Despite challenges in the global business environment, CFOs express optimism for overseas expansion as a long-term growth strategy. The franchising space is no exception.
One of the areas that is sometimes overlooked in the research and market-scoping process of taking a franchise international are the complexities involved in cross-border payments. For newcomers to the global stage, cross-border payments and foreign exchange (FX) markets can be complex items to navigate. We’ll break down the basics of FX and some of the common questions and concerns about cross-border business payments and FX rates.
FX rates explained
FX rates represent how much currency can be exchanged for another currency. FX rates change constantly due to a number of factors, including trading, natural disasters, inflation, economic policy, and political turmoil.
Each currency has its own currency code. For example, if you’re looking to find the FX rate between the U.S. dollar and the British pound, you would find the rate between USD and GBP.
What is the FX market?
The FX market sets and quotes FX rates. The FX market runs continuously, 24/7, and facilitates the trading of an estimated $3 to $5 trillion dollars every day.
What are bid and ask quotes?
Bid quotes are the quoted buying price for the base currency within an exchange. Ask or sell quotes are the quoted selling price for the base currency within an exchange. Both bid and ask quotes are set by the market maker, which can be either an individual or a company.
What is FX hedging?
As stated earlier, FX rates are ever-changing. In order to reduce or eliminate uncertainty caused by FX rate fluctuations, a company can implement FX hedging, which involves taking on a risk to neutralize another one. Contracts used for FX hedging include forwards, swaps, and options.
What is the mid-market rate?
The FX rate a searcher may see on Google isn’t the same as the rate at which a consumer actually exchanges currency for. The rate we often see online or in the newspaper is the so-called mid-market (or more descriptively, the inter-bank) rate, that is exactly that: what banks and large financial institutions trade currency at. U.S. consumers are of course not banks or large financial institutions, and the actual cost of exchanging, for instance, dollars for euros, will almost always be higher than the mid-market rate suggests because of the fees charged by the partners involved in the trade. The mid-market rate does not include any of the markups or fees often included in transactions.
How does the FX rate impact each transaction?
Getting the correct amount billed when cross-border invoicing is obviously crucial to your business. And so many moving parts mean that urgency is key. Depending on the payment methods you support, FX rates can impact each transaction you process differently. Sometimes, fluctuations and differences in FX rates will result in short payments, a payment less than the requested or invoiced amount.
Let’s consider one way for international franchisees to pay, and the possible effect of FX rates on the transaction. Wire transfers are an established way for international customers to pay a business. With this option, you provide franchisees with your business’ banking details (routing number, Swift code, IBAN, etc.) along with the invoice. This allows your international franchisees to input the necessary information to initiate a wire transfer. However, there are some major drawbacks: short payments can result from intermediary fees and undisclosed FX rates being taken out of payments before the funds reach you. The fees are hidden in the transaction, and often built into a marked-up exchange rate. They can cause short payments because your customer will not (and likely was not able to) have accounted for them.
You can see why transparency around and competitive rates for FX are crucial for your business and your franchisees. For more information on cross border invoicing and international expansion:
Read an introduction to cross-border invoicing and business payments
Check out guidance on international expansion in 2022