Question

For each of the following determine what type of exposure(s) (transaction, translation, economic), if any, the company has :

a)      A U.S. company that only does business in the U.S. and all of its costs are US dollar denominated. The company has a competitor that is based in Germany that exports to customers in the U.S. and bills them in US dollars.

b)      A U.S. company that has a subsidiary in Japan. The Japanese subsidiary buys products from the U.S., Japan, and Korea. The company has competitors in many countries.

c)      A U.S. company that exports product to France, Germany, and Japan, and bills the customers in the respective currency of the country the product is exported to. There are competitors within each of these countries.

Answer 1

a. Economic exposure: It is the risk that a company faces when its cash flows or earning may get affected whenever exchange rate changes. In this case, The competitor firm is based in the US. So it will convert the USD to Euro which exposes it to risk of economic exposure.

b. Translation exposure : It is of accounting nature and it happens when the financial statements of a subsidiary firms are translated to its home currency. We can see that this firm has a subsidiary in Japan which exposes it to translation exposure.

c. Transaction exposure is the risk that the exchange rate will change after the firm has transacted in country. In this case, we can see that this firm exports to foreign countries but bills them in their respective currencies. Hence it is exposed to Transaction exposure.