The challenge

Teva Pharmaceutical Industries is operating globally, with exposure to more than 50 currencies. The company is relatively leveraged and sensitive to cash flow. Risk modelling is a material challenge since it relies on forecasting and involves a large number of currencies (many times correlated to each other) with different market conditions and sometimes major volatilities.

Hedging is performed at corporate level, to leverage on natural hedge and scale economies. The company’s forecasting capabilities, in terms of currency split and timing, are crucial to the effectiveness of the different hedging programmes. Its overall exposure to FX is extremely high and requires an army of traders and exposure managers when it has just two employees handling foreign exchange risk and one handling operations, all heavily relying on technology, from exposure capturing and modelling to trading and back office.

Treasury is not the only stakeholder in this process but does hold accountability; its position within the organisation and ability to work and coordinate between the different units is a key success factor of the programme. Risk modelling and hedging strategy is not particularly straightforward to explain to the company’s board and management to get their buy in. Furthermore, forecast updates are not done on an ongoing basis but a few times a year, exposing the programme effectiveness to a material timing risk.

“Add to all of the above the COVID-19 pandemic which made the above even more challenging, but knowing the team and its past performance in successfully executing other challenging hedging strategies, I had no doubt about our ability to deliver on this mission,” says Michael Ben Moshe, Senior Director, Head of Financial Risk & Cash Management, Corporate Treasury.

The solution

Teva decided on a new FX operating profit hedging programme to protect its materially increasing exposure to FX volatilities and set out the following aims, to:

• Protect Teva’s operating profit from FX headwinds and demonstrate effectiveness on an ongoing basis.
• Balance between opportunity and risk.
• Perform risk analysis modelling using advanced statistical tools to find the most efficient hedging solution and identify the correlation between currencies, material risk driving currencies and hedge a selected group of currencies in limited amounts, rather than the entire risk portfolio, to eliminate most of the risk.
• Set in place organisational processes and procedures to support the programme and gain discipline by training and raising awareness of FX risk.
• Establish comprehensive and straightforward communication channels and materials with management.
• Guide and educate the organisation to adopt processes that will eventually reduce FX risk and create natural hedges (eg procure in local currency rather than USD, move manufacturing to Eastern Europe so the expenses there will hedge the company’s European operating profit due to the high correlation of those currencies and others).

Best practice and innovation

The risk assessment model, developed with the assistance of Citibank structuring team, is using a series of the most sophisticated algorithms and statistical tools that allowed Teva to measure correlations between currencies on different horizons, suggest ‘the efficient frontier’, the right mixture of currencies, hedging instruments and ratios to hedge to efficiently reduce risk (not necessarily the currencies with the biggest nominal exposures).

Teva built a model that translates business activity into currencies and takes timing into account using various assumptions. The model was extremely reliable and allowed the hedging portfolio to be effective compared to the underlying exposures, in the most volatile and disruptive period of the last decade.

Key benefits

• Risk now is better managed and mitigated.
• Increase in natural hedges.
• FX exposures reduced.
• Better organisational awareness.

“Forming a new FX hedging strategy in large scale is extremely difficult and challenging for companies working in multiple geographies and currencies. A company should first work on building strong processes, organisational discipline and systems in order to make its hedging process effective. Following an acquisition back in 2016, our FX exposure increased and became more strategic to the company. By taking the lead and demonstrating a series of strong professional capabilities both in terms of FX market understanding as well as our own business, we were able to put in place an impressive FX ecosystem and hedging strategy in Teva that reduces a material amount of risk, even in the most volatile of times,” says Ben Moshe.

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