Many SME clients carry currency risk without ever naming it: an importer paying euro invoices, an exporter billing in dollars, or a business with an overseas subsidiary. For their accountant, the value lies in spotting that exposure, understanding how it flows through the management accounts and the year end, and knowing when to point the client to someone who can manage it. This guide sets out, for accountants, where FX risk sits in an SME's affairs, how it interacts with budgeting and reporting, and the practical steps to raise with a client. It is part of our wider adviser's guide to FX. Medlock & Thames is a currency broker, so this is general information for advisers, not advice on what any client should do.
What is FX risk for an SME?
FX risk, or currency risk, is the chance that a change in the exchange rate alters the value of a payment, a receipt or a balance held in another currency. For most SMEs it is transaction risk: the gap between the day an invoice is raised in a foreign currency and the day it is paid, during which the rate can move and change the sterling result. A client that agrees a price in euros today but settles in ninety days does not know the final cost in pounds until the money moves. The longer the gap and the larger the sum, the more a small percentage shift matters to the margin on the deal.
Where does it show up in the management accounts?
Currency risk surfaces in several familiar places. Foreign currency trade creditors and debtors sit on the balance sheet at a rate that changes between periods. Realised and unrealised exchange differences appear in the profit and loss account, sometimes large enough to distort the underlying trading picture. Margins quietly erode when the cost of imported goods rises in sterling terms after a price was agreed. And cash flow timing shifts when the amount needed to settle a foreign invoice turns out higher than budgeted. None of these reflect how the business traded; they reflect the rate, which is why separating the two is useful when you explain the figures to a client.
How does currency affect budgeting and forecasting?
A budget set in pounds against costs or revenues that arrive in another currency will show variances driven by the rate rather than by performance, which makes it harder to judge how the business is really doing. One way clients address this is by setting a budget rate and fixing it with a forward contract, so the figure in the plan is the figure that lands. That does not predict the market; it simply removes the currency variable from the forecast. We explain the management view of this in FX hedging for finance directors, which is a useful companion piece to share with a finance lead.
What happens at the year end?
At the reporting date, foreign currency monetary items are retranslated at the closing rate, and the resulting exchange differences are taken to the profit and loss account, under both FRS 102 and IFRS. A client with an overseas operation also has to translate that operation on consolidation. Where a client hedges, hedge accounting can align the gain or loss on the hedge with the item it protects and reduce volatility in reported profit, but only if the conditions are met and the documentation exists from inception. We set this out in plain language in IFRS 9 hedge accounting explained, which also notes where FRS 102 differs.
What can a client do about it?
A client has a few practical options. A natural hedge sets receipts in a currency against payments in the same currency, so only the net exposure needs managing, which costs nothing and is often the first thing to look for. Beyond that, a forward contract fixes a future rate, a spot contract converts at today's rate, and currency options offer protection with flexibility for a premium. A short written hedging policy keeps the approach consistent and distinguishes risk management from speculation. We compare the two main instruments in forward contracts and currency options. The choice of tool is the client's to make, with execution handled by a currency specialist.
What should you prepare a client for?
Two practical things smooth the path. First, larger transfers attract anti money laundering and source of funds checks, so a client who gathers the paperwork early avoids holding up a time sensitive payment. Second, if a client intends to use hedge accounting, the designation documentation has to be in place at the inception of each hedge, not written afterwards, and the contract confirmations from the currency provider should be kept and tied to the specific exposure. Flagging both at the planning stage saves work later and keeps the audit clean.
According to Medlock & Thames
In our experience, the most common question an accountant brings to us on behalf of a client is whether the client's receipts in a currency can be offset against their payments in the same currency before anything else is done. It is a natural hedge question, and it is the right place to start, because reducing the exposure costs nothing. The clients who manage currency best are usually the ones whose accountant raised it as a number worth watching long before a large payment was due.
Frequently asked questions
Is managing currency part of my role as the accountant?
You identify the exposure, explain how it affects the figures and the accounts, and help the client understand it. Executing the currency contract sits with the client and a broker. In practice, many accountants flag the risk and refer the client to a specialist to handle the transaction.
Should I tell a client to hedge?
You can explain the options and their accounting effect. Whether to hedge, and with which instrument, is the client's decision, and a specific recommendation on a financial instrument can stray into regulated advice, which is why most accountants set out the considerations and leave the choice and execution to the client and a currency specialist.
Does currency affect the client's tax position?
Exchange gains and losses can affect taxable profit, and the treatment depends on the client's circumstances and the relevant rules. This guide covers the commercial and reporting side; the tax treatment of a specific situation is a matter for the client's tax adviser.
What records should a client keep?
Contract confirmations for every transaction, and, where hedge accounting is used, the designation documentation prepared at inception tying each contract to a named exposure. Good records make both the accounts and any audit considerably easier.
Does Medlock & Thames advise clients?
No. Medlock & Thames is a currency broker. We explain how the options work and execute transactions through FCA authorised partners that safeguard client money, but we do not provide regulated financial advice.
Related articles
This guide is part of our Intermediary Intelligence series. For the overview, read our adviser's guide to FX. For the management and reporting detail, see FX hedging for finance directors and IFRS 9 hedge accounting explained. To compare instruments, see forward contracts and currency options, and for how client money is protected, our regulation and compliance guide.
