The true cost of foreign exchange

Third in our series on ‘The True Cost of Exporting’ is the cost of foreign exchange and suggestions on ways in which you can minimise these costs, while earning a little along the way.

There are a number of actions you can take to minimise the cost of foreign currency transactions for your business: negotiate competitive margins and fees for your foreign exchange deals, use foreign currency accounts, and use products which to lock in a rate or protect a worst case rate to convert your future foreign currency receivables.

Margins and fees

Possibly the easiest cost to minimise when dealing in foreign currencies, is the margin your provider takes on your foreign exchange deals. Your provider will take margin on both your ‘spot’ deals, that is, deals for settlement within two business days, and your ‘hedging’ deals, that is, deals where you lock in a rate or set a worst case rate for your future foreign currency receivables. Margin just means the difference between your rate and the market rate where banks are trading with each other in large parcels, for example A$5 million lots. Market rates for spot deals are what you see on the TV and a number of free websites that regularly update rates, but this is not the rate you will get.

To negotiate the smallest possible foreign exchange margins for your business, you will need to shop around a little, at least consider your main banker and one other provider, which may be either a bank or non-bank. Be open, and make sure they know as much as possible about the size and nature of the transactions you need to do, and about what type of service you prefer; do you like regular phone calls or emails? Do you prefer on-line or over the phone dealing? This type of information will help the provider to quote a margin based on their expected income on your business and how much time you will take to look after.

As a rough idea, a business that has foreign currency transactions per year of around A$2 million per year, could expect a margin on spot deals of no more than 20 to 30 points on US dollar deals. This means that if, for example, you have negotiated a margin of 20 points, then your rate to sell US dollars when the market rate is 0.6500, would be 0.6520.

Apart from margins, you also need to ask the provider what, if any, fees will apply for each foreign currency transaction. These fees will vary between providers and you need to check they don’t offset the benefit of any reduced margins you have been able to negotiate.

It is not normally difficult to set up foreign currency dealing arrangements with a provider other than your main banker. The initial set up time of paperwork, learning a new platform and dealing with new people, could well be worth it if the margins on your foreign exchange deals are less.

Once you agree margins with a provider, and you are dealing with that provider, you still need to follow a process that ensures they are delivering the margins as promised. Take some time to document your foreign exchange dealing procedures; this should include a process of recording the approximate margins if possible, especially for spot deals. There are free websites around that update market spot rates every minute, for example So make sure you know roughly where the market rate is when you are asking for your rate, and don’t be afraid to question your provider before agreeing to a deal if the margin doesn’t look right.

Foreign currency accounts
If possible, you really need to set up accounts with your Australian bank in the foreign currencies you are earning. There are a few good reasons to do this. Firstly it means your customers can EFT (electronic funds transfer) when they make payments, rather than sending cheques. Foreign currency cheques issued by an offshore bank are usually very slow to convert to Australian dollar funds, up to four weeks, and will usually be converted at a worse rate than EFT funds.

Secondly, using a foreign currency account gives you more control over the conversion of these funds into Australian dollars. You have the flexibility to hold off on the conversion if you don’t need the cash straight away and you have the view that the market rate will move more in your favour in the future. It also means that you have the ability to check that the conversion rate only includes the agreed margin you have negotiated. Otherwise, if your customer sends over foreign currencies to your Australian dollar bank account, your bank may just immediately convert your funds into Australian dollars and credit your Australian dollar bank account without giving you a chance to be in control of this important transaction.

Thirdly, if you have some payables in the same foreign currency as the account used for your receivables, you can use the account to make these payments. Most banks should provide this service electronically via online platforms. This will minimise the number of foreign currency transactions you need to do, which should always be your goal. Every single foreign exchange deal usually provides some income for your provider, income that ultimately comes out of your bank account.

There are some other tips to remember when using foreign currency to help minimise costs. Make sure you are earning a fair rate of interest on any balances in the foreign currency accounts. If not, and the balance is reasonable, say more than A$100,000 equivalent, ask your bank for a rate on a foreign currency term deposit. Most banks should offer a more market related rate of interest on terms as short as seven days with interest paid at maturity. Foreign currency term deposits could help you to maximise the return on your foreign currency balances while you are waiting for a better rate to convert, or to use the funds for a payment to an overseas supplier.

Additionally make sure your bank credits your foreign currency account on the day your customer sends the funds. Banks have been known to hold onto funds for one or more days in their own accounts, which often goes unnoticed because of the confusion associated with time zone differences. Keep an eye on this, otherwise you may be missing out on interest that is rightfully yours and, in addition, your cash flow management may be hurt because you don’t know that your customer has actually paid you.