Multinational finance and accounting
Translation exposure is associated with the fact that the business will have subsidiary in the foreign country whose currency weakens against the home currency thus suffering reduction in the shareholders wealth. The exposure does not involve the flow of cash into or out of the home country but involves the translation of items in the profits and loss account and the balance sheet. It does not real affect the investment of funds or funds generated from subsidiary. Translation exposure has economic impact of the company because it reduces net worth of the company in the eyes of the shareholders. The subsidiary may be very productive wherever they are because of a weak currency it becomes less valuable. Many ways have been highlighted that assist in managing this exposure. The holding company can use one or more of the ways stated below in managing the exposure relating to translation.
• Avoiding being too exposed to one single foreign currency by having subsidiaries in a range of countries each with different, unlinked, currencies.
• Hold subsidiary in foreign countries where there is known to be some intent on the government part to hold the home currency at a broadly constant exchange rate with the relevant foreign currencies.
• Taking steps to try to finance much of the foreign investment with funds borrowed in the local currency, so that translation losses of assets of values are matched by gains on liabilities.
Exchange rate changes: exposure and effects.
Before carrying out any analysis, first is the determination of exposure to currencies other than the home currency. Then the effects of exchange rate changes are determined to gauge the exposure ranges. These effects are the costs of two factors, exposure and rate changes. What is most important, however, is not the precise measurement of the distortions resulting from exchange rate changes, but the recognition that they exist. Once you recognize the issues, you can usually estimate the financial statements to begin with. Even a general understanding of the effects of changing exchange rates should improve investment decisions. Information about exposure can be obtained from the following reports available in the annual reports of the company.
– Financial statements references to exchange rate effects
– Footnotes disclosures about translation gains and losses
– Geographic segment disclosures
– Management discussion and analysis
– Listing of subsidiaries and analysis
– Descriptive material about business operations.
The effects on the Balance sheet:
When the home currency is the functional currency, the exposure equals net monetary assets and when the local currency is the functional currency, exposure equals net assets by currency. Financial statements disclosures regarding exposure are typically poor, as neither SFAS 52 nor IAS 21 have meaningful disclosure requirements.
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