Spotlight on: Damian Glendinning, Lenovo

Notwithstanding the considerable currency exposures that Chinese PC manufacturer Lenovo has to hedge, and the wave of complex financial engineering in over-the-counter derivatives over the past decade, the company's Singapore-based group treasurer Damian Glendinning prefers basic foreign exchange forwards rather than complex options as a hedging tool. "All the more complex products really are is various forms of options in which all sorts of interesting methods are used to make the premium disappear. Every time you make the premium disappear, you are introducing a different risk," he explains.

Raised in the UK, Glendinning started his career at Unilever and joined IBM in Paris in 1984, the year in which Lenovo was founded. During more than two decades with IBM, Glendinning spent seven years in Singapore and moved to the company's headquarters in Armonk, New York in 2003.

In 2005, Lenovo acquired IBM's PC business, an acquisition that transformed the company from a Chinese firm with annual revenue of $3 billion to a global player with $13 billion of annual revenue. While Lenovo had become a market leader in China with no international business, IBM had subsidiaries and branches in 67 countries. "Lenovo acquired something three times its own size and moved from being a purely domestic Chinese company to a global one. This presented quite a challenge for the management and owners, as Lenovo had little prior experience of dealing outside China," says Glendinning.

Appointed as group treasurer of the new multinational business, Glendinning returned to Singapore in 2005 and had to build a global treasury function from scratch. Nearly seven years later, he describes the move as one of the best decisions he has ever made, but recognises the ever-present challenges of corporate risk management in an environment of elevated volatility.

FX Week: What was your role in Lenovo's acquisition of the IBM PC business?
Damian Glendinning (DG): As a division of IBM, the PC business had no independent corporate functions or treasury, and Lenovo had no operations outside China. I was the person inside IBM given the job of setting up cash management and treasury so the PC business could be separated from IBM and handed over to Lenovo as a fully functioning entity. During this process, the company's then chief financial officer Mary Ma asked me if I would move back to Singapore to run cash management and treasury globally. After two years in the US, I was delighted to move back to Asia and become part of the new business. The opportunity to set up a treasury function from scratch was a unique and interesting challenge – the type of opportunity one is lucky to get even once in a career.

FX Week: How did you go about the task of building a treasury function for the new business?
DG: I was involved in the process for about five months before the deal completed, as there had to be a functioning treasury from day one. Given the short amount of time, we faced a fairly simple choice: either put in place a decentralised treasury across regions, or centralise everything into one place. With today's technology, it's possible to manage cash remotely very effectively, so we decided to put the cash into a single location in Singapore, rather than having small antennae in many different places.

FX Week: Can you give an overview of the FX risks you need to hedge at Lenovo?
DG: One of the things we have tried very hard to do is to keep things simple. We have two main FX problems we need to address. The first is that within our balance sheets we have a series of payables and receivables denominated in what are foreign currencies for the local entity. Our UK subsidiary, for example, sells its PCs in sterling and does its accounts in sterling. But it buys all those PCs from Lenovo Singapore, which invoices in US dollars. The resulting payable due to Lenovo Singapore is a foreign currency liability for Lenovo UK, and we have to record exchange gains and losses on it. Our policy is to fully hedge that liability, and any other non-sterling asset or liability. The main challenge here is getting the accounting data in time: accounting systems are rarely real time, and markets move between when the accounting period closes and when we have the final number. Our second FX problem is a fundamental mismatch in our business: we sell PCs in the local currency, but 80% of the input costs are in US dollars. So every time we print a price list, we are basically giving our customers a currency option – if we quote for a PC in sterling, we are committing to deliver it in sterling, but the customer has no commitment to buy. If we included in the price of the PC a cost to cover a vanilla currency option, we wouldn't sell any PCs at all because the costs would be far too high.

FX Week: What products do you use to hedge these risks?
DG: Given the cost of option premiums, we mainly hedge using forwards. The benefit of forwards is that they are cheap, but the problem is they are not very flexible. We have to hedge based on forecasted volumes, so if we forecast to sell 1,000 units but we only sell 800, we then find ourselves with a binding commitment to honour the forwards we have bought but the underlying volumes aren't there any more. So that creates an exposure of its own. The other problem is that we can find ourselves locked into very uncompetitive costs and exchange rates if the currency moves against us. For these reasons, we hedge forecasted volumes but we have ranges in terms of the percentage of the forecasted volume we hedge, which we build up over time. We also don't go out very long, simply because locking in a rate too far out in a low margin business is very risky.

FX Week: Have you considered using more complex products?
DG: We consider them all the time and we have banks proposing them to us all the time. We do spend a lot of time analysing them, but the risk-reward ratio is never very attractive. The other issue is that these products always present significant accounting problems. Although our main concern is to hedge our business risks from an economic point of view, we also have to make sure the accounting treatment doesn't introduce additional volatility into our quarterly earnings.

FX Week: What determines your choice of counterparty?
DG: We competitively bid every FX transaction through FXall, so our FX hedging is transacted through a number of banks. For some less liquid and more exotic currencies not covered by FXall, we still have to get prices over the phone.

FX Week: Has the recent volatility in FX markets affected the hedging process?
DG: The industry works on quarterly pricing cycles and everyone understands when we use forwards we lock in a rate that will be the basis on which we price the goods. Sometimes that's in our favour, and sometimes it's not, but it's the way the whole industry works. If there has been a big rise in a particular currency since we locked in a rate, we can't offer large discounts on our products in that country. As the volatility becomes more extreme, as it has been over the past couple of years, then it does make life very difficult for our business people and our customers because we have to pass the effect of currency fluctuations on to them.

FX Week: How speed-sensitive is your FX hedging?
DG: We are far less sensitive to speed than the high-frequency participants. Our challenge is that accountants usually like to have five or six days between the end of the month and when they close the books. From an FX hedging perspective, that's not good enough because if you wait five or six days, the rate you need to hedge is no longer available in the market. We have made improvements to our accounting systems, so we now get the data quicker. But we still have to track what's going on during the course of the month and then make an estimate a couple of days from month-end. So the amount we hedge ends up being what we know about plus an estimate of the late activity, which is not an exact science.

FX Week: Is your relationship with the sell side changing as a result of the burden of post-crisis reform that is weighing on the banking sector?
DG: My own view is that a lot of the volatility we see in the market is caused by high-frequency trading, and by banks and other market participants who have risky trading activities that are not related to trade flows but generate extra volumes and accentuate volatility. I view this as being an unhealthy development for those trying to make a living out of producing things and selling them. I think regulation is a good thing and have absolutely no sympathy if it is putting pressure on the banks. If Basel III and other regulations result in banks getting back into acting as financial intermediaries for the real economy, I view that as being very healthy because there are clearly excesses in the system that need to be eliminated.

FX Week: Are you concerned about the possible effects of clearing and trading regulations on your ability to hedge your FX exposures?
DG: There is still a big debate about whether corporate hedging using options will be included or not. It will all come down to price – we don't use options much now because of cost, so if they become even more expensive, we'll use them even less. At the end of the day, the more exotic options contain a degree of complexity that can very easily get away from you unless you spend a lot of time and money on the necessary skills and systems. Making those products less readily available might not necessarily be a bad thing.