TRANSLATION EXPOSURE V/S TRANSACTION EXPOSURE

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Q2.) (b.) Distinguish between translation exposure and transaction exposure.

Ans: The difference between Transaction Exposure and Translation Exposure covering the basis of difference are:

1.) DEFINITION: Transaction exposure is the risk, faced by companies involved in international trade, that currency exchange rate will change after the companies have already entered into financial obligations. Such exposures to fluctuating exchange rates can lead to major losses of firms. Translation exposure is the risk that a company's equities, assets, liabilities, or income will change in value as a result of exchange rate changes. This occurs when a firm denominates a portion of its equities, assets, liabilities, or income in a foreign currency.

2.) ACCOUNTING: Transaction exposure impacts the flow movement and arises while conducting purchase and sale transactions in different currencies. Translation exposure is not a cash flow change and arises as a result of consolidating the results of a foreign subsidiary. Translation exposure is usually driven by legal requirements asking the parent company to consolidate financials.

3.) MEASURES: Transaction exposure measures cash(realized) gains and losses from a change in exchange rates. Translation exposure measures accounting (book) gains and losses from a change in the exchange rate.

4.) TIMING IMPACT: Transaction exposure arises the moment a company enters into a transaction involving foreign currency and commits to make or receive payment in a currency other than its domestic currency. Translation exposure arises on the balance sheet consolidation date and is at the end of a given financial period (quarter or year).

5.) NEED OF FOREIGN AFFILIATE: For a Transaction exposure to arise, the parent company doesn't necessarily need to have a foreign affiliate or a subsidiary. Translation exposure can arise only when a parent company is consolidating financials of a foreign affiliate or subsidiary.