Treasurers need to move out of risk-management comfort zone
Cash flow at risk and earnings at risk can help ensure FX risks are reported correctly, but treasurers need to do more to convince senior management to move away from tried and trusted methods that are no longer fit for purpose.
Cash flow at risk (CFaR) and earnings at risk (EaR) have much to offer as techniques to test current assumptions and validate exposure forecasting to reflect a company’s FX risks.
CFaR measures the extent to which future cash flows may fall short of expectations as a consequence of changes in market variables, while EaR assesses the amount that net income may change due to a change in FX rates over a specified period.
From a reporting perspective, CFaR and EaR allow treasurers to move to an FX risk discussion with the CFO and board and away from a hedging policy-driven approach. By reporting EaR and CFaR values to the board it is much easier to link up with key performance indicators (KPIs) around earnings and revenue.
The traditional percentage hedging approach, however, cannot be tied to these types of KPIs, which boards are now demanding.
It is a challenge to move away from an accepted practice, but treasurers cannot ignore the mounting headlines about public companies losing earnings or revenue due to FX rate movements, says Mark Lewis, corporate treasury product manager at Bloomberg.