Transaction and Traselation Exposure - Essay Example

Running Head: TRANSACTION AND TRANSLATION EXPOSURE Explain how an appreciation of the US dollar against both Indian rupee and the Australian dollar would affect sporty degree of transaction, economic, and translation exposure. Answers An increase of the US dollar against both Indian rupee and the Australian dollar first will result in less dollars receivables from its exports in the two countries. Therefore, this means reduced transaction exposure. On the contrary, economic exposure will not be of affect in any way since the weak Indian rupee and Australian dollar could result in lower demand for sporty inc.

export and thereby still have effect on cash flows. Secondly any money paid by the Australian and Indian subsidiary yielded lesser dollars for the parent company. Finally, earnings made by both the Indian and Australian subsidiary gave back less dollars on the combined income statement i.e., translation exposure, even with no earnings remitted back to the parent company (Homaifar, 2004).2) Explain how a depreciation of the British Pound against the US$, Canadian $ and Euro would impact on the company’s economic, transaction and translation exposure.

Answers Jeeves (UK) plc’s combined earnings will be reduced by the translation effect brought as a result of depreciation of the British pound against the other international currencies. Because of the fact that foreign earnings are normally translated at the standard exchange rate over the financial year would eventually mean low value of foreign currencies yielding low level of combined income (Homaifar, 2004). Existence of purchasing power parity (PPP) means higher US inflation than that of Britain.

Demand for Jeeves (UK) plc products may not be affected due to price inflation from US, Canada and other euro zones aimed at offsetting the British consumer capability to obtain cheaper dollars. The British consumers’ purchasing ability on Jeeves items of trade versus other country products are not affected by rise and fall in the pound value. The economic exposure of Jeeves, a heavy exporter to the euro zone would decline since no need currency exchange is vital. Likewise, translational exposure of Jeeves would decline since Britain’s economic statements will no longer need translation.

(Homaifar, 2004).Briefly suggest techniques the company could use to reduce the foreign exchange risk.Multinational companies have the obligation of ensuring that they are capable of reducing risks associated with foreign exchange. This can be attributed to the undisputable fact that their earnings are reliant on the foreign exchange rates. Because foreign exchange rates can fluctuate either up or down which would mean a constructive or destructive effect on the Company’s real profit. This calls for knowledge on minimizing risks associated with the exchange rates if they are to maximize on their profits and increase company’s equity (Homaifar, 2004).

Certain strategies employed by a company to minimize foreign exchange risks include, but not restricted to, hedging through the help of futures and forwards. Here, the company offsets foreign currency holdings with futures and forwards agreements. Futures contracts are agreements, which usually are done on the transaction floor of a futures exchange with the view of buying or selling a particular product or financial instrument in future at an already determined price. As for forward contract, delays on the delivery of the trade items are enacted until the contract is made to its completion.

The price is usually agreed upon in advance just like for the cases of futures contract only that delivery is to take place later. When hedging is done perfectly, it minimizes risk to nil only for the value of the hedge. Employment of options trading also reduces foreign exchange risks. Here, existence of calls and puts enables buyers to trade with the financial asset at a preset price during a particular duration or maybe on a precise date. Finally, use of swaps can be beneficial to companies that exist in separate countries and with comparative advantage of the favorable interest rates in their respective countries (Homaifar, 2004).

ReferencesHomaifar, G. (2004). Managing global financial and foreign exchange rate risk. Hoboken, N.J.: J. Wiley.