Question

1. How do foreign currency exchange rates affect revenue? Give numerical examples to prove your points.

Answer 1

In the age of Globalisation, Companies are going global and have operations and business in multiple countries. The trade between countries would give rise to exchange of currencies and cash flow. These currencies exchanges leads to movement in the FX prices in the international market and hence it is not constant and keeps changing.

A company which sells goods domestically is not exposed to FX risk as the transaction is billed and paid in the domestic currency itself. For example, consider a US entity selling products only to US customers will bill its invoices in US dollar and receive payments from its US customers in US dollar and hence the revenue would not fluctuate.

Now consider a global multi national company which might serve customers across the globe will be exposed to foreign exchange risk. For example, A Japanese company selling its products to customers in UK will be exposed to movement in change in GBP-Yen rate. It would be billing the UK customer in GBP but have to prepare its financial statements in Japanese Yen and would have to convert the GBP billing into Yen by using the Spot rates on the date of transaction. As FX rates changes on a daily basis, the amount of revenue recognised would also fluctuate and hence impacting the amount of revenue recognised. This can be seen in the table below:

Sales summary of X Ltd:
Date of Sales	Billing CCY and Amount (Col 2)	Spot FX rate on date of sales (Col 3)	Amount in Japanese Yen (Col 2 * Col 3)
1st Jan	GBP 100,000	110.53	11,053,000
2nd Jan	GBP 100,000	100.21	10,021,000
3rd Jan	GBP 100,000	105.36	10,536,000
4th Jan	GBP 100,000	112.33	11,233,000
5th Jan	GBP 100,000	114.33	11,433,000
	Total		54,276,000

As seen in the above table, though the billing in foreign currency amount was constant at GBP 100,000 on a daily basis, but due to foreign exchange rate changes (Col 3), the amount reported in Financial statements of X Ltd. in Japanese Yen has fluctuated and thus impacting the revenues that are reported by X Ltd.