As the third quarter draws to a close, US companies and investors have been heavily focused on inflation and the sinking stock market. But a new source of financial pain may be waiting in the wings: the soaring value of the dollar.
Aside from a few sporadic dips, the value of the US dollar has been rising steadily for the last few months, which experts say could negatively impact revenue, profit, and share-price growth when companies report earnings next month. The US dollar is up 18% so far this year, hitting its highest level in 20 years versus other major currencies like the British pound, Euro, yen, and yuan. Several factors have contributed to the dollar’s strength, among them multiple interest-rate hikes and weak economic conditions relative to the US in other countries.
Currency fluctuations rarely get a lot of attention outside of certain circles, and have historically been a minor part of a company’s earnings report or financial performance. But Ken Merritt, a senior client partner in the Organization Strategy Solution practice at Korn Ferry, says the impact of the strong dollar—and the weakness of other currencies relative to it—will play a significant role for any major company with expansive international operations. “CFOs are going to have to address what is happening with the dollar in a far more direct way with investors and analysts this quarter,” says Merritt.
While a strong dollar is good for the economy, its current strength can actually hurt companies that do a lot of business overseas or have large international operations. The more the dollar is worth, for instance, the costlier it is for international consumers to buy US products, which can lead to a search for cheaper homegrown alternatives. That in turn could curtail growth prospects overseas, particularly in emerging markets like India, Latin America, or Africa—areas where many US based industries, like technology and manufacturing, have been growing the fastest. Already, many major tech companies have lowered their financial forecasts or raised prices in certain countries to try to compensate.
A strong dollar on its own is one thing, but a strong dollar combined with soaring inflation and interest-rate hikes can create a forecasting nightmare. “CFOs have been working overtime, modeling currency-hedging strategies, interest-rate fluctuations, and price elasticity due to inflation,” says Jeff Constable, co-leader of the Global Financial Officers practice at Korn Ferry. For instance, Constable says, currency risk led a client to revise financial forecasts for a company it had just acquired in Germany.
An unusually strong dollar could hurt companies in other ways. For one, raw materials to make products are often priced in dollars, making them more expensive to purchase. Most debt held by international companies is in dollars as well, so servicing it costs more. Moreover, a strong dollar could deter foreign investment in the stocks of US companies while increasing competition from firms abroad. All of this could lead to a black-hole scenario in which companies have to downsize or resize staff, close factories, or even hold off on merger or acquisition opportunities.
One way companies can mitigate the negative impact of a strong dollar is by negotiating with suppliers to lock in prices, then spreading the cost out over time, says Justin Ripley, a senior client partner in Korn Ferry’s Global Industrial practice—who notes that some of his clients are doing just that. Other manufacturing clients are exploring pulling back on international investments over the next quarter or two, Ripley observes. Alternately, they might shift these investments away from foreign markets where the local currency has collapsed relative to the dollar, he says, and into others where the economy is stronger. “Every leader is anticipating a soft end to the year,” he says.
Longer term, however, Merritt says the strong dollar is yet another wake-up call for companies to invest in more sophisticated digital-forecasting tools. “A lot of companies are still using Excel spreadsheets to do financial modeling, and that doesn’t cut it anymore,” he says. That’s especially true in the eyes of investors. Merritt says woe to any CFO who gets on an earnings call next quarter and doesn’t have a precise answer for how currency fluctuations will impact liquidity and profits for the rest of the year. “Investors will punish them if they haven’t properly hedged out forecasts,” he says.