Question

4. Briefly describe the four primary types of transactions from which transaction exposure arises. Provide an example of each type.

Answer 1

4. The four major types of transactions from which transaction exposure arises is:

The transaction exposure is the fluctuations in the exchange rate on the transactions which are denominated in the foreign currency.

• Accounts payable that are denominated in the foreign currency. For example firm A located in India , has to pay $25,000 to Firm B , situated in the US, So, as the payment has to be made in US dollars. The firm A is exposed to transaction risk. Risk that if the Rupee depreciated , then the person has to pay more on the day the actual payments are to be made,
• An  accounts receivable denominated in foreign currency: If suppose Firm A situated in India , has to receive $25,000 from Firm B. If the Indian currency of the country appreciates, then Firm A is exposed to transaction exposure as the net dollars received upon conversion will be fewer.
• A financial liability that is a loan , which is denominated in the foreign currency. For example Firm A, borrows $45,000 from B as a loan. So, the payment for the loan and the EMI's are all subject to transaction exposure.
• Purchasing or selling goods on credit which are denominated in the foreign currency. For example, If firm A , situated in India, purchases goods on credit from Firm B for $60,000. On the day, the payment is to be made, the Firm A , will be subject to transaction exposure to the changes in the exchange rate.