Our advice to investors: Why currency matters more than you think

One of the most overlooked areas in financial reporting is the impact of currency adjustments on earnings and reporting – an oversight that could be costing investors clarity and companies credibility.

Why currency matters more than you think

When a UK company operates across borders, its earnings are exposed to foreign exchange (FX) movements in both trading and reporting currencies. A weakening pound might make overseas revenues look stronger, while a strengthening pound could mask genuine growth. These shifts can create a profit illusion – where performance appears better (or worse) than it truly is.

The risk comes where investors who are less experienced might not know they have a need to interrogate the differences in underlying product or volume sold, rather than just relying on single reporting currency numbers.

What UK GAAP says: FRS 102 Section 30

Under FRS 102 Section 30, UK businesses must:

• Translate foreign currency monetary items at the closing rate on the reporting date.
• Recognise exchange differences in profit or loss, unless they relate to net investments in foreign operations (which may be recognised in other comprehensive income).
• Disclose the amount of exchange differences recognised in both profit or loss and OCI.
• Clearly state the functional currency and presentation currency, and explain any differences.

These rules are designed to ensure transparency and comparability. But here’s the catch: while audited accounts may comply, investor presentations and CEO briefings often gloss over these details leaving investors in the dark. This creates an unintuitive need for investors to have to understand both the fundamentals of the business, and currency.

Given how much currency volatility the world is experiencing today, the need to understand currency reporting has never been higher.

Smart investor tips: reading between the (currency) lines

If you’re investing in UK businesses with international exposure, here’s how to stay ahead:

1. Look for constant currency figures: Actual EBITDA might look impressive, but it could be inflated by FX gains. Ask for constant currency comparisons to see the real operational performance.
2. Don’t rely solely on presentations: Investor decks and CEO updates are great for headlines but not always for accuracy. Dive into the audited financial statements to see how FX has been treated.
3. Check the functional currency: If a company earns in dollars but reports in pounds, FX movements will affect every line. Make sure the functional currency is disclosed and understood.
4. Watch for translation sensitivity: Companies with high foreign revenue (USD, EUR, AUD) are more sensitive to FX changes. A 10% shift in exchange rates could mean millions in apparent profit or loss.
5. Challenge EBITDA-based valuations: If EBITDA is used for valuation or loan covenants, ensure it’s currency-adjusted. Otherwise, you might be overpaying—or underestimating risk.
6. If in doubt, look at volume: Whether the business sells widgets, software licences, chargeable time or food and minerals extracted from the ground, volume is always easier to measure consistently. Go back to first principles and start here, then move your analysis onto pricing changes.

As Chand Chudasama, Strategic Corporate Finance expert at Price Bailey, puts it:

Currency-adjusted metrics are essential for a more accurate and consistent financial narrative. In short, don’t let FX fog your investment lens. Whether you’re a seasoned investor or just starting out, understanding how currency adjustments affect earnings is key to making informed decisions in today’s global economy.