Treasury at Micron is partnering with the procurement team to mitigate financial risk from supplier contracts.
The US dollar and commodity price strength have provided treasury an opportunity to demonstrate its capability to accurately mitigate a company’s financial risk exposure. They have also increased awareness about the consequences of commodity and FX fluctuations at the business-unit level.
- Micron Technology, a semiconductor company with global operations and heavy manufacturing in APAC, is US-dollar functional across its enterprise. Therefore, procuring tools and local operations introduce material FX exposure for the company.
To address the risk, treasury is evolving its strategic value by working directly with procurement to identify commodity and FX risk embedded in supplier contracts and make cost-conscious decisions about which party should own the financial risk.
- “It takes a lot of training and many small wins to obtain the confidence of the procurement team to convince them you are there not to add another level of red tape, but to support them to create value for the company,” said assistant treasurer Robert Lambert.
- “Even with senior management involvement, you have to engage with local procurement teams to isolate and quantify exposure within contracts,” Mr. Lambert shared.
Getting in front of the risk. Before treasury forged the partnership with the procurement team, the company primarily insulated non-US dollar costs from FX fluctuations by isolating and hedging the exposure through FX derivatives. The success of this process was challenged by limited enterprise reporting capabilities.
- With billions in supplier contracts, “The key is managing financial risk at the source,” Mr. Lambert said. “There are many ways we can go about minimizing the exposure. And even if we are not successful in converting the contract to US dollars, by bringing treasury in, as a company, we become more knowledgeable, so any hedging action we take can become more accurate and effective.”
- While pricing contracts in US dollars may offer 100% protection against FX fluctuations, it can be costly when suppliers are local-currency functional, smaller and/or less creditworthy relative to Micron. In all cases, they pay a credit premium on top of the hedge cost, which they “charge back” through the price of the goods.
- Treasury works with procurement to decide whether to price in US dollars (sometimes the counterparty is also dollar functional to create value for all parties) or in the local currency and then pull the exposure into the balance sheet (for payables) or cash flow hedging program (for anticipated expenses).
- By partnering with procurement, treasury has changed the commodity index of contracts to one with more liquidity that is less expensive to hedge.
- The preference is still to hedge the commodity exposure with the supplier to minimize the administrative burden. However, treasury can quantify the cost differential by working with Micron’s banking relationships to recommend the optimal hedge strategy.
- Treasury focuses on supplier contracts of over $20 million to balance administrative burden with incremental value. And the effort has paid off. In some cases, treasury reduced the cost of specific contracts by up to 5% by assuming ownership of the currency exposure.
Optimizing working capital. The next step in working with procurement is managing working capital. “Treasury can quantify the difference between payment terms to negotiate better contracts,” Mr. Lambert said.
- In many organizations, procurement does not have payment KPIs, so payment terms are not a priority. Treasury can quantify the impact on DPO, DSO and the cash conversion cycle to recommend which levers to pull to provide the best overall contract for the company.
- While getting started may be challenging, the collaboration can improve these metrics once procurement sees the value. “We are responsive and easy to collaborate with,” explained Mr. Lambert, “and have access to more resources, from Bloomberg to our banking partners, to help them achieve the best overall outcome for the company.”
Building a process. The success of this collaborative effort depends on ensuring treasury is at the table before contracts are signed. In contrast, in many companies, procurement negotiates and signs the contract without consultation and with a specific goal: To meet its functional targets of reducing notional cost year-over-year, which are embedded in their performance assessment.
However, this mindset does not necessarily align with the company’s financial performance. “They just don’t have the visibility to always see the big picture,” Mr. Lambert explained. “In some cases, we were dramatically overexposed. We are looking to provide the businesses with context.”
- Micron is creating a financial risk committee to oversee enterprise-wide financial exposures. The committee will include leaders from the finance and procurement teams to leverage skillsets to provide timely and optimized solutions to complex problems.
Building a relationship. In addition to the successful treasury-procurement partnership at Micron, the key takeaway from the engagement is the blueprint it lays for future intercompany partnerships that create substantial value.
