Best Foreign Exchange Solution Highly Commended: Diageo

Published: Jul 2017

Benjamin Gilbert standing on stage

Photo of Benjamin Gilbert, Citi collects the award on behalf of Diageo.

Diageo is continually concerned with maintaining a FX risk management policy that meets its risk management/corporate objectives, maximises cost efficiency and is exemplary of current best practice.

Diageo Group Treasury

Diageo is a global leader in beverage alcohol with an outstanding collection of brands that includes Johnnie Walker, Smirnoff, Baileys and Guinness. Its brands are produced from more than 140 sites around the world and are available in over 180 countries.

in partnership with

FX risks addressed using rules-based benchmarks

The challenge

Diageo’s FX risk management policy focuses on three main sources of FX risk: transactional (forecasted cash flows), balance sheet translation and earnings translation. Diageo is continually focussed on maintaining a FX risk management policy that meets its risk management/corporate objectives, maximises cost efficiency and is exemplary of current best practice.

The solution

In 2014, the group commenced the first stage of a comprehensive review of its FX risk management practice with its banking partner. This culminated in a revised policy being approved in Q215. It resulted in a rules-based approach to hedging that reconfirmed and improved the requirement to regularly monitor and analyse risk and identifies key exposures to hedge.

Risk is viewed from a portfolio perspective in a Value at Risk (VaR) based framework and relies on the monthly generation of portfolio risk analysis for transaction and balance sheet FX. The analysis measures the advantage of managing the exposures as a portfolio rather than on a standalone basis and identifies a number of themes. These include:

  • The exposures that create the most significant contribution to risk.

  • The most cost-effective exposures to hedge.

  • Those exposures that reduce risk and should not be hedged.

  • Opportunities for cost savings through natural risk reduction (diversification).

The review also identified additional offsetting exposures that could be netted against each other and the group functional currency.

The effect of the new policy is to allow Diageo to reduce the number of hedges it executes, lowering the cost of hedging, transactions and internal administration. It has also improved risk reduction per GBP spent on hedging.

The second stage to this project is the ongoing Review & Multi-Asset Risk Management. Since 2016, the group has worked with its banking partner on a feasibility study examining the quantitative and qualitative benefits of Diageo managing both its FX risk and commodities risk as one portfolio. This study has shown that further risk reduction and cost savings are possible. This is now in a benchmarking phase where actual executed hedging results are compared to a modelled best practice benchmark strategy.

Best practice and innovation

Diageo’s continued process of review and evolution of policy demonstrates best practice and innovation. Additionally, Diageo’s sophisticated approach to portfolio risk management aims to be best in class. Highlights from Diageo’s new policy defines a consistent quantitative framework in which risk can be measured and communicated to senior management. Overall risk limits, for a given source of risk, can be set as well as limits for individual exposures.

The review of Diageo’s risk management practice did not cease with the approval of the new policy in 2015. As part of that new policy, Diageo assesses the effectiveness of its incumbent policy on an ongoing basis. This continual assessment incorporates a forward and backward looking review using both quantitative and qualitative measures.

Diageo also measures itself against the best practices of its peers as these change over time. Data and insight provided by its partners, and their collaboration with a diverse group of the world’s largest companies, enables this to happen.

Key benefits

  • Reduced the number and size of exposures hedged.

  • Reduced costs for hedging, transactions, and administration.

  • Rules-based hedging policy ensures all stakeholders understand hedging decisions in advance.

  • More effective risk management enables:

    • Greater predictability of costs and revenues.

    • Stronger focus on core business.

    • Better management of investor expectations.

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