Forex Risk Management in Multinational Companies: A Gateway to Profitability

Introduction

Foreign exchange exposure is the risk associated with activities that involve a global firm in currencies other than its home currency. It is the risk that a foreign currency may move in a direction which is financially detrimental to the global firm. Firms must assess and manage their foreign exchange exposures to be in win -win situation

Types of Foreign Exchange Exposure

Transaction exposure

—  Any MNC engaged in current transactions involving foreign currencies

Economic exposure

—  Results for future and unknown transactions in foreign currencies resulting from a MNC long term involvement in a particular market.

—  Economic exposure relates to the overall impact that exchange rate fluctuations can have on a company’s value.

Translation exposure (sometimes called “accounting” exposure).

—  Accounting exposure applies when assets and liabilities denominated in a foreign currency need to be converted into local currency for accounting purposes

—  Important for MNCs with a physical presence in a foreign country.

Statement of the problem

The high volatility of exchange rates is a fact of life faced by every company engaged in international business, bringing in uncertainties in their bottom line. In recent years, variations in value of rupee have been very impulsive and unpredictable.These fluctuations have had a profound impact on domestic and foreign sales, profit levels and profit margins of MNCs operating in India. Many of the companies have turned into ashes as a result of unfavorable exchange rate fluctuations.

As per available data , most of the companies are managing only their transaction exposure. Few of them are managing both transaction as well as economic exposure

The challenge

An effective hedging program does not attempt to eliminate all risk. Rather, it attempts to transform unacceptable risks into an acceptable form. The key challenge for the corporate risk manager is to determine the risks the company is willing to bear and the ones it wishes to transform by hedging. The goal of any hedging program should be to help the corporation achieve the optimal risk profile that balances the benefits of protection against the costs of hedging.

  Identify the risk

 Evaluate cost of hedging in light of cost of not hedging

Use the right measurement stick to evaluate hedge performance

 Hedge Program should not focus on personal market view rather should focus on minimizing risk as it is different from speculation.