The challenge
When currency fluctuations impact customer pricing
Melecs is one of the largest independent electronics, engineering and manufacturing service providers in Europe. The company specializes in customized electronics for a range of applications, including automotive, rail and home appliances. Melecs is headquartered in Austria and employs 1,900 people in Hungary, China, Mexico and the USA.
Melecs largely imports electronic components from Asia and usually pays these suppliers in US dollars. However, 95% of the company’s European sales are generated in euros, leaving Melecs exposed to significant currency risk.
Ernst Mayrhofer, former CFO and co-owner of Melecs, explains: “Originally, our currency risk was managed by our parent company’s finance team. However, after a management buyout, Melecs, as a medium-sized company, had to tackle this challenge itself. The impact of fluctuating exchange rates can be significant and, in a material-intensive business, requires regular adjustments of customer prices to avoid losses.”
To facilitate the management of its FX risk, Melecs incorporated exchange rate clauses in many of its contracts, as a means to share major fluctuations with its customers, both positive and negative. When currency fluctuation exceeds 3% either way on a quarterly basis, Melecs adjusts its pricing for the customer, while consciously absorbing smaller currency shifts of less than 3%.
The exchange rate clauses have helped to reduce our currency risk, but not every customer accepts this clause in their contract. To manage the risk we take, we began working with a financial institution to hedge an exchange rate using forward contracts. Over time, we realized that we could manage our exposures more strategically, but our provider was not proactive in offering alternative risk management solutions,” said Mayrhofer
The solution
A tailor-made risk management strategy
Melecs began looking for an FX provider that could provide strategic risk management support and was introduced to Convera through an industry contact. “Getting that recommendation from someone I knew meant there was a level of trust, and we’ve been working with Convera ever since,” explains Mayrhofer.
Convera supported Melecs in developing a two-pronged risk management strategy that covers the requirements resulting from customer contracts including and excluding price escalation clauses. To reduce the costs resulting from currency fluctuations in connection with non-price-adjusted customer contracts, Melecs fixes an exchange rate on a set amount of currency for up to 24 months using forward contracts. This means that the company knows how much an invoice will cost in euros and can set prices with confidence.
To cope with significant currency fluctuations that lead to customer price adjustments, Convera introduced the concept of a rolling hedging strategy. This strategy uses a range of structured financial products* that enable Melecs to protect itself against the risk that the spot rate on the agreed maturity dates is less favorable than a pre-fixed enhanced exchange rate, unless an agreed level of gain (target bucket) has already been reached.
The rolling hedging strategy gives Melecs the flexibility to benefit from monthly expiring options contracts with enhanced exchange rates based on Melecs’ budget rate, the current exchange rate and current risk appetite at that time.
The results
Flexible protection for changing cash flow needs
While forward contracts provide Melecs with cost certainty, by incorporating structured options into its hedging strategy, the company can now also benefit from tailored hedge amounts and maturity dates tailored to prevailing cash flow needs. This flexibility means that Melecs has the option to leverage favorable exchange rate shifts, potentially leading to cost savings.
“Convera has helped us develop a much more strategic and proactive approach to currency hedging, which has ultimately helped us reduce our FX risk and consequently protect our margins. The success of a rolling hedging strategy depends on it being regularly reviewed in the context of both the client environment and current market conditions in order to find the right balance between risk and protection.
“A big advantage of working with Convera is that our account manager is genuinely interested in supporting our needs. We have regular discussions about our risk appetite and the current budget path we need at any given time, and we refine the strategy together. We have not received this service in this way from other financial institutions.
“This continuous proactive support is why I can recommend Convera. I am confident that my FX needs will be met and if the strategy needs to be adjusted to accommodate external changes, I know that possible solutions will be presented to me. Convera’s know-how enables me to concentrate on other important tasks,” says Mayrhofer.
Convera has helped us develop a much more strategic and proactive approach to currency hedging, which has ultimately helped us reduce the volatility of the FX result on the balance sheet from an average of around 5% of the currency requirement to around 1-2%.”
Ernst Mayrhofer
Former CFO and Co-Owner, Melecs
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