Dealing with Volatility- Building an Effective Forex Strategy NASSCOM BPO Strategy Summit June 2009 Suresh C Senapaty Executive Director & CFO Wipro Limited

2 Contents Why FX Risk Mgmt MattersAnatomy of FX Risk MgmtKey Aspects of FX Risk Mgmt

3 1. FX Volatility Is The Reality

4 2. Risks of Forex Volatility 1.Risk to rupee EPS for an exporter/importer listed in India 2.Risks to rupee costs for an exporter/importer listed abroad 3.Risks to net cash-flows for a Captive IT/BPO center of an MNC 4.Risks to budget for an India based R&D Center of a Global MNC

5 3. Specific to BPO Industry Levers for profitability: Pricing Resource Management – No of resources & Per person cost Seat Utilization Attrition Mgmt Forex 1% movement in Forex will have 0.7% adverse/favorable impact on OM% Average BPO industry margins at 12-13% Nearly 10% of Forex movement that happened in 2007 (Rs. 45 to 40), shaved off 7% margins from the business Similarly, in 2008, 25% movement from Rs. 40 to 50 added 15-16% margins back Now, in May 2009, 6% movement from Rs. 50 to 47, again took away 4% margin. Thus, significant impact of Forex on P&L. Sharp rapid movements making it difficult to deliver consistent financial performance and build right business model.

6 4. Areas of Impact From Financials Perspective, impact on: Gross Revenues (Gross Rupee Rev = F/C Revenue x current Exchange rate) Net inflows (it can be argued economic impact restricted to the extent of net flow) EBIT/PAT (due to mismatch in currency of Revenues & currency of Expenses) Balance –sheet (Translation impact for F/C current assets & fixed assets) From Business Perspective: Committed orders with frozen pricing Committed orders with open pricing Run-rate certainty but not committed Zero hedging will mean Financial Results at spot & assets going through MTM every period-end

7 5. Objectives of Hedging Currency Movement Timeline Fx Volatility Effective Hedging Primary Objective of Hedging is to deliver (a)Reduce the volatility in operating financial performance due to forex (b)Enhance the predictability of performance Revenues/ Profits Timeline Constant Currency Operating Results Effective Hedging Reported Performance

8 6. Threats to Effective Hedging Volume Mismatch Underlying Exposure Hedging Timing Mismatch Underlying Exposure Hedging Directional Mismatch Underlying Exposure Hedging Hence the Objective of a Corporate Treasury is to Get these 3 Basic Parameters Right

9 7. Type of Forex Instruments 1.Forewards 2.Range-forwards 3.Puts 4.Strips 5.Swaps

10 8.Three Aspects of FX Risk Management Treasury Objectives Enabling Policy Aligned Accounting Treatment Robust Processes

11 8A. Aligned Accounting Treatment – MTM Vs. Cashflow Illustrative Case – MTM vs. Cash Flow Hedge Cash-flow Sept 15, 2009 Sept 30Dec 31 March 31 June 30 Aug 15, 2010 Example: Hedge for Cash-flow from Collection of Debtors (DSO: 60 days) Forward Rate of 48 for Aug 2010, taken a hedge of $1 Mn monthly Sales. Business has Operating margin of 15% Aug 2010 Forward at MTM Gain of Rs. 1.5 Mn Incr. MTM Gain of Rs. 3.5 Mn Incr. MTM Loss of Rs. 6 Mn Cumulative MTM Gain Rs. 5 Mn Cumulative MTM Loss Rs. 1 Mn Cumulative MTM Loss Rs. 3 Mn Incr. MTM Gain of Rs. 3 Mn Cumulative MTM Rs. 0 Mn MTM Gain of Rs. 1.5 Mn Aug 2010 Forward at 43.0 Aug 2010 Forward at 49.0 Aug 2010 Forward at 51.0 Incr. MTM Loss of Rs. 2 Mn Spot at 48.0 MTM C/f Hedge Balance-sheet

12 Economic Impact on Operating Performance Designated Hedge F/C Cashflows 8B. Enabling Policy F/C Capital Asset / Liability Capital Hedge F/C Monetary Asset Hedge Type of Exposures Underlying Risks Economic/ Pure Accounting Depending whether it will be ever paid/realized Pure Accounting MTM Shock to Income Statement Based on Period-End Exchange Rate Type of Hedges

13 8C. Robust Processes Defined Risk Mgmt Framework & Documentation flow Audit committee oversight of Treasury Policy Clear limits for quantum of hedges under each category Independent Back-office Confirmation & Settlement function under controllership Documentation for hedging signed-off jointly by Controller & Treasurer Audits at defined interval of policy & process adherence Robust system as backbone Daily and weekly MIS on positions through Independent Middle office Reporting to Business Mgmt and Audit committee Constant benchmarking for best practices and against changing business needs Policy Control Independent Controllership Fn Optimal Information Flow Thank You