Adam Smith Awards 2017

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HIGHLY COMMENDED WINNER
Best Foreign
Exchange Solution
Diageo
Budapest, Hungary
Diageo Group Treasury
FX risks addressed using rules-based benchmarks
Company profile
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.
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.
Benjamin Gilbert, Citi collects the award on behalf of Diageo