> Risk of adverse effects on a firm's consolidated financial statements that may arise from changes in exchange rates.

>> Translation exposure is a type of foreign exchange risk faced by multinational corporations that have subsidiaries operating in another country. It is the risk that foreign exchange rate fluctuations will adversely affect the translation of the subsidiarys assets and liabilities denominated in foreign currency into the home currency of the parent company when consolidating financial statements. Translation exposure is also called accounting exposure, or translation risk.

 Current/Noncurrent

Method Method

Monetary/Nonmonetary Temporal

Method

Current

Rate Method

CURRENT RATE METHOD

All

Income statement & Balance sheet items are translated at the current exchange rate. simple method in application.

Very

Translation

exposure=total assets converted at current rate-total liabilities converted at current rate

CURRENT/NONCURRENT METHOD
The

underlying principal is that assets and liabilities should be translated based on their maturity. y Current assets translated at the spot rate. y Noncurrent assets translated at the historical rate in effect when the item was first recorded on the books.

Monetary/Non monetary method

In this case assets & liabilities are devided into - monetary - non monetary. Items that represent a claim to receive or an obligation to pay is a monetary asset. Ex: cash, bills receivable, bills payable, etc. While the physical asset and liabilities come under non monetary group. Ex: fixed assets, stock, long term investments, etc. All the monetary assets & liabilities are translated at current rate. All the non monetary assets and liabilities are converted at historical rate.

TEMPORAL METHOD
The

underlying principal is that assets and liabilities should be translated based on how they are carried on the firms books. sheet account are translated at the current spot exchange rate if they are carried on the books at their current value. that are carried on the books at historical costs are translated at the historical exchange rates in effect at the time the firm placed the item on the books.

Balance

Items

Ex: find out the translation gain/loss on the basis of the following data
supplied by the Indian subsidiary company to its parent unit in USA by following methods. Historical rate method Current rate method Current/ non current method Monetary/non monetary Temporal the historical exchange rate is Rs40/US$ The current exchange rate is Rs46/US$
LIABILITIES Current liability Share capital Bonds Retained earnings
AMOUNT Rs.(mln)

a) b) c) d) e)

ASSETS Cash Marketable securities Debtors Inventory Land & building Plant & machinery Furniture & fixtures

AMOUNT Rs.(mln)

400 1000 600 400

100 100 200 300 600 800 300 2400

2400

items

Historical rate Method (Rs.40/usd)

Current rate method (Rs.46/USD)

Current/ non current method

Monetary/non monetary method

Temporal method

Assets: Cash Marketable securities Debtors Inventories Land& building Plant & machinery Furniture & fixtures

2.5 2.5 5 7.5 15 20 7.5

2.17 2.17 4.35 6.52 13.04 17.39 6.52

2.17 2.17 4.35 6.52 15 20 7.5

2.17 2.17 4.35 7.5 15 20 7.5

2.17 2.17 4.35 6.52 15 20 7.5

TOTAL LIABILITIES: Current liabilities Sh.capital Bond Retained earnings

60 10 25 15 10

52.16 8.6 21.74 13.04 8.78(difference)

57.71 8.6 25 15 9.11

58.69 8.6 21.74 13.04 15.31

57.71 8.6 21.74 13.04 14.33

Total liabilities Translation gain/loss

60 Nil

52.16 10-8.78=1.22 (translation loss)

57.71 10-9.11=0.89 (translation loss)

58.69 10-15.31=5.31 (translation gain)

57.71 1014.33=4.33(transl ation gain)