Before moving forward, we must first understand foreign exchange risk. In simple terms, foreign exchange risks refer to the chance that a company loses money on international trade due to fluctuations in the currency.
It also describes the possibility that an investment’s value can decrease because of the changes in the relative value of the involved currencies. Plus, it also affects businesses and investors involved in international trade. The risk occurs when contracts between the two parties specify exact prices for services or goods, including the delivery dates. If the value of a currency fluctuates between the date the contract is signed and the delivery date, then it could lead to a loss for one of the parties involved.
Different Types of Foreign Exchange Risk
There are three main types foreign exchange risks – also known as foreign exchange exposure. These include transaction risk, translation risk, and economic risk. Although, a fourth jurisdiction risk can arise when laws tend to unexpectedly change in different countries where the exporter is doing their business.
Transaction Risk
This kind of risk occurs when the company purchases products from suppliers in different countries, and the currency of the supplier provides the prices. So, if the supplier’s currency appreciation vs. the buyer’s currency, then the buyer will need to pay more in its base currency in order to meet the price they had agreed to.
This risk can typically impact one side of the transaction, which is the business that completes transactions within the foreign country. The company paying or receiving a bill that uses their country’s currency will not be subjected to the same risk.
Translation Risks
This risk mainly refers to how foreign exchange transactions impact financial reporting. For example, the risk is that a company’s assets, liabilities, income, equities, or even assets will change in value as a result of the changes in exchange rates.
This risk can occur mostly due to the subsidiaries of a parent company in a different country that denominates their currency in the countries they are located. The parent company ends up facing losses when it has to translate the financial statements of the subsidiaries into its own country’s currency.
Economic Risks
This risk refers to the impact that occurs on the market value of a company from exposure to unexpected currency fluctuations. This can then affect the future of the company’s earnings, cash flow, and foreign investments.
Some of its other impacts include how the exposure tends to be greater for multinational companies with several overseas subsidiaries, including various transactions involving foreign currencies. Moreover, the effects can be long-term and far-reaching – plus the fact that it can be pretty challenging to measure it precisely.
Fortunately, you can rely on several foreign exchange companies to give you the best services without damaging your company’s financial status.
Consider the Vanex Group – a revered Canadian private foreign exchange company that provides extensive currency exchange services. As a company that started in 2019, it has achieved significant progress over the past couple of years.
Since the goal of the company was to create positive differences in the world through its reliable and comprehensive money service business, its operations focus on different aspects – such as promoting financial inclusion by offering its services to people who might otherwise have limited access to traditional banking systems. They also provide competitive exchange rates and efficient foreign exchange facilities that function to aid businesses in their economic growth and overall expansion.