Topic Category: Trade & Finance

Have you been considering whether to outsource some of your treasury functions? If so, you’re not alone. Outsourcing is becoming a popular way for treasurers to cut costs, maximize staff efficiency and improve the bottom line. In fact, recent articles have gone so far as to say that up to 51 percent of firms could be outsourcing by mid-2004.

But is that number realistic for treasury? It depends on how you define outsourcing. Bank of America research shows that many outsourcing statistics are over-inflated, probably because they include payroll functions, which are not considered part of the core treasury.

A 2002 informal Bank of America survey revealed that while the demand for outsourcing the complete treasury function in the U.S is small, companies are prepared to outsource specific functions — particularly those that allow them to benefit from external expertise or free themselves from routine activities. The areas identified as having the greatest potential for outsourcing are investments, foreign exchange and liquidity management.

When deciding whether to outsource, there are many issues you need to consider carefully, including customer impact, security and financial liability. Here are some questions that can help get you started on your decision-making process.

What Are Your Goals?

Before you can decide on an outsourcing solution for your company, you have to identify the improvements you hope to make and the objectives you want to achieve with your current operations. Are you looking to reduce administrative overhead costs? Bolster inadequate resources? Improve service and performance? Upgrade your systems or IT infrastructure without a huge investment? Enhance your market responsiveness? Be aware that each of these goals may require a different solution.

Why Should You Outsource?

There are many viable business reasons why you should consider outsourcing, including:

Cost savings

Outsourcing is a proven method of receiving the most up-to-date services and processes at cost-effective prices.

Lower up-front investment

Rather than keeping up with and investing in the latest technological developments and systems, you can rely on an outsourcing provider to handle it for you.

Better use of company resources

Staff recruitment, training, development, supervision, career planning, and annual reviews all can become the responsibility of your outsourcing provider, freeing up your time for more important activities.

Greater control

An outsourcing provider can bring enhanced control by segregating duties, providing holiday cover, improving process efficiencies, establishing set transaction costs and much more.

Leveraging outside expertise

You can depend on the experience and skills of your outsourcing partner.

Which Functions Are Suitable for Outsourcing?

In general, the treasury processes you outsource should be:

  • A non-core part of your company’s business. Strategic activities that have a fundamental bearing on your company’s bottom line are best kept in-house and under your direct control. True financial decision-making should remain firmly within your company.
  • More cost-effective, when you take into account the scale benefits provided by the selected vendor.
  • Highly repetitive processes. Back office operations and high volume/low value treasury transactions are all functions well-suited for outsourcing.
  • Operations you understand so you can control and measure the performance of the service provider.

A GTNews October 2002 survey showed that functions least likely to be outsourced are risk management and funding/debt management, probably since it’s more difficult to make the distinction between strategy/policy and execution.

How Do You Choose an Outsourcing Partner?

Once you have determined the level of service you need and which functions you are going to outsource, you can begin a formal selection process. You should identify a list of potential providers, provide detailed specs of the services you require, submit RFPs to each agency, and determine your selection criteria in advance.

Keep in mind that outsourcing is usually a mid- to long-term process and you will have an ongoing relationship with whatever provider you choose. Since your outsourcing partner must fully understand your business needs and standards, you should get to know your potential choices for at least two months before making your final decision.

What Should You Look for?

Although it may seem just plain common sense, you need to ascertain that your project is not among the first your potential outsourcing partner has undertaken. Your service provider must have real implementation experience, and be prepared to stay for the long-term. Plus, watch out for conflicts of interest or self-interest. Overall, your partner should be flexible, and have a corporate treasury orientation and the ability to customize services to accommodate your business now and down the road.

The right business partner will bring project management skills and specialized knowledge to both the implementation and ongoing execution of your projects. Your partner also should integrate thoroughly with your in-house operations and offer suggestions about further improvements. In short, your outsourcing partner should be unrecognizable from your own treasury, acting in the same way as your organization would.

How Do You Ensure a Smooth Working Relationship?

After choosing your partner, you need to have a clear and shared understanding of what functions are being outsourced and the specific arrangements. Both you and your partner must establish expectations, responsibilities and deliverables right from the start. These details should be spelled out thoroughly in proposals, service level agreements and service contracts.

You must feel comfortable with your partner’s capabilities and infrastructure, including people, systems, internal controls, and security. But no matter what, ensure that your financial assets and funds are protected under all agreements and contracts. And lastly, have a process in place for managing the outsourced services.

What about Security?

If you’re like most treasurers, your overriding concern with outsourcing is transmitting financial data via web-enabled technologies. That’s why it’s imperative your partner incorporate security into the infrastructure of the treasury management platform. Most outsourcing suppliers have the technology in place to guarantee database security, database segregation, the transmission of transaction data across the internet, authentication, and access to the system/data.

You’ll want to pay special attention to data confidentiality, as well as application database and operating systems security. Most systems offer several password control features and provide functions to segregate treasury staff duties. Look for outsourcing partners who secure data on hard disk and provide security during data transmission through the use of digital signatures or data encryption.

Check into the background of your service provider, including its financial strength and staff experience. Get references from other companies. And, be sure to include the level of security you require in the service level agreement with your outsourcing provider. To ensure that this level of security continues, you may consider requesting a third party statement on security from your outsourcer.

Will You Be Giving up Control by Outsourcing?

Surprisingly, most treasurers who decide to outsource have found the exact opposite to be true. They actually discover they have more control because they can:

  • Focus on the critical and strategic aspects of treasury rather than on day-to-day transaction processing and other operations.
  • Avoid the expensive, time-consuming and problematic dimensions of treasury.
  • Reduce the time and energy needed for staff recruitment, training and management, all which require much supervision.
  • Have more influence and value in their organization.
  • Position themselves and the treasury component more prominently in the corporation.
  • Enjoy a greater leadership role.

Of course, the outsourcing partner you choose will have an enormous effect on whether any or all of the above is true. A poor outsourcing provider can cause more problems and headaches for you as treasurer, increasing the amount of time you have to spend resolving crises and getting bogged down in everyday details. That’s why so much time and care should be given to selecting the right outsourcing partner from the start.

To Outsource or Not To Outsource?

Although many news articles overstate the appetite for treasury outsourcing, it is becoming more popular. If you decide to outsource specific treasury functions or increase the number of functions outsourced, it is important to maintain a balanced overview of the issues, challenges and concerns involved. In addition, it is essential to choose a partner who’s right for you.

This article appeared in December 2002. (BA)
Topic: Trade & Finance
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Now that interest rates have plummeted to their lowest level in over a decade, corporate treasurers in the United States and abroad are faced with many challenges and opportunities when it comes to managing their cash. The low cost and easy availability of funding make this a perfect time to refinance high-cost debt to save on spreads.

That’s the upside of this economy. The downside is finding smart, effective ways to invest cash balances that will preserve capital and provide the liquidity, security and consistent yields treasurers require. Before they can even consider strategies for dealing with today’s volatile market, however, treasurers need to have systems in place that show them where their money is and how much is available or in use at any moment of the day.

Start with the Basics

First and foremost, treasurers must identify where cash is in the system, agrees Mary Kiser, Senior Vice President and Sales Manager, Global Treasury, Bank of America. “At Bank of America, we are finding that treasurers are getting weekly financial reports instead of real-time information,” Kiser says.

“As a result, they’re making bad investment and funding decisions based on outdated information. Understanding your global positioning at all times is absolutely critical to successful cash management in the financial environment we’re experiencing today,” she says. In fact, having instantaneous access to cash positions makes good business sense in any economy.

Updating Systems

The focus on Y2K compliance forced corporations to update their technology and create more effective systems. Kiser believes that treasurers “should use these systems to their benefit, to find out where cash is and use it more efficiently then ever before.”

Many corporate treasurers also are turning to electronic systems to handle payments, especially for overseas transactions. The electronic systems allow treasurers to download accounts payable information into their accounting system and into a payment file, which produces payment instructions.

An electronic payment system can help improve staff efficiency, giving employees more time to handle other important financial issues. It also can provide constant monitoring of cash positions and advance notification of any problems that arise. Once forewarned, treasurers can take the necessary action to fund accounts or obtain credit to maintain liquidity.

What’s the Next Step?

Once you have effective payment and information systems in place, there are a number of debt restructuring strategies you can use to maximize your cash under the current financial conditions.

Refinancing Expensive Debt with Cheaper Loans

Over the last year, there has been a rush worldwide to refinance debt at the lowest rates businesses have seen in a long while, and may never see again. This strategy, which not only offers substantial savings over the long term, also can give treasurers additional options for using the cash saved – including investing the money or taking on more debt at today’s favorable rates.

With the possibility that interest rates will decline even further, the push to lock in low-cost funds and retire costlier debt is expected to pick up.

Longer-Term Financing

Today’s low rates and a relatively flat yield curve are encouraging more and more companies to reduce their reliance on short-term funding and to extend the maturity of their loans. Shrinking short-term funding sources also are responsible for this phenomenon.

In the U.S., for example, the commercial paper (CP) markets have all but disappeared except for the highest rated A1/P1 issuers. Although the CP markets in Europe and Asia are still strong, treasurers are reticent to run the risk of relying on them too heavily.

Short-term funding also is dwindling in the banking sector, due mostly to bank consolidations over the past two years, which have left companies with fewer and fewer borrowing options. In Europe, the new capital adequacy requirements of the Basle II accord and greater pressure from bank investors to improve their return on equity have forced financial institutions to become choosier about the type of loans they make.

Yet, even with all its current drawbacks, short-term borrowing has its advantages and shouldn’t be discounted as an effective cash management tool in the current economy.

Thinking Short Term

Not everyone is convinced that long-term borrowing is the answer. Exchanging short-term debt for long-term borrowing increases a company’s cost of capital. Some companies are choosing to go with short-term debt because rates are even lower at this end of the spectrum.

Companies can sell commercial paper for just over 2 percent, which is a very attractive yield in today’s market. For many corporations, commercial paper is their most cost-effective source of funds. Obviously, the problem right now is finding short-term sources of funding.

Interest Rate Swaps

Many companies are initiating interest rate swaps to reduce the cost of their fixed rate debt and to balance their interest rate exposures more effectively. With this strategy, treasurers swap a portion of debt from fixed rate to floating. By doing so, they take advantage of a substantially lower rate in the floating portion, which can lower their company’s average cost of debt.

It’s recommended to continue to keep a portion of the portfolio in fixed rate as a precaution against rising rates and inflation. A good benchmark is to keep at least 50 percent of the portfolio in fixed rate so that whatever happens in the market, half of the costs are fixed and predictable.

Planning Ahead

During the Asian financial crisis of the late 1990s, companies were unable to get credit at a reasonable cost. Funding was scarce and expensive even for companies with solid credit ratings. The lesson learned from that time was to be prepared. That’s why many corporations today are borrowing money not because they need it, but because they want to lock in the best rates they may see for years.

It’s critical to have long-term borrowing facilities in place to see your business through the bad times. Arranging for new money when the market is right rather than when it’s needed provides more leeway in cash-flow management and is just smart business. Remember, when money gets tight, financing costs become prohibitive. Even if borrowing today isn’t an option, it makes sense to explore solutions that ensure your company has liquidity when it needs it.

Looking Beyond Debt

Debt administration is just one facet of cash management in the current low rate environment. The real challenge is maximizing earnings while rates are down, without jeopardizing liquidity and stability. Liquidity funds may be the answer.

Liquidity Funds

Managing cash balances in today’s changing and uncertain market environment is a tough job for corporate treasurers. They need an investment tool that provides security, liquidity and stability. This explains the growing popularity of liquidity funds. These funds, available exclusively to corporations, banks and other institutions, offer a high level of security and the potential for higher yields than those offered by traditional time deposits.

The conservative nature of liquidity funds, with their investment objective of preserving capital, make them an attractive investment for any interest rate environment – but even more so in the low rate one we’re experiencing now. Liquidity funds’ exceptional level of security is reinforced by Standard & Poor’s AAA rating. These funds are appropriate for temporary or medium-term cash investment, seasonal operating cash, automated cash sweeps, and the cash component of investment portfolios. Interest is compounded daily and paid monthly, and can be taken as cash dividends or reinvested in new shares.

Liquidity funds offer unique services and options that make them even more attractive to corporate investors. For instance, some funds provide same-day settlement and late dealing deadlines, so investors can have access to their cash on the next business day — an important advantage for treasurers in this market.

Late cut-off times allow treasurers to assess their cash requirements throughout the morning and deal later in the day, rather than being forced to make estimates to meet early cut-off times.

This article appeared in September 2002. (BA)
Topic: Trade & Finance
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Whether you are considering exporting or investing in a particular foreign market, it is essential to understand country risk. And since a variety of factors affect it, country risk can rise quickly, significantly elevating your level of exposure.

Variables Affecting Country Risk

To comprehend country risk, it is necessary to understand how political, economic and social factors impact it. Generally, political risks are assessed in terms of country stability, and are sometimes measured by the level of confidence in a government. Economic risks are reflected by levels of national growth, inflation, unemployment, balance of trade, and taxes. Social risks usually involve social unrest and violence.

Topic: Trade & Finance
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The Chinese proverb: "Give a man a fish and you feed him for a day, teach a man to fish and you feed him for a lifetime," has never been more relevant than today.

Globalization, the integration of national markets through international trade and investment, offers infinite possibilities, greater freedom, and new hope for the world's poor.

Since globalization emerged in the 1970s, world infant mortality rates have fallen by almost half, adult literacy has increased more than a third, primary school enrollment has risen, and the average life span has shot up 11 years. In the short span from 1990 through 1998, the number of people living in extreme poverty in East Asia and the Pacific decreased 41% — one of the largest and most rapid reductions in history.

Due to successful efforts to lower global barriers, international trade and investment have become a primary engine of world growth. And growth is responsible for reducing poverty. In fact, studies indicate that developing countries with open economies grew by approximately 5% a year in the 1970s and 1980s, while those with closed economies grew less than 1% annually.

Today, 24 developing countries representing about 3 billion people, including China, India and Mexico, have adopted policies enabling their citizens to take advantage of globalization. The result: their economies are catching up with rich ones. The incomes of the least globalized countries, including Iran, Pakistan and North Korea, have dropped or remained static.

If remaining world merchandise trade barriers are eliminated, potential gains are estimated at $250 - $550 billion annually. About two-thirds of this would accrue to developing countries — more than twice their annual level of aid.

Helping the world's poorest countries to become globally integrated will position them for greater growth in the 21st century. And who would know this better than former Mexican president Ernesto Zedillo, who said, “In every case where a poor nation has significantly overcome its poverty, this has been achieved while engaging in production for export markets and opening itself to the influx of foreign goods, investment and technology — that is, by participating in globalization.”

Powered by advances in telecommunications, transportation and finance, globalization empowers consumers to purchase the best the world has to offer and gives producers the tools to find buyers anywhere. Consequently, in the United States, resources have shifted to sectors with competitive advantages, productivity has reached new highs and innovation has flourished. Self-directed teams now apply sophisticated skills to create and run new processes. This has transformed U.S. manufacturing and boosted demand for more highly-skilled workers.

But globalization has had negative consequences on some developing countries that don’t have sound legal or financial systems. As a result, anti-globalists with good intentions but bad policy recommendations often brand globalization as the scapegoat for many of the world’s ills.

The challenges introduced by globalization are similar to those introduced by the industrial revolution. Just as the internet eliminates distance, we relive what the railroads and electricity brought to an earlier age. But, with change comes controversy. And just as the industrial revolution's detractors spawned Marxism, it is essential to correct globalization’s defects before counter-forces destroy its promise.

To succeed in this highly technical environment, seize the benefits of globalization and reduce the risks, American workers must continually learn new skills, developing countries must welcome global integration, and all nations must provide safety nets. By teaching people and their nations to fish in the waters of globalization, billions will achieve the means to obtain a higher quality of life.

This articles was syndicated by Knight Ridder/Tribune Information Services and appeared in the Duluth News, Milwaukee Journal, Reno Sunday Gazette-Journal, The Pantagraph, The Institute for Humane Studies, and The Wichita Eagle in August and September 2002.
Topic: Trade & Finance
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Accepting payment in foreign currency from overseas customers can give you a significant advantage over your competition. But in addition to the obvious risks of getting paid late or not at all, adverse currency fluctuations can eliminate your profits or cause a loss.

Attempting to predict which way a currency will fluctuate and by how much is extremely risky. However, by using a foreign exchange contract, you can eliminate your risks against loss due to currency fluctuations.

How Does FX Work?

A foreign exchange (FX) contract simply is an agreement between a bank and customer to exchange dollars for an equivalent amount of foreign currency today or at some time in the future.

A forward contract allows the exporter or importer to lock in the exchange rate at a specific date when he/she expects to receive or make payment in a foreign currency. A window delivery is a variation on a forward contract that allows the contract to be exercised within a window of dates running two to three weeks. But, the exercise must occur by the latest permitted date. Currency options give their owner the right — but not the duty — to exercise the option to buy or sell at the contracted rate on a given date. Yet, the holder can still lock in a future rate.

Importer and Exporter Examples

Assume an importer purchases a Japanese product in yen with payment due in 90 days. He can wait to see what the dollar/yen rate will be on that date, or he can lock in the rate today, by buying yen forward using a FX contract. When the payment is due, he simply directs the bank to pay the yen proceeds of the contract to the supplier.

Assume an exporter is selling in euros with payment due in 30 days. To protect the U.S. dollar value of her euro receivable, she can sell the euro forward under a forward contract. When the euro payment arrives, the bank will buy the euros, exchange them for dollars at the contracted rate, and pay the exporter. By accepting euros and offering extended terms, your product likely will become more globally competitive.

This article appeared in July 2002. (CB)
Topic: Trade & Finance
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A variety of factors impact country risk, as well as potential market revenue. And since these factors often increase or decrease without notice, it is essential to study the trends.

Factors To Consider

Before committing resources for the purpose of expanding overseas through trade or investment, a number of factors must be analyzed. They include country GDP growth, demographic shifts, political leadership, level of economic and political stability, currency vulnerability, investment flows, existing and projected trade agreements, competing market strengths, projected trade disputes, rule of law, and much more.

Measuring the change in each factor and identifying its impact may require the insight of a risk consultant. However, in lieu of this, the use of common sense and assistance from your banker is essential.

Variables Beyond Any Control

Country risk is affected by a number of variables, including political, economic and social factors. Generally, political risks are assessed in terms of country stability, and are sometimes measured by the level of confidence in a government. Economic risks are reflected by levels of national growth, inflation, unemployment, balance of trade, and taxes. Social risks usually involve social unrest and violence.

But numerous other factors must be considered as well. These include commercial risk, which is mainly viewed in terms of the credit strength of the buyer and the credibility of his or her bank, operational risks, which involve the documentation and customs process, and a host of other nontraditional risks that don’t neatly fit into simple categories. For example, if your customer is located in a country that becomes a member of a powerful trade bloc, he/she may decide to source your product from member countries that are subject to fewer trade barriers.

“Hot Money” Issues

Developing countries, no doubt, tend to pose higher levels of risk than developed countries. For example, a developing country change in leadership is often a time of instability. And the fear that a new government may impose a different economic policy than the previous administration — as in Brazil today — often puts fear in the minds of investors.

Since portfolio investment is driven by market forces and seeks the greatest returns, its flows often surge, then dip, partly based on perceptions of future growth and stability. As a result, it has created havoc on some developing countries’ economies and political structures.

Also known as “hot money,” portfolio investment tends to be short-term investment and is very sensitive to economic or political volatility. Its flows can add an element of risk where none previously existed. In turn, this can put downward pressure on a nation’s currency, creating political instability and social unrest. The Mexican peso, Asian and Russian crises of the 1990s highlight the volatility of hot money.

Mexico, Brazil and Argentina

On December 20, 1994, an attempted currency adjustment by the Mexican government accelerated out of control. Within two days, pressures mounted and currency reserves used to prop up the peso quickly dwindled. As a result, the peso was allowed to float freely. Shortly thereafter, it nose-dived. Like falling dominoes, what began as a short-term liquidity crisis turned into a full panic. Fallout quickly spread to Brazil and Argentina. Today, Brazil’s and Argentina’s economies are again undergoing a severe challenge.

With these and other events, traders and investors have received what some refer to as a “wake-up call,” reminding them that political and economic instability in developing countries can largely affect your customer’s ability to pay for goods shipped. Consequently, companies need to be aware of economic and political trends in target markets in order to protect themselves. In our fast-changing and increasingly competitive global business environment, it is necessary to outperform the competition. But, you must accurately assess all country risks, and plan accordingly.

This article appeared in July 2002. (CB)
Topic: Trade & Finance
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From February through July 2002, the value of the U.S. dollar decreased 9.4% against major currencies. However, by August it had climbed 1.8%, likely indicating a temporary pause in its downward trend.

The overall decline is welcomed by U.S. exporters, whose products have become less expensive and more competitive abroad. But where will the dollar go from here? Is its level of volatility a concern? And how will it impact your business?

A Historical Perspective

Since March 1973, when the Federal Reserve’s Nominal Major Currencies Dollar Index was set at 100, the value of the U.S. dollar reached its highest level in March 1985, at 140.35. Its lowest point came about 10 years later in April 1995, when it fell to 77.68.

Last February, the index reached 108.82, its highest value since April 1986, compared to major currencies. However, it dropped to 98.57 by July, but then increased slightly in August to 100.31, according to the U.S. Federal Reserve. Although the dollar’s value has dropped considerably, it is still well above its mid-1990s level.

What’s Driving the Dollar’s Value?

During the 1990s, foreign investment flowed into the United States at an unprecedented pace. The longest U.S. peacetime expansion on record, strong productivity gains and a stock market with exceptional returns attracted capital from all corners of the globe. Additionally, after the Asian crisis and uncertainty over the value of the euro, investment looking for a safe haven poured into the U.S. These factors largely contributed to the rise in the dollar’s value.

But for quite some time, economists predicted the U.S. dollar was due for a correction. The U.S. current account deficit (which is the largest of any nation), less investment from abroad, a volatile American stock market, and a decline in U.S. confidence have contributed to the dollar’s overall decline. And these and other factors likely will continue to put downward pressure on the dollar. How low and how fast it will fall is impossible to predict.

The Impact of the Highs and Lows

The change in value of any currency has a substantial impact on trade and investment trends. For example, because the value of the U.S. dollar rose 40% from April 1995 through February 2002, the cost of a
$1 million American machine was increased by $400,000. Not surprisingly, this resulted in lost export deals.

To compensate for the stronger dollar, many U.S. producers attempted to increase productivity in order to remain internationally competitive. Many were successful, and U.S. productivity outpaced most other countries. However, those manufacturers who did not increase productivity or resort to lowering prices watched their products lose marketshare abroad, as well as in the United States due to rising imports.

On the other hand, the rise in the dollar enabled U.S. companies purchasing foreign assets to obtain more for their money. But, U.S. firms already invested in foreign production facilities generated smaller profits when converting their foreign currency revenues into dollars.

A weak or declining dollar has the opposite effect. As the value of the dollar decreases from its recent high in February 2002, the cost of U.S. exports, in terms of the importers’ currency, are becoming more attractive, allowing foreign importers to obtain more for their money. The result: U.S. exports as a whole are likely to rise.

A Billion Yen Doesn’t Buy What It Used To

In 1995, one U.S. dollar could buy 93.96 yen, according the Federal Reserve. However, by May 2002, one dollar was worth 126.38 yen, reflecting an increase in the dollar’s value or a decrease in the yen’s value, depending on your perspective. By July 2002, one dollar was, on average, equal to 117.90 yen, reversing the previous trend.

To a large degree, Japan depends on exports to generate economic growth. A weakening yen means more Japanese exports, but a strengthening yen makes Japanese products more expensive and less attractive abroad. And, as the yen increases in value compared to the dollar, Japan’s Asian competitors gain an export price advantage. As a result, the strengthening yen has been a major concern for Japanese policy planners. To compensate for the declining dollar, on several occasions the Japanese government has intervened in world currency markets in an attempt to prop the dollar up and to push the yen down.

The Euro Reaches Parity with the Dollar

Over the past several years, investors repeatedly expected the single European currency, the euro, to gain against the dollar. But, the euro entered each new year with high expectations that never materialized.

However, following a smooth transition to euro notes and coins at the beginning of 2002, markets reacted positively. Months later, some analysts predicted the euro eventually would challenge the dollar for world dominance. On July 16, 2002, and continuing through July 23, the euro average daily rate hit the $1 mark for the first time in several years.

The Next Step

Currency volatility can be very damaging, as demonstrated by the Asian crisis that began in 1997. With the front page news of plunging currencies — beginning with the Thai baht and quickly affecting the Malaysian ringgit, the Indonesian rupiah, and the Korean won — it is easy now to understand the risks generated by currency fluctuations. Not only did the domino effect put pressure on traditionally strong currencies, but it also resulted in banking and financial crises, as well as economic recessions in several countries.

Exporters, importers and investors need to be aware of the impact currency shifts can have on their business, and work closely with their banker to eliminate the risks.

This article appeared in July 2002. (CB)
Topic: Trade & Finance
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Facilitated by large scale cross-border mergers and acquisitions, global foreign direct investment (FDI) has been on the rise since the 1970s. And since the early 1990s, the value of global FDI flows has rapidly increased.

The Logic Behind FDI Flows

In today’s fast changing business environment, with its technical advances, global market possibilities, and greater consumer sophistication, companies are increasingly competing internationally through FDI. Designed to gain access to lucrative markets, technology and talent, this strategy is a driving force behind globalization, and is likely to become a more integral part of corporate expansion plans.

FDI tends to be long-term investment in foreign companies or subsidiaries, and results in controlling stakes or shares. It is affected by interrelated complex economic, political and social factors and generally cannot be withdrawn quickly.

Mergers and Acquisitions Are Preferred

Mergers and acquisitions, which offer advantages over greenfield FDI as a mode of foreign entry, present corporations with the fastest means to achieve market dominance or strong positions in new markets. They allow firms to realize synergies by pooling resources and skills, promote greater efficiencies, spread risk, and quickly obtain tangible and intangible assets in various countries.

Additionally, mergers and acquisitions enable firms with complementary capabilities to share both the costs associated with innovation and access to new technologies, all that lead to a higher level of global competitiveness.

These deepening relationships, which often involve global production facilities and complex supply management chains throughout the world, have been further facilitated by the relaxation and removal of FDI restrictions in a growing number of countries. Furthermore, trade liberalization, regional integration efforts, and the proliferation in new methods of financing have contributed to the success of mergers and acquisitions.

The 16 largest acquisitions recorded in the first eight months of 2001 involved four U.K., three German, two American, and two Australian companies, plus one French, one Swiss, one Bermuda, one Japanese, and one Italian company.

Portfolio Investment Is More Volatile

Portfolio investment, which tends to be short-term investment, is very sensitive to economic or political volatility, is driven by market forces, and seeks the greatest returns. Consequently, its flows often surge, then dip, based on perceptions, rational or not. The Mexican peso, Asian and Russian crises of the 1990s highlight the volatility of “hot money” or portfolio investment.

September 11 Has Little Impact on FDI

Surveys conducted by the United Nations in late 2001 reveal that few companies expect to change their FDI plans in light of the September 11th terrorist attacks in the United States.

These findings are consistent with A.T. Kearney survey results that indicate two-thirds of corporate executives from the world’s 1,000 largest firms said they still intend to invest abroad at almost the same level as previously planned.

The FDI/Globalization False Start

Between 1870 and 1913, approximately half of all British investment flowed outside the country, making Britain the biggest exporter of capital by far. But then, the tragic events caused by the two world wars interrupted the world’s first period of globalization. It did not resume until after 1974, when several wealthy countries removed controls on capital movement and gave up fixed exchange rates.

Over the last decade, capital flows have increased significantly, but are nowhere close to the percentage experienced by the British 89 years ago.

The U.S. Is the Greatest FDI Beneficiary

According to the OECD, from 1990 through 1999, the United States — the greatest beneficiary of the explosion in international investment among OECD countries — received almost three times more cumulative direct investment inflows than the U.K, the number two recipient. In third place was France, followed by the Netherlands, Sweden, Belgium/Luxembourg, Germany, Canada, Spain, Mexico, Australia, Italy, and Switzerland.

During this period, the United States led by a large margin in direct investment cumulative outflows. Following were the U.K., Germany, France, the Netherlands, Japan, Canada, Switzerland, Belgium/Luxembourg, Sweden, Spain, Italy, and Finland. According to the U.S. Federal Reserve, during the 1980s, 12% of total capital flows went to Asia. Over the course of the 1990s, this share jumped to 43% of total flows.

Global FDI Flows in 2001 Dipped

FDI flows to both developing and developed countries declined in 2001. In fact, flows to developed countries declined by nearly half, from over $1 trillion in 2000 to $500 billion in 2001. The number of cross-border mergers and acquisitions also dipped, from 7,900 deals in 2000 to fewer than 6,000 deals in 2001.

The considerable drop in FDI flows to the United States was partly due to the general economic slowdown and a drop in foreign acquisitions of U.S. firms. While investment shrunk in Japan in 2001, Japanese investment grew abroad. Investment flows to Asia by Japanese firms partly involved the relocation of Japanese production facilities abroad.

FDI flows to China gained greater momentum in 2001, part of a trend that is likely to continue well into the future. According to the United Nations, China beat out the United States as South Korea’s largest FDI destination in 2001, and Taiwan eliminated its $50 million ceiling on investments in mainland China. This is sure to result in more Taiwanese investment in China, although Taiwan continues to ban investment by its semiconductor industry.

Flows to Latin America and the Caribbean dwindled in 2001 as a result of a drop in mergers and acquisitions. Spain, which has become a major investor in Latin America, decreased flows to the region significantly. While flows to Brazil and Argentina dipped, flows to Mexico increased.

Although the overall 2001 FDI drop is unlikely to be recouped in 2002, FDI is anticipated to rise as world economic growth picks up. This assumes other important factors will remain the same, such as the quality of infrastructure, the availability of technology and skills in host countries, the United Nations says.

The Top Projected FDI Destinations

According to the United Nations Conference on Trade and Development, the United States is forecast to be the most favored FDI destination by transnational corporations among all developed countries through 2005.

During this period, Germany, the U.K. and France are projected to be the most favored FDI destinations in Western Europe, Brazil in Latin America, Poland in Eastern Europe, South Africa in Africa, and China in Asia. Investment in China in the first four months of 2002 was estimated to be 20% higher than the same period last year. This is attributed in part by China’s December 2001 accession to the World Trade Organization.

Industries Attracting Most FDI

According to United Nations data, industries targeted by cross-border mergers and acquisitions differ by country and region. For example, the most targeted industries in the European Union by foreign companies are chemicals, food, beverages and tobacco. The most targeted industries in the United States are electrical, electronic equipment and chemicals.

In Latin America and the Caribbean, merger and acquisition activity tends to focus on public utilities, finance, petroleum products, transport, storage, and communications. In Asia, the primary targeted sector is finance; in Central and Eastern Europe, it is finance, beverages and tobacco.

Cautious Investing Pays Off

Expanding globally through FDI can significantly increase foreign marketshare and profits, and by pooling resources, it can increase your level of competitiveness. As a result, the number of mergers and acquisitions are likely to rapidly increase. But, because the risks can be very steep, they need to be identified and studied in great depth.

This article appeared in June 2002. (BA)
Topic: Trade & Finance
Comment (0) Hits: 5760

Forecasting currency values is more difficult than ever. For example, the value of the U.S. dollar, which was predicted to decline quite some time ago, has appreciated against major currencies since the mid-90s. However, a recent decline in the dollar as compared to the euro is projected to continue, possibly establishing a new trend. How does this affect your business?

Many Factors Impact Currency Values

During the 1990s, foreign investment flowed into the United States at an unprecedented pace. The longest U.S. peacetime expansion on record, strong productivity gains, and a stock market with exceptional returns attracted capital from all corners of the globe. These factors indirectly resulted in a stronger dollar.

Plus, after the Asian crisis and uncertainty over the value of the euro, investment looking for a safe haven poured into the U.S. This drove the value of the dollar even higher.

Will the Euro Challenge the Dollar?

Over the past several years, investors repeatedly expected the single European currency to gain against the dollar. But, the euro entered each new year with high expectations that never materialized. However, following a smooth transition to euro notes and coins at the beginning of 2002, markets reacted positively. Months later, some analysts predicted the euro eventually would challenge the dollar for world dominance.

According to the Conference Board, a research organization, 60% of world trade is currently denominated in dollars. In the event that the greenback falls from first place, a position it’s held since usurping the British pound after World War I, more global business will be conducted in euros. But regardless of which currency is on top, more and more European companies will request that their suppliers conduct business in euros.

Currency Values Can Alter Trade Flows

When a currency becomes very weak or too strong in relation to other currencies, it tends to distort international competition. For example, as the U.S. dollar rose to exceptionally high levels, U.S. producers needed to increase productivity in order to remain internationally competitive. However, some producers were not able to do so; they watched their products lose marketshare both in the United States and abroad.

On the investment side, U.S. companies interested in purchasing European assets obtained more for their money. But, U.S. firms already invested in Europe generated smaller profits when converting their euros into dollars.

Impact of a Rising Current Account Deficit

Some economists believe the U.S. dollar is due for a correction. A weaker dollar would undoubtedly benefit U.S. exporters by making their products less expensive and thus, more competitive abroad. But a quickly depreciating dollar could have other ramifications.

According to Fred Bergsten of the Institute for International Economics, every 1% rise in the U.S. dollar’s trade-weighted value boosts the U.S. current account deficit by at least $10 billion. A rising current account deficit perceived as unsustainable could negatively affect confidence in the U.S. economy, and in turn, accelerate downward pressure on the dollar.

How Have Other Currencies Fared?

The average 1999 and 2001 U.S. exchange rate (rounded) for the Canadian dollar was $1.49 and $1.55; the British sterling, $1.62 and $1.44; and Japanese yen, $113.73 and $121.57, according to the U.S. Federal Reserve. Projecting the future value of these or other currencies is difficult due to a variety of factors both known and unknown at this time. As a result, it is essential to protect your company against adverse fluctuations.

This article appeared in June 2002. (BA)
Topic: Trade & Finance
Comment (0) Hits: 6391

Since the fall of the Berlin Wall, former communist East European countries have slowly been transforming their centrally planned systems into market-based economies. As part of the process, many view European Union (EU) accession as the next step — which will further expand the European free trade area.

But the EU is not the only trade bloc with plans to grow larger. Currently, there are an estimated 130 bilateral and multilateral free trade agreements in force around the world. And most of these have been negotiated since just 1990.

Topic: Trade & Finance
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