With hotels in 87 countries, Marriott International Inc. is finding it harder to protect itself from currency swings as exchange rates in the $5.3-trillion-a-day market defy expectations.
The chain locked in its 2016 currency hedges about four months ago, anticipating the dollar would extend a three-year winning streak. Instead, the greenback has had a mixed performance, slumping against the euro and yen this year amid turmoil in global markets. That’s a problem because the cost of the hedges would be wasted if the dollar weakens.
“For better or for worse, you are locking in,” said Leeny Oberg, Marriott’s chief financial officer, in a telephone interview from Bethesda, Maryland. The company set hedges in 2016 with anticipation that the U.S. currency will strengthen, but less than last year.
The dollar’s gain in 2015 and surging volatility squeezed revenue for Marriott, McDonald’s Corp. and other companies that sell goods or services overseas, triggering some headaches for finance executives. It made sense for corporate treasurers to hedge against the dollar’s rally in 2015, which was widely predicted by analysts.
This year, the task is becoming trickier as currency forecasts, which corporate treasurers use as a guide of where to hedge, have been upended. Options prices imply that, since the start of December, when some treasurers would have been firming up 2016 hedges, the chances of the greenback strengthening beyond the median year-end forecast of $1.08 per euro have fallen to 37 percent from 48 percent. The likelihood of it reaching the median estimate of 121 yen has plunged to 19 percent from 49 percent.
The dollar’s path hinges on whether the Federal Reserve can keep raising interest rates while its biggest peers expand stimulus and the specter of a global slowdown threatens to derail the tightening cycle.
“To the extent that the dollar does weaken, that’s a benefit as well for S&P 500 global companies that have been affected by the strong dollar in the past and now will see the tailwind going forward as we move into 2016,” Bill Gross, manager of Janus Capital Group Inc.’s $1.3 billion Janus Global Unconstrained Bond Fund, said during an interview on Bloomberg Television.
Hundreds of companies in North America and Europe blamed currencies for hurting earnings last year, according to Scottsdale, Arizona-based FiREapps, which makes software to help businesses reduce the effect of currency swings. Foreign exchange shaved 9 percent from McDonald’s full-year earnings per share and chopped more than $17 billion from Wal-Mart Stores Inc.’s sales last year.
A surging dollar decreases the value of overseas sales when they’re translated into the U.S. currency for the purpose of reporting earnings. If the revenue is left in the foreign country and not actually exchanged into dollars, the decline is on paper only. The strong dollar also hurts U.S. companies by making imported goods cheaper while U.S. exports are more expensive in foreign markets.
“Companies are getting hit big-time by foreign exchange,” said Niklas Bergentoft, a New York-based director at Deloitte & Touche LLP, who co-authored a report on corporate hedging published this week. “We see this continuing for 2016.” Deloitte surveyed 133 corporations with revenue ranging from $1 billion to more than $50 billion.
For companies in the Standard & Poor’s 500 Index, a 1 percent gain in the trade-weighted dollar lowers collective revenue by about 0.3 percentage point, said Stewart Warther, an equity strategist with BNP Paribas SA in New York. A Fed gauge of the trade-weighted dollar rallied 11 percent last year and 8 percent in 2014. The biggest risk is it keeps going for another year.
“All our hedges expired for 2015, and you move into 2016, and there’s a reset for everyone back to the market,” said Tom Szlosek, chief financial officer of Honeywell International Inc.
The maker of industrial goods ranging from aircraft engines to gas detectors locked in hedges for the euro at $1.10 this year, said Szlosek, whose treasury team reports to him monthly on currency movements. The euro rose 0.7 percent to $1.1030 as of 10:13 a.m. New York time.
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Last year the company offset about 85 percent of its euro exposure at $1.24, limiting the hit from foreign exchange to 10 cents of full-year earnings per share, which was $6.04. This year, the lower hedge level means foreign-exchange effects may reduce annual earnings by as much as 15 cents a share, he said.
For Marriott, dollar strength will probably reduce the fees it collects for managing hotels by $30 million this year because about a quarter of this year’s estimated $2.02 billion in fee revenue will come from outside the U.S., Oberg said.
The company uses forward contracts to manage its exposure to the yen, euro, pound and Canadian dollar, because they’re the most actively traded currencies and cheapest to hedge. These contracts cover about one-third of foreign revenue from hotel management fees.
Hedges in 2015 helped keep the decline from foreign exchange at $32 million of fee revenue, said Oberg, who declined to say at what level Marriott has hedged for 2016.
“The currencies did move farther than I think people expected,” she said. “So, it was very helpful to have the hedges.”
About 90 percent of companies use derivatives, including forwards and swaps, to offset their currency exposure, the Deloitte study showed. Most surveyed firms hedged an average of 68 percent of their cash flow for three months — that hedge ratio dropped down to 59 percent of transactions for three to six months in the future, then fell to 50 percent for six months to a year ahead.
McDonald’s said it expects the dollar to strengthen this year, but at a slower pace, knocking off about 20 cents from earnings per share in 2016 following a 50-cent hit last year. The company focuses its hedging on the euro, pound, Canadian and Australian dollars and yen, said Becca Hary, a spokeswoman. The hamburger chain only hedges for operations reasons and not for the accounting effect when translating foreign currencies to the dollar for earnings reports, she said.
Wal-Mart’s decline in sales because of weaker foreign currencies last year was “by far” the largest ever for the retailer, David Cheesewright, chief of the company’s international operations, said on a Feb. 18 conference call. Wal-Mart expects the strong dollar to drive down sales by $12 billion this year.
Companies that have manufacturing plants in foreign countries, such as Honeywell, can mitigate the fallout from currency fluctuations with “natural hedges” by keeping costs in the local money, Szlosek said. Honeywell, which has factories in countries such as Mexico and Hungary, says that including exports it generates about 55 percent of its $38.6 billion of revenue outside the U.S.
“We have a big manufacturing base in those places, we try to source as much as we can locally and pay in local currency,” Szlosek said. “That is a nice offset.”
(Updates with comment from Janus Capital’s Bill Gross in the seventh paragraph.)
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