Also called Balance Sheet Exposure, it is the exposure on assets and liabilities appearing in the balance sheet but which is not going to be liquidated in the foreseeable future. Translation risk is the related measure of variability.
The key difference is the transaction and the translation exposure is that the former has impact on cash flows while the later has no direct effect on cash flows. (This is true only if there are no tax effects arising out of translation gains and losses.)
Translation exposure typically arises when a parent multinational company is required to consolidate a foreign subsidiary’s statements from its functional currency into the parent’s home currency. Thus suppose an Indian company has a UK subsidiary. At the beginning of the parent’s financial year the subsidiary has real estate, inventories and cash valued at, 1000000, 200000 and 150000 pound respectively. The spot rate is Rs. 52 per pound sterling by the close of the financial year these have changed to 950000 pounds, 205000 pounds and 160000 pounds respectively. However during the year there has been a drastic depreciation of pound to Rs. 47. If the parent is required to translate the subsidiary’s balance sheet from pound sterling to Rupees at the current exchange rate, it has suffered a translation loss. The translation value of its assets has declined from Rs. 70200000 to Rs. 61805000. Note that no cash movement is involved since the subsidiary is not to be liquidated. Also note that there must have been a translation gain on subsidiary’s liabilities, ex. Debt denominated pound sterling.
2 Comments