When to Pay Vendors in a Foreign Currency Versus US Dollars
You may be paying a premium and creating reconciliation headaches by paying international vendors in US dollars. Use these practical considerations to help optimize foreign transactions.
Perhaps you've been paying your overseas vendors in US dollars for decades, and they've never complained. Your company may even require that international payments be denominated in US dollars, a common treasury policy among US businesses buying from abroad. However, it’s worthwhile to reexamine policies like this—the potential embedded costs of dealing in US dollars are often overlooked, and misconceptions abound over the risks of foreign currencies.
Of course, there are some instances when paying in US dollars is efficient. Certain industries have dollar-functional supply chains where currency conversion shouldn’t occur. Multinational vendors may want US dollars for their own operations, or they may have an arrangement to convert currencies via a foreign exchange hedging program. But if these considerations don't apply to your business, there can be benefits to changing your approach.
Here’s what you consider when deciding which currency to use with overseas vendors.
Paying in Local Currency Can Improve Cash Flow
When you make a payment in US dollars, your bank immediately withdraws the funds from your account. This ensures the dollars are sent to the vendor’s bank right away. By contrast, when you make a cross-currency payment, funds are not wired until they've been converted from dollars to the vendor’s currency. Your financial institution may be willing to delay withdrawing the dollars from your account until the conversion is complete, which could take up to two business days. Two days of funds availability can be meaningful in terms of earnings credit and working capital availability.
Paying in US Dollars Can Create Challenges for Vendors
Your vendor may experience faster payments and an easier account reconciliation process if you choose to pay in their local currency—when foreign payments are made in US dollars, the vendor’s financial institution automatically converts the payment to the currency of the receiving account, often without contacting the recipient. This creates two likely challenges for your vendor’s accounts receivable (A/R) team:
- Delays in receipt of funds: Many banks take two business days to post cross-currency payments to accounts, even for currencies that allow delivery on the same or next day after receipt. You may be able to deliver funds more quickly with no disadvantage to your company if you pay in the vendor’s local currency.
- Difficulty matching credits to invoices: If your vendor’s A/R ledger is in euros, for instance, its reconciliation team may struggle to match your payment credit because the converted euro amount won’t match the amount on the invoice. They can only hope the invoice reference details you provide in the wire transfer appear on the account statement.
Case Study: Importing From China
A wholesale distributor based in the southeastern US imported machine tools from China for more than 80 years and always paid in US dollars. However, beginning in 2010, the internationalization of the Chinese currency allowed for the distributor to make payments in CNH, the Chinese currency traded outside of mainland China. By agreeing to pay in CNH, the wholesale distributor was able to negotiate more favorable pricing from their vendor.
- Vendor risk: You may be paying a risk premium when transacting in US dollars because your vendor will account for possible currency fluctuations when quoting you a price in US dollars. You can increase transparency by asking vendors to generate invoices that show prices in both US dollars and the local currency. Consult with your bank to further discuss the benefits of dual-currency invoicing.
- Changes to accounts payable processing flow: Most banking platforms include the option for foreign currency payments in the same web screen as US dollar payments, so the user experience likely won't change.
- Additional help: Simple payments in a foreign currency shouldn't be confused with foreign exchange trading and hedging. More experienced treasury practitioners may choose to employ FX risk management instruments—such as forwards, swaps and options. These treasury teams will work closely with specialists on their bank’s FX desk to tailor appropriate solutions for their business.