. The online foreign exchange provider then puts the bid into the market.
"Bids can be placed for long durations, one month, but usually the duration is less than a couple of weeks," Hinojosa says. "The reason for this is very simple: [Businesses] want to take advantage of specific market movements. The customer ultimately decides how long to put a bid in the forex market. Whether it's an overnight bid, a bid for a couple of hours or a two-week bid, it all comes down to what the client's goals are for the specific trade."
Sometimes, a bid is placed with a foreign exchange collar, which sets the highest and lowest bid price parameters at which a business owner is willing to purchase or sell a currency. It's also important to remember that the bid price is always lower than the ask price.
The market tends to fluctuate the most between 3 a.m. and 9 a.m. EST because London, the largest currency market in the world, typically trades with Asia during that time frame, Hinojosa says. By using a foreign exchange provider, business owners can go to bed and wake up the next morning to see if they have obtained their ideal rate.
"When the exchange rate you want becomes available, we lock it in for you, notify you and initiate your transaction," says Brendan McGrath, CFA, corporate risk manager for Western Union Business Solutions. "You get the price you want, and your supplier receives payment in his or her local currency."
Small businesses can focus their international business decisions around a bid rate so it's a known factor when budgeting. "If you are an importer, [the bid rate] is going to be your cost, and if you're an exporter, that's going to be your profit," Hinojosa says.
Buying foreign exchange currencies online using a bid can lead to a better rate - but that can also tie up a business's cash flow. Therefore, it's important to consider how allocating funds to a bid will impact cash flow.
"Cash is king," Hinojosa says. "I always tell my clients, 'We can buy at a great rate, but from a cash flow perspective, is this something your company can afford at this time?' The client has the ultimate say as to what they want to do."
Regardless of a small business's financial situation, having a strong currency risk-management strategy that employs the use of bids can help provide the foundation for success.
Example: 1USD = xx INR
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