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Why your company needs a treasury policy



By Alexander Youngman, GPS Capital Markets


If your company is exposed to foreign currency rate fluctuations in the normal course of its business, you need a treasury policy! The purpose of a treasury policy is to establish parameters for your company to follow in governing the management of foreign currency exposures.


Foreign exchange risk is the risk that movement in currency values will have an adverse impact on your company’s financial performance. Exposure to foreign exchange risks can come from many sources. A treasury policy details a framework that recognizes and quantifies these risks and describes what can or must be done to manage or mitigate them.



Foreign exchange risk exposures can be classified into three types.


1. Transaction exposures


A transaction exposure pertains to the exposure due to an actual transaction taking place in the business involving foreign currency. In a business, all monetary transactions are meant to result in profits. There are significant chances of that final objective being hampered if it is a foreign currency transaction and the currency market moves in an unfavorable direction.


Transaction exposures are separated between operating activities and finance activities. Operating activities can be considered the day-to-day business such as paying suppliers, employees and company fees. Finance activities are related to stock, loan repayments, equity and so on. For most small business owners, the focus will be on operating activities. Are you utilizing them in the best possible ways?


2. Translation exposure


Translation exposure (also known as accounting exposure) is due to the translation of books of accounts into home currency. Translation activity is carried out on account of reporting the books to shareholders or legal bodies.


3. Economic exposure


Economic exposure is a measure of the change in the net present value (NPV) of a company as a result of fluctuations in cash flow caused by changes in the foreign exchange rates (FX). A stronger foreign currency will make production more expensive, while profits earned in foreign currencies will decrease. Furthermore, economic exposure can undermine the company’s competitive position.


For small business owners, the focus of a treasury policy will most likely be on enhancing the method of buying and selling currency and managing the risk factors such as market movements. But treasury policy is rarely core business or even a major concern for business owners, especially in the beginning. With this in mind, it’s a good idea to work with a professional who can help you figure out the best methods for your company and generate a basic policy that meets your needs.



Working with a treasury professional

When working with a treasury professional, make sure they consider the following guidelines when producing treasury policies.

  1. Use the company’s existing risk management frameworks and systems, including risk terminology, risk measures—for example, value at risk (VaR)—and policy templates, if they exist, to ensure that policies are produced on a consistent basis across the company.

  2. Take into account the company business profile, financial position, corporate strategy and economic environment in order to identify the key risks, identify potential offsetting risks (“natural hedges”), set the risk appetite and establish the risk response. A couple of definitions are in order here: Hedging is the process by which an entity protects itself from adverse currency rate fluctuations by, for example, entering into currency contracts that are expected to produce gains (losses) that counterbalance the losses (gains) caused by the underlying exposures. A company’s risk appetite is the amount and type of risk a company is willing to take to meet its objectives. It is a key component of a treasury policy document and depends upon a number of factors, including the company’s risk capacity (how much risk the company can bear), shareholders’ and management’s attitude to risk, and the economic and competitive environment.

  3. Adopt a standard risk management process for each risk. For example, identify, analyze (likelihood and size of risk), evaluate (compare risk exposure with risk appetite), respond, control, report and monitor.

  4. Assign ownership and accountability for the management of each treasury risk and associated treasury policy.

  5. Review the risk management process at least annually or when there are major changes in the company profile, corporate strategy or economic environment. Additionally, there should be a process to identify emerging risks, which may not be an immediate threat, but could be more significant in future—for example, climate change and automation.


Having a clear, well-thought-out treasury policy and updating it periodically can save your company a great deal of money over time. As a business doing international transactions you can’t avoid the risks of currency markets. They will always have an impact. It’s well worth putting in some effort to create a treasury policy that works for your company.



If your company does international business, be sure to register for a free one-on-one consultation with Alexander Youngman of GPS Capital Markets here.