By Graham Williams
By Graham Williams
The quick climb of the Canadian dollar is making many manufacturers quite nervous, and not without cause – our price advantage over the U.S. due to a lower valued dollar has been eliminated.
Volatility in the exchange rates has created uncertainty and risk for Canadian companies who, because of U.S. sales, have working capital that consist of U.S. dollar assets. As the value of the Canadian dollar rises, the comparative value of U.S. cash and receivables decreases, resulting in companies reporting significant foreign exchange losses.
In most cases, the U.S. cash and receivables are periodically converted to Canadian funds to cover operating expenses, fund capital expenditures and service debt. The result is that these are not merely accounting losses, but true realized losses.
These losses also affect suppliers, as manufacturers with less money to spend seek out salary concessions and reduced pricing.
All this, coupled with rising U.S. sentiment of "buy domestic," means troubled times ahead for Canadian manufacturers. There are, however, ways to mitigate financial risk.
1. Develop a hedge strategy
Enter into a forward exchange contract to help mitigate risk. This is an agreement to sell a pre-determined amount of U.S. dollars on a pre-determined date at a pre-determined rate. Taking out the uncertainty in transacting in American dollars is the first step in being able to plan with more accuracy.
For businesses where sales are predominantly made in U.S. dollars, companies will generally forecast their periodic need for Canadian funds for operational purposes and enter into contracts to sell the required amount of U.S. funds. Having a better understanding of your operational costs can go a long way by ensuring only the required amount is converted, and keeping the rest in U.S. funds.
Another hedging strategy is to offset U.S. dollar assets with U.S. dollar liabilities. If your U.S. dollar assets are decreasing in value against the Canadian dollar, so are your U.S. liabilities. Losses on assets become gains on liabilities.
Most companies require a credit facility to fund receivable balances. In many cases, these loans are negotiated in Canadian funds, regardless of the currency of the asset being financed. Consider negotiating the terms in U.S. dollars. This not only creates a hedge against potential exchange losses, it reduces the need for Canadian funds since the principal payments and interest expenses are funded in U.S. currency.
2. Improve the collection process
With the recent downturn in the economy, the majority of companies have experienced an increase in the aging of their receivable balances. But, the longer it takes to collect, the longer a company is exposed to the risk of an exchange rate change. Close the gap between the U.S. sales and the funds being received.
Tightening up your credit policy is also good business practice. Periodically assess the credit limits of your customers. Slow payment not only increases exchange risk, it can be a signal of financial uncertainty. Incentives for paying early, such as discounts, are one option to change payment habits.
We are an attractive buy
Canada is fiscally strong. Our banks are solid, our economy is improving and our natural resources are bountiful. This is a formula for a strong currency. However, this does not have to translate into a weakened export sector. An adjustment to business strategies may be needed to make sure this sector holds onto its brawny stance in the Canadian economy.
Graham Williams is an accounting and assurance partner with Toronto-based accounting and business advisory firm Stern Cohen LLP.