C A S E S T U D Y
Currency challenges of an European fashion company
An European fashion company plans their new fashion lines
two years ahead of rolling it out to the High Street stores.
In a global world, manufacturing happens
where dressmakers are still inexpensive - in Asiapac.
While dresses, tops and skirts make a Euro-denominated income,
dressmakers request to be paid in US-Dollar.
With a two-year supply period, that imposes quite a risk.
An Eurozone fashion company operates with an 8-quarter (24-months) rolling budget plan.
For new fashion lines, their demand model estimates with historical accuracy of +/- 20%.
8 months after the collection has been announced and presented to wholesalers, demand estimates are being updated using actual data from wholesale orders. After 12 months, the fashion line is fully sold to wholesalers, and the expected revenue as well as expected production costs are known with accuracy.
Fashion production is to a large extent outsourced to Asian factories. Production costs are being paid in USD and average at c. 270m USD annually, equaling c. 25 to 28% of the company's annual revenue. An appropriate hedging strategy must be able to cope with the uncertainty of EURUSD exchange rates, future interest rate differentials and the inaccuracy of the company's own volume estimates.
"As a CFO, I am required to provide maximum financial certainty"
“As the future unfolds for our company, and in my duty to provide appropriate financing and liquidity, our financial department is required to gradually reduce the variance of our corporate results - meaning to give more exact forecasts of both revenue and cost as our planning assumptions materialize. Thus, we have implemented a hedging policy. We maintain a minimum hedge ratio of 25% during 8 months after start of the planning period, which increases to 50% after 12 month elapse. To limit surprises during the last phase, where production resources have to be committed, our hedge policy demands an increase to 75% for the the last 6 months of the planning cycle to keep volatility withinin a controlled corridor.”
"One year we fully hedged, and lost. The following year, we did not hedge at all - and lost as
“Making a decision whether or not to hedge and how much of our total exposure to hedge is a tricky thing. One year in the past and back then, our treasury
department hedged 100% of our currency exposure. In those days, the Euro moved in our advantage, but we did not benefit. When the US-Dollar invoices were due, we had to buy US-Dollar for a higher
price than the market price.
With this experience in mind, the then following year our management decided to not hedge at all - and let our exposure run.
'We do not have a currency exposure,' our management stated. 'We translate Euro into US-Dollar when we need them.'
That again was not a wise decision. You cannot eliminate risk just by ignoring it.”
T H E S O L U T I O N
The Big Data solution for CFOs.
Big Data technologies and Artificial Intelligence
enable optimal hedging for the first time.
Supercomputers, mass data, a HEDGE21 smart digital assistant
and a company’s personalized revenue and cost model
finally allow for optimal sizing and timing of a hedge.
For an optimal hedging strategy, the fashion company introduces an algorithmic hedging software, which relies on supercomputers, Big Data, and Artificial Intelligence to provide mathematically optimal results. HEDGE21 digital assistant integrates with busy, specialized software agents to obtain daily real-time data from both worlds – from inside the company and the world outside the corporation alike.
S T E P O N E
The revenue software agent provides corporate business activity data periodically. This includes newly recorded wholesale orders for the new fashion line.
The cost sofware agent provides daily updated external data: material prices or interest for USD loans are among the most prominent data.
The currency software agent obtains external EURUSD forward prices and simulates million-fold how the currency pair is most likely to develop in the future.
S T E P T W O
All information provided by software agents is delivered to a HEDGE21 subsystem called the Recognized Market Picture (RMP)TM. It calculates how the fashion company's currency risk develops daily, doing so on basis of a large-scale simulation. The outcome of such simulation is an operational picture of the day(s) ahead – comparable to a daily weather forecast with the weather ahead to the next weekend.
S T E P T H R E E
The operational picture integrates with a HEDGE21 digital assistant, the smart machine that can make sense of the situation. A HEDGE21 digital assistant is an optimizer which makes decisions under uncertainty – like an intelligent machine which plays backgammon with super-human performance, although it has to deal with the uncertainty of the game’s dice.
A smart digital HEDGE21 assistant:
A C H I E V E M E N T S
Profit margins are being preserved
while currency volatility is smoothed out.
Too comlex, you think?
The engine certainly is, like it is under the hood of your car.
But we made HEDGE21 simple-to-use to shield you from the math.
Your HEDGE21 digital assistant fetches actual forward rates from the markets and estimates their future value. This gives you a good sense of your actual cost of
hedging, other than a bank quote, which charges you up to few hundred pips on top of the real hedging cost. In contrast, one active HEDGE21 Cash Flow costs you a monthly lump sum plus a tiny
For optimal hedging, your HEDGE21 digital assistant considers your corporate budget. But it is able of integrating many more data from your supply chain: from purchasing prices for raw materials (crude, plastics etc.) to transportation prices. The more data from your supply chain integrates, the more precise a HEDGE21 decision becomes.
Instead of “fire and forget” a hedging decision, HEDGE21 digital assistant allows for much more agile hedging. It monitors your hedging decision continuously 24/5 and, if necessary, autonomously computes adaptations to protect your bottom line.