TRNG I HC M TP. H CHÍ MINH HO CHI MINH CITY OPEN UNIVERSITY UNIVERSITÉ LIBRE DE BRUXELLES SOLVAY BRUSSELS SCHOOL MBAVB2 Nguyen Trung Nam Foreign Exchange Risk Management in Vietnam: A Case Study of Petroman Ltd. MASTER PROJECT MASTER IN BUSINESS ADMINISTRATION (PART-TIME) Tutor’s Name: Dr. Nguyen Minh Kieu Ho Chi Minh City (2012) Page iii of ix DECLARATION I hereby declare that I am the sole author of this thesis, and this thesis is the result of my own and original work and effort and that it has not been submitted anywhere for any award. Only the sources cited have been used in this thesis. Parts that are direct quotes or paraphrases are identified as such. Signature: _____________________ Nguyen Trung Nam Page iv of ix ACKNOWLEDGEMENTS First and foremost, I owe my deepest gratitude to Dr. Nguyen Minh Kieu for the consistent instruction and guidance through the work, without which this thesis would not have been realisable. I also would like to take this opportunity to express my sincere thanks to my mentor, Ms. Ho Thi Dieu Hang, for her provision of useful information and assistance during my research. In addition, I’m grateful to all the lecturers of the MVB2 - Solvay Business School who have furnished knowledge and inspiration for my study and research. I also owe thanks to my beloved wife, who keeps encouraging my study, and my colleagues and friends, who have supported me in many different ways so that I could finish this time-consuming work. Page v of ix TUTOR’S COMMENTS Page vi of ix TABLE OF CONTENT ABBREVIATIONS VIII TABLES AND FIGURES INDEX IX CHAPTER I - INTRODUCTION 1 I. PROBLEM STATEMENT 1 II. OBJECTIVES AND RESEARCH QUESTIONS 2 III. RESEARCH METHODS 3 IV. LIMITATION AND CONTRIBUTION OF THE RESEARCH 3 CHAPTER II LITERATURE REVIEW 5 I. OVERVIEW 5 II. DEFINING EXCHANGE RATE RISKS 6 III. TYPES OF EXCHANGE RISK 7 1. Translation Exchange Risk 7 2. Transaction exchange risk 8 3. Economic/strategic exchange rate risk 9 IV. EXCHANGE RISK MEASUREMENT AND MANAGEMENT 9 1. Translation risk 9 2. Transaction risk 10 3. Economic risk 12 4. Exchange risk management organization and process in SMEs 13 CHAPTER III RESEARCH METHODS 16 I. MAIN APPROACH AND SCOPE OF RESEARCH 16 II. METHODS USED 16 1. Desk research 16 2. Quantitative Research 17 3. Qualitative Research 17 4. Other approaches 18 5. Data collection 18 CHAPTER IV FINDINGS AND ANALYSIS 19 I. COMPANY BACKGROUND 19 1. Organisation structure 19 2. Business lines and performance 19 3. Pricing structure and strategy 21 II. PETROMAN LTD EXCHANGE RISK EXPOSURE 21 1. Translation exchange risk 22 2. Transaction exchange risk 22 3. Economic exchange risk 27 4. Measurement of Petroman Ltd Risk Exposure 32 III. PETROMANS EXCHANGE RISK MANAGEMENT SYSTEM 35 1. Decision Making Process and Organisation 36 2. P E-rate Risk Management Activities 38 3. Critical Evaluation of the Existing System 44 Page vii of ix IV. SUMMARY OF FINDINGS AND CRITICAL COMMENTS 48 1. Summary of Findings 48 2. Pitfalls of the existing ex-rate risk management system 50 CHAPTER V  CONCLUSIONS & RECOMMENDATIONS 52 I. CONCLUSIONS 52 II. RECOMMENDATIONS ON TRANSACTION RISK MANAGEMENT 53 1. Improving connection amongst the functional departments/management 53 2. Credibility of the inputs and forecast 54 3. Expanding benchmarking operation 55 4. The combination of qualitative and quantitative approaches 56 III. RECOMMENDATIONS ON ECONOMIC RISKS MANAGEMENT 57 1. Reducing dependency in foreign supplies 57 2. Diversifying the clients range and business activities 58 3. Changing the operation unit  establishment of a foreign-based entity 60 BIBLIOGRAPHY 1 APPENDIX 1. GUIDING QUESTIONS FOR INTERVIEW WITH PETROMAN 4 APPENDIX 2. USD/VND AND GBP/VND EX-RATES DEVELOPMENT (2007 - 2012) 7 APPENDIX 3. PETROMANS FOR-EX GAIN-LOSS (2010-2012) 9 APPENDIX 4. PETROMANS GBPVND EX-RATE EXPOSURE  VALUE AT RISK (2007-2010) 12 APPENDIX 5. PETROMAN INCOME STATEMENTS (2010-2012) 14 Page viii of ix ABBREVIATIONS COGS Cost of goods sale EBT Earning before tax Expat Expatriate [engineer] Ex-rate Exchange rate F&A Financial & accounting [department] For-ex Foreign exchange GBP British Pound Sterling JPY Japanese Yen MNCs Multinational corporations NOP Net Operating Profit PIT Personal income tax SME(s) Small and Medium Enterprise(s) USD United States dollar VAS Vietnamese Accounting Standards VND Vietnamese Dong Page ix of ix TABLES AND FIGURES INDEX Figure 1 - Typical ex-rate risk management process 15 Figure 2 – Petroman Ltd Organisation Chart 19 Figure 3 - Petroman’s performance 20 Figure 4 - Petroman’s pricing structure 21 Figure 5 - Petroman' loans & supplier credits in USD 24 Figure 6 - Forex buying/selling activities of Petroman 25 Figure 7 – Black (parallel) market ex-rate vs. official ex-rate 2008 26 Figure 8 - Supply Chain Structure of Petroman 27 Figure 9 - Petroman’s Cashflows Diagram 28 Figure 10 - Ex-rates movement 2007-2012 30 Figure 11 - Petroman's balance of foreign currencies (2007-2012) 31 Figure 12 - Petroman's exrate gains/losses (2010-2012) 34 Figure 13 - Types of exrate gains/losses 34 Figure 14 - Relationship between the ex-rates movement and NOP (2010-2011) 35 Figure 15 - Petroman's ex-rate risk management process 38 Table 1 - Petroman’s revenue currency structure 23 Table 2 - Petroman's Swap transactions 2011 40 Table 3 - Major banks’ for-ex/derivative services 55 Page 1 of 60 CHAPTER I - INTRODUCTION I. PROBLEM STATEMENT In the first months of 2008, for the first time in the Vietnamese banking history lots of commercial banks refused to buy the USD due to its depreciation against VND, other banks only accepted to buy in the USD at the price of between VND 15,300-15,500 against the published USD/VND exchange rate of 15,865. Shortly thereafter, USD suddenly became extremely scarce and the USD in the black market increased by over 13 percent in May 2008 and 16 percent in August 2008, which was said to extremely distort the profits of many Vietnamese enterprises (Hong 2008). Thanks to selling USD at higher prices, an exporter, Gilimex, reported in its 4 th quarter profit after tax increase of 49.5% compared to the previous quarter. On the contrary, enterprises having loans in USD or import business such as SHC, Cang Doan Xa JSC, or Tan Binh Cultural JSC suffered serious losses due to buying USD at extra costs (VNEconomy, L din nhng ―cú sc‖ ri ro t giá (Exchange Rate Exposure Shocks shows up) 2009). The 2009 financial report of many companies listed on HOSE and HAX such as PLC, ONE, DDM and VIP shows that exchange rates had caused exceptional income or losses to their business results (VNEconomy, Ri Ro T giá Gây Khó Doanh Nghip Niêm Yt (Exchange Rates Risks Causes Trouble to Listed Companies) 2010). These are typical examples of how exchange rate movements become a major source of uncertainty for Vietnamese companies involving international activities such as import or export of goods and services. The SMEs account for 90-95 percent of total enterprises in Vietnam (GSO, 2009). In the context of further liberalisation of the economy in Vietnam, many Vietnamese SMEs 1 have and will involve in trans-border activities in which the for-ex rates risk (which most of them have been unfamiliar with) may become 1 In this thesis, SME is defined as enterprises which have less than 300 staff or chartered capital of less than VND 10 billion (~USD 600,000) as per the Decree No. 90/2001/N-CP dated 23 November 2001 issued by Vietnamese Government regarding assistance to SMEs. Page 2 of 60 vital to their business. This problem provides the rationale for the study in this thesis, which is to review the exchange risks management practice of these SMEs. This thesis will identify and measure the for-ex risks and review the corporate exchange risk management practice of a single Vietnamese SME, Petroman Ltd, 2 operating in the oil and gas manpower services industry. With its core business of providing [expatriates] manpower agency services, it was said by the management that Petroman Ltd’s business has been effected heavily by exchange rates volatility during the past three years. Therefore to understand, measure and eliminate the exchange rates risks is a critical task for the management. II. OBJECTIVES AND RESEARCH QUESTIONS This thesis aims to identify the exchange risk exposure associated with business activities of a non-financial firm, Petroman Ltd and to examine the exchange risk management process in the firm. For this purpose, the author sets out four objectives to be achieved in the thesis: (i) to identify the types and nature of exchange risks associated with Petroman Ltd’s business activities; (ii) to review and evaluate the current performance of the firm in measuring and eliminating or limiting such risks; (iii) to suggest a number of solutions to improve Petroman Ltd’s exchange risk management system based on theoretical literature and actual situation and business environment of the firm. To obtain the above objectives, several questions of the problem will be identified and resolved. Firstly, what types of exchange risks are affecting the business performance of Petroman Ltd? Secondly, what have the management of Petroman Ltd done to measure and mitigate these risks and are they successful? The last question is how could Petroman Ltd management improve their exchange rate 2 This is a fictitious name to ensure the anonymity of the real company. [...]... the preset themes and values of the interviewees will inevitably create reflexivity and subjectivity in data gathering and case analysing Secondly, given the limited scope and resources of Petroman Ltd as an SME, a number of financial information reported in the firm is whether incomplete, informal or short of reliability Moreover, the reporting procedures in the firm are unorganised and insufficient,... create balance sheet certainty simply transfers volatility from (Dhanani 2003) However, this risk may become a problem if there are plans to realise assets held Page 10 of 60 overseas, or if the parent firm wishes to repatriate earnings when they cannot be profitably reinvested in the location where they arise Moreover, the changes in the values of reported assets and liability values may have impact... BMW during those years Based on prior theoretical literature, there are three main types of exchange rate risks: (1) translation or balance sheet risk, related to the conversion of the positions in the balance sheet into foreign currencies; (2) transaction risk related to commercial or international financing activity of the firm; and (3) economic or strategic risk related to long-term movements in... competitiveness risk, which is related to the relationship of the firm with foreign competitors and could be classified as part of strategic risk (Balu and Armeanu 2007) We will now look at each type of exchange risk in details III 1 TYPES OF EXCHANGE RISK Translation Exchange Risk Translation exchange risk is the result of the restatement of financial statements of foreign subsidiaries into parent currency terms... future, not those materialised However, a key difference between the two types of risk is that economic exchange rate risk look into the long term movements of the exchange rates, which may have profound effect on the future cash flows of the firm by influencing the level of sales, prices and input costs In other words, this type of risk deals with the movements in real rates of exchange (taking into... introduced, enterprises involving in international transactions have had more and more concerns about the exchange rates volatility (Bartov, Bodnar and Kaul 1996) The recent booming globalisation process has resulted in an increase in foreign currency transactions with more uncertainty in international market Not surprisingly, this problem has received much attention of scholars and practitioners in business... Forwards: a made-to-measure agreement between the firm and another party to buy/sell a specific amount of a currency at a specific rate on a particular date in the future The main feature of this tool is that it can be tailored to the specific hedgin needs of the firm but the contract is binding and not marketable or assigned to another party if the firm want to drop in the middle b Futures: a future contract... small initial outlay but a significant amount of money can be gained or lost However, the talorability of future contracts is limited becaused they are highly standardised c Options: a currency option gives the right, but not the obligation to buy (call option) or sell (put option) a specific quantity of one foreign currency in exchange for another at a fixed price (Exercise/Strike Price) Options are... management by doctrinal research described in CHAPTER II, the author has also investigated the possibility to apply these concepts in the SMEs operating in Vietnam, in particular Petroman Ltd The concepts will be referred to the case at hand by looking at their advantages and disadvantages and their applicability and appropriateness to the case 5 Data collection All data and information are collected either... clause 2.2(a) Page 9 of 60 hedging strategy to fix the ex-rates for the dates that the companies have foreign currency exposed (Dhanani 2003) There are arguments against the extremes of leaving uncertainty to the market or speculating the market and actively hedge for exchange profits 3 Economic/strategic exchange rate risk Economic exchange rate risk exposes when the value of the firm changes due to . exceptional but scarce efforts have been made in analysing exchange risk management on global scale (Bartram 2006) or in developing countries such as India (Sivakumar and Sarkar 2008) and Malaysia. details): Case study: the main approach of this thesis is a single case study of a business management in real-life context, Petroman Ltd, using multi-sources of evidence. Secondary data/desk. firm’s financial performance as a result of a movement in a rate of exchange, which definition is less used nowadays. Page 7 of 60 For the managment of any corporation containing exchange risks,