Page 180 - DMGT549_INTERNATIONAL_FINANCIAL_MANAGEMENT

Mahesh Kumar Sarva, Lovely Professional University Unit 11: Management of Translation Exposure

Unit 11: Management of Translation Exposure Notes

CONTENTS
Objectives
Introduction

11.1 Translation Methods
11.1.1 Current Rate Method
11.1.2 The Monetary/Non-monetary Method

11.1.3 Temporal Method
11.1.4 Current/Non-current Method
11.2 Functional vs Reporting Currency
11.3 Comparison of Four Translational Methods
11.4 Summary

11.5 Keywords
11.6 Review Questions
11.7 Further Readings

Objectives

After studying this unit, you will be able to:

Explain the translation methods
Discuss the functional and reporting currency
Discuss the comparison between the four translation methods

Introduction

Accounting exposure, also known as translation exposure, arises because MNCs may wish to
translate financial statements of foreign affiliates into their home currency in order to prepare
consolidated financial statements or to compare financial results. As investors all over the
world are interested in home currency values, the foreign currency balance sheet and income
statement are restated in the parent country’s reporting currency. For example, foreign affiliates
of US companies must restate the franc, sterling or mark statements into US dollars so that the
foreign values can be added to the parent US dollar denominated balance sheet and income
statement. This accounting process is called ‘translation.’
Translation exposure (also known as accounting exposure) measures the effect of an exchange
rate change on published financial statements of a firm. Assets and liabilities that are translated
at the current exchange rate are considered to be exposed as the balance sheet will be affected by
fluctuations in currency values over time; those translated at a historical exchange rate will be
regarded as not exposed as they will not be affected by exchange rate fluctuations. So, the
difference between exposed assets and exposed liabilities is called translation exposure.

Translation Exposure = Exposed assets – Exposed liabilities

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